<PAGE>
FILED PURSUANT TO RULE 424(b)(4)
REGISTRATION NO. 333-34481
10,000,000 SHARES
[LOGO OF FMAC]
COMMON STOCK
Of the 10,000,000 shares of Common Stock offered hereby (the "Offering"),
5,937,500 are being sold by Franchise Mortgage Acceptance Company, a Delaware
corporation (the "Company") and 4,062,500 are being sold by the Selling
Stockholders. The Company will not receive any of the proceeds from the sale
of shares by the Selling Stockholders. Prior to the Offering, there has been
no public market for the Common Stock. See "Underwriting" for a discussion of
factors to be considered in determining the initial public offering price.
The Company's Common Stock has been approved for quotation on the Nasdaq
National Market under the symbol "FMAX."
SEE "RISK FACTORS" COMMENCING ON PAGE 10 FOR A DISCUSSION OF CERTAIN FACTORS
THAT SHOULD BE CONSIDERED BY PROSPECTIVE PURCHASERS OF COMMON STOCK OFFERED
HEREBY. INVESTORS IN THIS OFFERING WILL INCUR IMMEDIATE AND SUBSTANTIAL
DILUTION OF $14.17 PER SHARE BASED ON THE INITIAL PUBLIC OFFERING PRICE OF
$18.00 PER SHARE. SEE "DILUTION."
----------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION
PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Price to Underwriting Proceeds to Proceeds to Selling
Public Discount(1) Company(2) Stockholders(2)
- -------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Per Share............ $18.00 $1.26 $16.74 $16.74
Total (3)............ $180,000,000 $12,600,000 $99,393,750 $68,006,250
</TABLE>
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
(1) See "Underwriting" for information relating to indemnification of the
Underwriters and other matters.
(2) Before deducting expenses estimated to be $750,000, of which $455,000 are
payable by the Company and $295,000 are payable by the Selling
Stockholders.
(3) The Company and the Selling Stockholders have granted the Underwriters a
30-day option to purchase up to 890,625 and 609,375 additional shares of
Common Stock, respectively, on the same terms and conditions as set forth
above, solely to cover over-allotments, if any. If such option is
exercised in full, the total Price to Public will be $207,000,000,
Underwriting Discount will be $14,490,000, Proceeds to Company will be
$114,302,813 and Proceeds to Selling Stockholders will be $78,207,187. See
"Underwriting."
The shares of Common Stock are offered by the Underwriters named herein,
subject to receipt and acceptance by them and subject to their right to reject
any order in whole or in part. It is expected that delivery of the
certificates representing such shares will be made against payment therefor at
the offices of NationsBanc Montgomery Securities, Inc. on or about November
24, 1997.
-----------
NationsBanc Montgomery Securities, Inc. Credit Suisse First Boston
PaineWebber Incoporated
The date of this Prospectus is November 18, 1997
<PAGE>
AVAILABLE INFORMATION
The Company is subject to the reporting requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"), and in accordance
therewith, files reports and other information with the Securities and
Exchange Commission (the "Commission"). Such reports, proxy statements and
other information filed by the Company can be inspected and copied at the
public reference facilities maintained by the Commission at the offices of the
Commission at Room 1024, Judiciary Plaza, 450 Fifth Street, N.W., Washington,
D.C. 20549, and at the Commission's regional offices at Northwestern Atrium
Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661-2511 and
7 World Trade Center, New York, New York 10048. Copies of such materials can
also be obtained by written request to the Public Reference Section of the
Commission at Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549,
at prescribed rates.
The Company has filed a Registration Statement under the Securities Act with
the Commission with respect to the Common Stock offered hereby. This
Prospectus, which constitutes part of the Registration Statement, omits
certain of the information contained in the Registration Statement and the
exhibits thereto on file with the Commission pursuant to the Securities Act
and the rules and regulations of the Commission. Statements contained in this
Prospectus such as the contents of any contract or other document referred to
are not necessarily complete and in each instance reference is made to the
copy of such contract or other document filed as an exhibit to the
Registration Statement, each such statement being qualified in all respects by
such reference. A copy of the Registration Statement, including the exhibits
thereto, may be inspected without charge at the Commission's principal office
at 450 Fifth Street, N.W., Judiciary Plaza, Washington, D.C. 20549, and copies
of all or any part thereof may be obtained from the Commission upon the
payment of certain fees prescribed by the Commission. The Commission also
maintains a World Wide Web site that contains reports, proxy and information
statements and other information regarding registrants, such as the Company,
that file electronically with the Commission. The address of the site is
http:/ / www.sec.gov.
----------------
The Company intends to furnish its stockholders with annual reports
containing financial statements audited by an independent accounting firm and
quarterly reports containing unaudited financial information for the first
three quarters of each fiscal year.
----------------
CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK,
INCLUDING PURCHASES OF THE COMMON STOCK TO STABILIZE ITS MARKET PRICE,
PURCHASES OF THE COMMON STOCK TO COVER SOME OR ALL OF A SHORT POSITION IN THE
COMMON STOCK MAINTAINED BY THE UNDERWRITERS AND THE IMPOSITION OF PENALTY
BIDS. FOR A DESCRIPTION OF THESE ACTIVITIES, SEE "UNDERWRITING."
2
<PAGE>
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by, and should be read in
conjunction with, the more detailed information and Financial Statements,
including the Notes thereto, appearing elsewhere in this Prospectus. Except as
otherwise specified, all information in this Prospectus (i) assumes no exercise
of the Underwriters' over-allotment option (see "Underwriting"), (ii) regarding
outstanding shares, excludes shares of Common Stock reserved for issuance under
the Company's 1997 Stock Option, Deferred Stock and Restricted Stock Plan (the
"Stock Option Plan") and (iii) assumes the reorganization of the Company as a
Delaware corporation immediately prior to the closing of this Offering (see
"The Reorganization"). Unless the context indicates otherwise, all references
herein to the Company refer to Franchise Mortgage Acceptance Company and its
predecessor entities, including Franchise Mortgage Acceptance Company LLC, a
California limited liability company ("Franchise Mortgage LLC"). This
Prospectus contains forward-looking statements which involve risks and
uncertainties. The Company's actual results could differ materially from those
anticipated in these forward-looking statements as a result of certain factors,
including those set forth under "Risk Factors" and elsewhere in this
Prospectus.
THE COMPANY
The Company is a specialty commercial finance company engaged in the business
of originating and servicing loans and equipment leases to small businesses,
with a primary focus on established national and regional franchise concepts.
Since commencing business in 1991, the Company believes it has become a leading
lender to national and regional quick service restaurant ("QSR") franchisees,
and the Company has developed a growing presence in the casual dining sector.
More recently, the Company has expanded its focus to include retail energy
licensees (service stations, convenience stores, truck stops, car washes and
quick lube businesses) and golf operating businesses (golf courses and golf
practice facilities). The Company originates long-term fixed and variable rate
loan and lease products and sells such loans and leases either through
securitizations or whole loan sales to institutional purchasers on a servicing
retained basis. The Company believes that its loan and lease products are
attractive investments to institutional investors because of the credit profile
of its Borrowers (as defined herein), relatively long loan and lease terms,
call protection through prepayment penalties and appropriate risk-adjusted
yields. The Company also periodically makes equity investments or receives
contingent equity compensation as part of its core lending and leasing
business. The Company originated loans and leases through 11 marketing offices
in nine states at June 30, 1997. From the Company's inception through June 30,
1997, it funded over $1.2 billion in loans and leases and at June 30, 1997, had
a servicing portfolio of $1.1 billion. The Company's loan and lease
originations grew to $458.5 million in 1996 from $218.7 million in 1995 and to
$300.6 million for the six month period ended June 30, 1997 from $208.4 million
for the comparable period in 1996. At June 30, 1997, the Company's average
initial loan balance was $730,000 and the percentage of its loans and leases
that were 90 days or more delinquent was 0.1%.
The Company's focus is to provide funding to industries that have been
historically underserved by banks and other traditional sources of financing.
This focus requires the Company to develop specific industry expertise in the
sectors which it serves in order to provide individualized financial solutions
for its Borrowers. The Company believes that its industry expertise and
proprietary databases, combined with its responsiveness to Borrowers,
flexibility in structuring transactions and broad product offerings give it a
competitive advantage over more traditional, highly regulated small business
lenders. The Company's Borrowers are generally small business operators, most
of whom are independent, multi-unit franchisees, with proven operating
experience and a history of generating positive operating cash flows. The
Company relies primarily upon its assessment of enterprise value, based in part
on independent third party valuations, and historical operating cash flows to
make credit determinations, as opposed to relying solely on the value of real
estate and other collateral.
3
<PAGE>
In 1991, the Company began making loans to franchisees of Taco Bell Corp. In
1992 and 1993, other national QSR concepts, such as Burger King, Wendy's, Pizza
Hut, KFC and Hardee's, were approved. The Company's principal loan products at
that time were fixed rate, 15-year, fully amortizing loans. In 1995, the
Company began making loans to casual dining concepts such as TGI Friday's,
Applebee's and Denny's and offering its Borrowers adjustable rate loans. Also
in 1995, the Company began offering development and construction ("DEVCO")
loans to its more experienced Borrowers to fund the development and
construction or acquisition of new business units or the conversion of existing
business units into a different franchise concept. In 1996, the Company
expanded its approved concepts to include strong regional restaurants such as
Carl's, Jr., Church's Chicken and Golden Corral and launched its Golf Finance
Group to provide financing to owners and operators of golf courses and golf
practice facilities. The Equipment Finance Group also commenced activities in
1996 to provide equipment loans and leases to the sectors which the Company
serves. In February 1997, the Company created its Retail Energy Finance Group
to make loans to businesses that distribute retail petroleum products.
The Company's goal is to become a leading national small business lender in
each of its target markets. The Company's growth and operating strategy is
based on the following key elements:
Growth in Existing Sectors. The Company plans to replicate its success in the
restaurant sector in other business sectors that it has entered more recently,
such as retail energy and golf, through focused product development, customer
service and support. The Company forms specialized teams for each sector to
assess customer needs, generate customer loyalty and enhance service and
support. Management believes that its industry leadership position,
relationships with major Borrowers, franchisors and vendors, and expertise
within sectors will assist the Company in increasing its market share.
Controlled Expansion into New Sectors. Management believes that substantial
opportunities exist to extend the Company's expertise into other business
sectors. The Company believes that its experience in lending to restaurant
franchisees has allowed it to develop a template for efficiently originating
and servicing loans and leases in other industry sectors. The Company's
philosophy is to provide complete business solutions to identified industries
by developing strategies and financial products which are based on industry
characteristics and each Borrower's specific needs. The Company carefully
reviews industry data, seeking business sectors with a combination of large
funding requirements, proven cash flow generating capabilities, standardized
operations, a scarcity of long-term funding sources and characteristics
attractive to secondary market investors.
Maintenance of Credit Quality. The Company's delinquency and loss experience
has been extremely low, due in part to lending to experienced operators, its
detailed industry knowledge, active oversight of its existing servicing
portfolio, strict underwriting criteria and the Company's ability to locate
qualified replacement Franchisees/Borrowers to assume delinquent loans. At June
30, 1997, the Company had only two loans, representing 0.1% of all loans and
leases held in the Company's servicing portfolio as of such date, 90 days or
more delinquent and, from its inception in April 1991 through June 30, 1997 had
experienced no net charge offs.
Efficient Secondary Market Execution. The Company is committed to maintaining
effective secondary market execution on loans and leases that it originates and
sells. The Company believes that the favorable execution it has experienced to
date is primarily the result of the attractive terms and the credit quality of
the loans and leases that it originates. Of the $37.5 million in gain on sale
from securitizations recognized by the Company since January 1, 1996, $30.3
million was comprised of cash received by the Company at the time of
securitization and not the present value of anticipated cash flows on retained
interests. As a result, the Company has reduced its exposure to the risks
associated with holding large amounts of such retained interests on its balance
sheet. From the beginning of 1996 through June 30, 1997, the Company completed
three securitizations and a whole loan sale totaling $483.6 million and $15.3
million, respectively. In all such transactions, the Company has retained the
right to service the sold or securitized loans.
4
<PAGE>
Diversification of Revenue Sources. Management is committed to developing a
diversified revenue base to reduce revenue volatility and enhance
profitability. The Company continually monitors and adjusts its loan and lease
products and securitization structures to improve the stability of its cash
flows. Revenue sources include loan and lease origination points and fees,
interest income earned prior to the sale of the loans and leases, whole loan
and lease sale profits, securitization profits, loan and lease servicing fees
and equity investment returns.
Prior to this Offering, the business of the Company has been conducted by
Franchise Mortgage LLC. Immediately prior to this Offering, Franchise Mortgage
LLC will merge into Franchise Mortgage Acceptance Company, a Delaware
corporation, which was incorporated in August 1997 for the purpose of
succeeding to the business of Franchise Mortgage LLC. Prior to this Offering,
66.7% of the membership interest in Franchise Mortgage LLC was owned by
Imperial Credit Industries, Inc. ("ICII") and 33.3% was owned by FLRT, Inc., a
California corporation controlled by Wayne L. Knyal, the Company's President
and Chief Executive Officer. See "The Reorganization."
The Company has experienced substantial growth in loan and lease originations
and total revenues since inception, and in particular since June 1995 when ICII
acquired the operations of Franchise Mortgage LLC from Greenwich Capital
Financial Products, Inc. ("Greenwich"). There can be no assurance that these
rates of growth will be sustainable or indicative of future results. The
Company incurred a net loss of $659,000 for the six months ended December 31,
1995, and its predecessor incurred net losses of $1.9 million, $728,000, $3.9
million and $157,000 for the six months ended June 30, 1995 and the years ended
December 31, 1994, 1993, and 1992, respectively. Although the Company has been
profitable for the six months ended June 30, 1997 and the year ended December
31, 1996, there can be no assurance that the Company will be profitable in the
future. Prior to June 1995, the Company benefitted from the financial,
administrative and other resources of Greenwich. From its acquisition from
Greenwich in June 1995 through this Offering, the Company benefited from the
financial, administrative and other resources of ICII. Prior to this Offering,
ICII had extended loans to the Company and guaranteed the Company's warehouse
lines of credit, repurchase facilities and leases. ICII does not intend to
guarantee any of the Company's future financing facilities or leases nor does
it currently expect to extend loans to the Company. Accordingly, the Company's
prospects must be evaluated in light of the risks, expenses and difficulties it
will encounter as an independent company. Although the Company will enter into
a services agreement with ICII upon the effective date of this Offering under
which ICII will provide human resource administration, securitization
capability and certain accounting functions to the Company, there can be no
assurance that the Company will develop the financial, management or other
resources necessary to operate successfully as an independent company. See
"Certain Transactions--Arrangements with ICII and its Affiliates."
The Company's administrative offices are located at 2049 Century Park East,
Suite 350, Los Angeles, California 90067, and its telephone number is (310)
229-2600.
5
<PAGE>
RECENT DEVELOPMENTS
The following table summarizes the Company's loan and lease origination and
financial information for the nine months ended September 30, 1997 and 1996.
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30,
-------------------------------
1997 1996
--------------- ---------------
(IN THOUSANDS)
<S> <C> <C>
Loan originations:
Total loan originations..................... $484,283 $305,554
Average initial principal balance per loan.. $ 737 $ 770
Weighted average interest rate:
Fixed rate loans............................ 10.40% 10.31%
Variable rate loans......................... 9.65% 9.44%
Equipment finance originations:
Total equipment finance originations........ $ 26,538 $ 538
Average initial principal balance per
financing.................................. $ 204 $ 135
Total loan and lease originations............ $510,821 $306,092
Lending sector originations:
Restaurant loans............................ $378,468 $302,354
Retail energy loans......................... 94,365 --
Golf loans.................................. 11,450 3,200
Equipment finance........................... 26,538 538
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30,
-------------------------------
1997 1996
FINANCIAL INFORMATION: --------------- ---------------
(IN THOUSANDS)
<S> <C> <C>
Gain on sale of loans........................ $40,497 $14,209
Total revenues............................... 45,298 15,562
Total expenses............................... 16,633 8,566
Net income................................... 28,665 6,996
Pro forma net income(1)...................... 16,626 4,058
</TABLE>
- --------
(1) From July 1, 1995 through the date of the Offering, the Company qualified
to be treated as a partnership for federal and state income tax purposes.
Pro forma net income reflects the Reorganization and the income tax expense
that would have been recorded had the Company not been taxed as a
partnership.
The Company originated loans and leases through 14 marketing offices in 12
states at September 30, 1997. From the Company's inception through September
30, 1997, the Company funded approximately $1.4 billion in loans and leases.
Loan and lease originations increased to $510.8 million for the nine months
ended September 30, 1997, as compared to $306.1 million for the same period of
the prior year. The increase was primarily attributable to an increase in
originations in the Restaurant Finance Group as well as originations by the
newly formed Retail Energy Finance Group and the Golf Finance Group. At
September 30, 1997, the Company's average initial loan balance was $737,000.
At September 30, 1997, the Company had a servicing portfolio of $1.2 billion,
and the percentage of its loans and leases that were 90 days or more delinquent
was 0.7%. From its inception in April 1991 through September 30, 1997, the
Company had experienced no net charge offs.
Net income for the third quarter of 1997 was $14.7 million, bringing net
income for the nine months ended September 30, 1997 to $28.7 million, as
compared to net income of $7.0 million for the nine months ended September 30,
1996. Total revenues increased 191.1% to $45.3 million for the nine months
ended September 30, 1997 from $15.6 million for the comparable period in 1996.
The increases in revenues and net income were primarily due to an increase in
gain on sale of loans. During the nine months ended September 30, 1997, the
Company sold $343.7 million in two securitizations for a gain on sale of
$38.8 million (of which $38.1 million
6
<PAGE>
was cash), as compared to $272.6 million sold in two securitizations for a gain
on sale of $12.5 million (of which $5.8 million was cash) for the nine months
ended September 30, 1996. The gain on sale of loans includes $1.7 million in
the nine months ended September 30, 1997 from three whole loan sales of
approximately $28.1 million. From the Company's inception through September 30,
1997, it completed nine securitizations of pooled loans totaling approximately
$1.0 billion.
Total expenses increased 94.2% to $16.6 million for the nine months ended
September 30, 1997 as compared to $8.6 million for the same period of the prior
year primarily due to infrastructure additions needed to fund increased loan
and lease originations.
In October 1997, the Company finalized a warehouse line of credit with Morgan
Stanley Asset Funding Inc. ("Morgan Stanley") for a commitment amount of $200
million, bearing interest at rates ranging from the London interbank offered
rate ("Libor") plus 95 to 155 basis points, depending upon the loan product
type. This warehouse line of credit is expected to provide additional financing
for the Company's continued growth in loan and lease originations and is not
guaranteed by ICII.
The Company is currently negotiating with a major investment bank to form a
joint venture pursuant to which all loan and lease activities of the Company's
Golf Finance Group would be exclusively conducted by a new entity which would
be 50% owned and managed by each of the Company and the investment bank. In
connection therewith, the investment bank would make available to the new
entity a 12 month $100.0 million warehouse line of credit bearing interest at
Libor plus 100 basis points. The parties could by mutual agreement utilize the
joint venture, if formed, to exclusively originate other types of loans and
leases, which may include loans and leases in the Company's existing sectors or
in new sectors. Any income distributed by the new entity would be shared
equally by the Company and the investment bank.
THE OFFERING
<TABLE>
<S> <C>
Common Stock offered hereby:
By the Company....................... 5,937,500 shares
By the Selling Stockholders.......... 4,062,500 shares
Common Stock to be outstanding after
the Offering(1)....................... 27,825,000 shares
Use of Proceeds........................ The net proceeds will be used to repay
certain indebtedness to ICII, to fund
future loan and lease originations and
equity investments and for general
corporate purposes.
Nasdaq National Market Symbol.......... "FMAX"
</TABLE>
- --------
(1) Excludes shares of Common Stock reserved for issuance pursuant to the
Company's Stock Option Plan. The Stock Option Plan authorizes the grant of
options to purchase, and awards of, an aggregate of up to 10% of the shares
of the Company's Common Stock to be outstanding after this Offering,
including any shares issued pursuant to the Underwriters' over-allotment
option, but not less than 2,700,000 shares. Options to acquire 1,209,400
shares are expected to be granted to certain employees, officers and
directors of the Company on the effective date of the Offering at an
exercise price equal to the initial public offering price. See
"Management--Stock Options."
RISK FACTORS
See "Risk Factors" for a description of certain factors which should be
carefully considered before making an investment in the Company.
7
<PAGE>
SUMMARY FINANCIAL AND OTHER DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA AND RATIOS)
<TABLE>
<CAPTION>
PREDECESSOR
-----------------------------------
SIX MONTHS ENDED SIX MONTHS SIX MONTHS YEAR ENDED
JUNE 30, YEAR ENDED ENDED ENDED DECEMBER 31,
-------------------- DECEMBER 31, DECEMBER 31, JUNE 30, ------------------------
1997 1996 1996 1995 1995 1994 1993 1992
----------- -------- ------------ ------------ ---------- -------- ------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS
DATA:
Revenues:
Gain on sale(1)......... $ 19,808 $ 12,520 $ 18,671 $ -- $ -- $ 4,052 $ 1,430 $ --
Net interest income..... 1,373 302 1,641 239 154 37 35 2
Loan servicing income... 1,376 649 1,191 349 326 306 345 147
Other income............ -- 63 63 -- -- 68 -- --
-------- -------- -------- ------- -------- -------- ------- -----
Total revenues.......... 22,557 13,534 21,566 588 480 4,463 1,810 149
Expenses:
Personnel and
commission............. 4,665 3,901 8,270 356 931 1,723 1,035 --
General and
administrative......... 1,467 495 1,094 294 684 1,804 2,952 306
Other................... 2,462 1,375 2,878 597 776 1,664 1,718 --
-------- -------- -------- ------- -------- -------- ------- -----
Total expenses.......... 8,594 5,771 12,242 1,247 2,391 5,191 5,705 306
-------- -------- -------- ------- -------- -------- ------- -----
Net income (loss)....... $ 13,963 $ 7,763 $ 9,324 $ (659) $ (1,911) $ (728) $(3,895) $(157)
======== ======== ======== ======= ======== ======== ======= =====
Pro forma earnings data
(2):
Net income as
reported.............. $ 13,963 $ 7,763 $ 9,324
Pro forma income
taxes................. 5,935 3,366 3,873
-------- -------- --------
Pro forma net income... $ 8,028 $ 4,397 $ 5,451
======== ======== ========
Pro forma net income
per share(3).......... $ 0.37 $ 0.20 $ 0.25
======== ======== ========
Supplemental pro forma
earnings data(2):
Net income as
reported.............. $ 13,963
Establishment of
deferred
tax liability......... 7,018
--------
Supplemental pro forma
net income............ $ 6,945
========
Supplemental pro forma
net income per
share(3).............. $ 0.32
========
<CAPTION>
AS OF JUNE 30, 1997 AS OF DECEMBER 31,
--------------------------------- ------------------------------------------------
PREDECESSOR
------------------------
AS PRO
ADJUSTED(4) FORMA(5) ACTUAL 1996 1995 1994 1993 1992
----------- -------- ------------ ------------ ---------- -------- ------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash
equivalents............ $ 85,957 $ 15 $ 15 $ -- $ -- $ 102 $ 205 $ 1
Securities available for
sale................... 2,581 2,581 2,581 39,349 -- 9,541 5,025 --
Loans and leases held
for sale............... 208,014 208,014 208,014 98,915 181,254 -- -- --
Retained interest in
loan
securitizations(6)..... 7,002 7,002 7,002 6,908 -- -- -- --
Accrued interest
receivable............. 1,137 1,137 1,137 560 1,108 138 39 --
Goodwill................ 4,571 4,571 4,571 4,332 4,226 -- -- --
Other assets............ 9,636 9,636 9,636 10,112 2,460 467 862 309
-------- -------- -------- ------- -------- -------- ------- -----
Total assets........... 318,898 232,956 232,956 160,176 189,048 10,248 6,131 310
Overdraft............... -- -- -- 171 445 -- -- --
Payable to ICII......... -- 12,997 9,997 17,728 -- -- -- --
Borrowings.............. 195,922 195,922 195,922 125,240 181,632 13,548 7,160 460
Deferred income taxes... 7,018 7,018 -- -- -- -- -- --
Other liabilities....... 4,939 4,939 4,939 2,580 3,198 1,543 3,086 70
-------- -------- -------- ------- -------- -------- ------- -----
Total liabilities...... 207,879 220,876 210,858 145,719 185,275 15,091 10,246 530
Members' equity......... -- -- $ 22,098 $14,457 $ 3,773 $(4,843) $(4,115) $(220)
======== ======= ======== ======== ======= =====
Common stock............ 28 22
Additional paid in
capital................ 110,991 12,058
-------- --------
Total stockholders'
equity................ $111,019 $ 12,080
======== ========
</TABLE>
8
<PAGE>
<TABLE>
<CAPTION>
SIX MONTHS
ENDED YEAR ENDED DECEMBER 31,
JUNE 30, ----------------------------------------------
1997 1996 1995 1994 1993 1992
---------- -------- -------- -------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
OPERATING STATISTICS:
Loan originations:
Total loan
originations.......... $ 285,370 $456,981 $218,742 $109,166 $29,367 $26,101
Average initial
principal balance per
loan.................. $ 730 $ 837 $ 706 $ 635 $ 452 $ 458
Weighted average
interest rate:
Fixed rate loans....... 10.70% 10.29% 10.12% 10.21% 9.48% 10.94%
Variable rate loans.... 9.60% 9.34% 8.40% 8.13% -- % -- %
Equipment finance
originations:
Total equipment finance
originations.......... $ 15,247 $ 1,486 $ -- $ -- $ -- $ --
Average initial
principal balance per
financing............. $ 186 $ 149 $ -- $ -- $ -- $ --
Weighted average
interest rate......... 12.08% 12.14% -- % -- % -- % -- %
Total loan and lease
originations........... $ 300,617 $458,467 $218,742 $109,166 $29,367 $26,101
Loan sales:
Whole loan sales....... $ 15,349 $ -- $ -- $ -- $ -- $ --
Loans sold through
securitizations(1).... 158,554 325,088 147,972 105,686 28,973 --
---------- -------- -------- -------- ------- -------
Total................. $ 173,903 $325,088 $147,972 $105,686 $28,973 $ --
Loans and leases held in
servicing portfolio
(at period end)(7)..... $1,049,843 $737,176 $358,579 $180,367 $81,030 $55,164
Net charge offs as a
percentage of total
servicing portfolio.... -- % -- % -- % -- % -- % -- %
</TABLE>
- --------
(1) Gain on sale for the six months ended June 30, 1997 and 1996 and the year
ended December 31, 1996 includes $18.4 million, $5.8 million and $11.9
million of cash gains, of which $2.4 million, $3.6 million and $7.8
million, respectively, represented loan fees. The gain on sale of loans for
the December 1995 securitization was not recognized until the first quarter
of 1996.
(2) From July 1, 1995 through the closing date of the Offering, the Company
qualified to be treated as a partnership for federal and state income tax
purposes (the "LLC Qualification"). Pro forma earnings data reflect the
Reorganization and the income tax expense that would have been recorded had
the Company not been taxed as a partnership. As a result of terminating the
Company's limited liability company ("LLC") status upon completion of this
Offering, the Company will be required to record a one-time non-cash charge
against historical earnings for deferred income taxes. This charge will
occur in the quarter ending December 31, 1997 and the year ending December
31, 1997. If this charge were recorded at September 30, 1997, the amount
would have been approximately $11.1 million. This amount is expected to
increase through the closing date of this Offering. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
and Notes 3, 4 and 14 of Notes to Financial Statements.
(3) 21,887,500 outstanding shares were used in computing pro forma and
supplemental pro forma net income per share. See Note 3 of Notes to
Financial Statements.
(4) As adjusted to reflect the sale of the shares of Common Stock by the
Company in this Offering at the initial public offering price of $18.00 per
share and the application of the estimated net proceeds therefrom. See "Use
of Proceeds" and "Capitalization."
(5) Pro forma balance sheet data reflects the Reorganization, the distribution
by Franchise Mortgage LLC to its members of the Final LLC Distribution of
$3.0 million (this amount may increase depending on the level of Franchise
Mortgage LLC's taxable income immediately prior to the completion of this
Offering) immediately prior to the completion of this Offering, such amount
to be funded with a short term loan from ICII repayable with a portion of
the net proceeds of this Offering (the "Final LLC Distribution"), the
recording by the Company of deferred income taxes (see footnote (2) above),
and the reclassification of members' equity to additional paid-in capital
in connection therewith. See "LLC Distributions," "Use of Proceeds" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
(6) See Note 8 of Notes to Financial Statements.
(7) Total delinquencies, which include all loans and leases 90 or more days
past due as a percentage of all loans and leases held in the Company's
servicing portfolio, was 0.11% as of June 30, 1997.
9
<PAGE>
RISK FACTORS
Before investing in the shares offered hereby, prospective investors should
give special consideration to the following risk factors in addition to other
information set forth elsewhere in this Prospectus. The following risk factors
are interrelated, and consequently, investors should treat such risk factors
as a whole.
This Prospectus contains forward-looking statements that inherently involve
risks and uncertainties. The Company's actual results could differ materially
from those anticipated in these forward-looking statements as a result of
certain factors, including those set forth in the following risk factors and
elsewhere in this Prospectus.
SUBSTANTIAL NEED FOR LIQUIDITY TO FUND LENDING ACTIVITIES
The Company has an ongoing need to finance its lending activities, which is
expected to increase to the extent that the volume of loan and lease
originations increases. The Company's primary operating cash requirements will
include the funding of (i) loans and leases pending their sale, (ii) fees and
expenses incurred in connection with its securitization program, (iii)
overcollateralization or reserve account requirements in connection with loans
pooled and securitized, (iv) interest, fees and expenses associated with the
Company's warehouse lines of credit and repurchase facilities with certain
financial institutions, (v) federal and state income tax payments and (vi)
ongoing administrative and other operating expenses. The Company currently
funds these cash requirements primarily through securitizations, whole loan
and lease sales and borrowings from Banco Santander, Sanwa Bank, Morgan
Stanley and Credit Suisse First Boston.
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 borrowings will be available on acceptable terms to
satisfy the Company's cash requirements. The Company's inability to access the
capital markets or obtain acceptable financing could have a material adverse
effect on the Company's business and results of operations. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations--
Liquidity and Capital Resources."
SUBSTANTIAL DEPENDANCE ON SECURITIZATIONS
The Company currently pools and sells through securitization substantially
all of the loans which it originates. Under the Company's current
securitization structure, the Company sells a pool of loans on a non-recourse
basis to a single purpose trust. The trust issues securities in the form of
certificates which are denominated in multiple tranches throughout the credit
rating spectrum from the highest investment grade rating of "AAA" descending
to a non-investment grade rating of "B." In addition, the Company structures
an interest only security ("I/O") in its financings that is generally rated
AAA. Several factors affect the Company's ability to complete securitizations
of its loans, including conditions in the securities markets generally,
conditions in the asset-backed securities markets specifically, the credit
quality of the Company's loans, compliance of the Company's loans with the
eligibility requirements established by the securitization documents, the
Company's ability to adequately service its loans and the absence of any
material downgrading or withdrawal of ratings given to certificates issued in
the Company's previous securitizations. Adverse changes in any of these
factors would impair the Company's ability to originate and sell loans on a
favorable or timely basis which could have a material adverse effect upon the
Company's business and results of operations. In addition, the securitization
market for the Company's loans and leases is relatively undeveloped and may be
more susceptible to market fluctuations or other adverse changes than more
developed capital markets. To the extent the Company makes loans and leases in
new industry sectors or to different types of entities in existing industry
sectors, there is a risk that such loans and leases will not be securitizable
or will be securitizable only on terms disadvantageous to the Company.
The "gain on sale" associated with securitizations and loan and lease sales
is the largest component of the Company's revenues. The gain on sale of loans
in a securitization is computed as cash received from securitization plus the
fair value of any retained interests held from a loan securitization less the
book value of the loans sold (including par value of loans, plus or minus
premiums, discounts and unearned loan fees) less any reserves required to be
held by a securitization trust. The fair value of retained interests in loan
securitizations is computed as the present value of the estimated cash flows
associated with the retained interest, using an
10
<PAGE>
appropriate discount factor and prepayment and credit loss assumptions. Of the
$37.5 million gain on sale from securitizations recognized by the Company
since January 1, 1996, $30.3 million was comprised of cash received by the
Company at the time of securitization and not the present value of anticipated
cash flow on retained interests. However, depending upon the securitization
structure and execution of the transaction, in future transactions the Company
may not receive some or all of the cash representing such gain until much
later, as payments are received on the securitized assets, or may never
receive some or all of such cash. In connection with securitizations, the
Company also establishes retained interests in loan securitizations as a
balance sheet asset, which are amortized over the estimated life of the loans
securitized. While, to date, the Company's retained interest in loan
securitization has been relatively small, it could become much larger in
future periods. As a result, although an accounting gain may be recognized,
future securitization transactions may not generate commensurate cash flows to
the Company for an extended period. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations--Accounting for Gain on Sale"
and "--Liquidity and Capital Resources."
The anticipated payments to the Company on its retained interest in loan
securitizations are discounted at a specified rate and further reduced by the
Company's estimate of future credit losses and prepayments over the lives of
the loans securitized. Such amounts, if any, are held back and serve as
additional collateral for the repayment of the related certificates. To date,
the default rate used by the Company has been zero because the Company has
incurred no credit losses. Generally, the Company has used a zero prepayment
rate because prepayment penalties contained in loan documents have deterred
Borrower prepayments significantly. If prevailing interest rates rise, the
required discount rate might also rise, thereby causing the Company to record
an expense reducing the Company's gain on sale and the carrying value of
retained interests in loan securitizations. The actual rate of credit losses
and prepayments are influenced by a variety of economic and other factors,
including general economic conditions and business competition. Accordingly,
there can be no assurance that the actual rate of credit losses on the loans
sold in the Company's securitizations will not exceed the Company's estimates
or historical experience. If actual credit losses and prepayments exceed the
Company's estimates, this would cause the Company to record an expense in a
future period or periods reducing the carrying value of retained interests in
loan securitizations. There can be no assurance that future changes in the
Company's securitization structures, interest rates or future credit loss and
prepayment levels will not result in losses which could have a material
adverse effect on the Company's business and results of operations. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources."
In order to gain access to the secondary market for its loans, in parallel
with the accumulation of the collateral and the structuring of the securities
sold in each securitization, independent rating agencies are retained to rate
each series of securities issued. To date one or more classes of each of these
series of securities has received investment grade ratings (BBB and above).
The Company's inability to obtain such an investment grade rating could have a
material adverse effect on the Company's operations and financial position; in
such event the Company's costs of such securitization likely would increase
and its gain on sale recognized on such securitization would be reduced. The
Company has periodically relied on credit enhancements provided by monoline
insurance carriers to guarantee the securities issued by the trust to enable
it to improve the bond rating. Any substantial reduction in the size or
availability of the securitization market for the Company's loans or the
unwillingness of insurance companies to guarantee the certificates issued by
the trust, could have a material adverse effect on the Company's business and
results of operations and prospects.
In addition, the documents governing the Company's securitizations also
require the Company to build overcollateralization levels through retention of
a specified amount of loan payments and the application thereof to reduce the
principal balances of the notes issued or to create reserve funds. Such
overcollateralization levels are pre-determined by the rating agencies or the
insurance company issuing the guarantee of the certificates and are a
condition to obtaining an investment grade rating thereon. The application of
such amounts to collateral causes the aggregate principal amount of the loans
to exceed the aggregate principal balance of certificates. Such excess amounts
serve as a credit enhancement for the trust issuing the certificates or notes
and fund losses realized on loans held by such trust. Accordingly, the Company
continues to be subject to risks of delinquencies and charge-offs following
the sale of loans through securitizations to the extent such amounts are
required to be retained or applied by the trust. In addition, such retention
slows, and in some circumstances, reduces over the
11
<PAGE>
life of the related securitization, the flow of cash to the Company. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources."
The Company is the originator and servicer of the loans that it securitizes.
However, legal and beneficial ownership of securitized loans is held by the
issuing trust and such loans serve as collateral for the certificates issued
by the trust. The assets of the trust are not available to pay creditors of
the Company. The Company's ongoing interest in such assets is limited to its
participation in retained interests and servicing fees.
The Company endeavors to execute material securitization transactions on not
less than a quarterly basis. Market and other considerations, including the
conformity of loan pools to the requirements of rating agencies, affect the
timing of such transactions and may cause the Company's results of operations
to fluctuate accordingly. Any delay in the sale of a loan pool beyond a
quarter-end would postpone the recognition of gain related to such loans until
their sale and may result in losses for such quarter being reported by the
Company.
In addition, the Company's securitization transactions currently permit it
to defer paying taxes on a majority of the amount it records as gain on sale
in securitization of loans. Taxes are deferred at the time the Company records
gain on sale in securitization of loans, and are paid as cash is received from
Borrowers. To the extent that the Company is unable to defer such taxes in
future securitization transactions or is required by the Internal Revenue
Service to accelerate the payment of taxes which previously had been deferred,
the Company's liquidity, and thus its ability to pursue its growth strategy
and to fund its future loan origination and securitization activities, may be
adversely affected.
SIGNIFICANT RELIANCE ON WAREHOUSE LINES OF CREDIT AND REPURCHASE FACILITIES
The Company is dependent upon its ability to access warehouse lines of
credit and repurchase facilities to fund new originations. The Company had
warehouse lines of credit and repurchase facilities of approximately $365.0
million at June 30, 1997. The Company expects to be able to maintain existing
warehouse lines of credit and repurchase facilities (or to obtain replacement
or additional financing) as current arrangements expire or become fully
utilized; however, there can be no assurance that such financing will be
obtainable on favorable terms. To the extent that the Company is unable to
arrange new warehouse lines of credit and repurchase facilities, the Company
may have to curtail its loan and lease origination activities, which could
have a material adverse effect on the Company's operations and financial
position. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Liquidity and Capital Resources."
SUBSTANTIAL LEVERAGE CAN REDUCE NET INCOME AND CAUSE LOSSES
The Company's Certificate of Incorporation and Bylaws do not limit the
amount of indebtedness the Company can incur. The Company leverages its assets
through securitizations and other borrowings, generally through the use of
warehouse lines of credit and reverse repurchase facilities. The percentage of
leverage used varies depending on, among other things, the Company's estimate
of the cash flow that its assets will generate, and the stability of that cash
flow. There can be no assurance that the Company will be able to continue to
meet its debt service obligations resulting from leverage and, to the extent
that it cannot, the Company risks the loss of some or all of its assets.
CERTAIN UNDERWRITING REQUIREMENTS AND RISKS MAY ADVERSELY AFFECT CREDIT
QUALITY
RISKS ASSOCIATED WITH LOANS TO BORROWERS OPERATING SMALL AND MEDIUM SIZED
BUSINESSes. Loans to franchisees ("Franchisees"), licensees of petroleum
retailers and convenience store, truck stop, car wash and quick lube
businesses ("Licensees") and owners and operators of golf courses and golf
facilities ("Operators") (for purposes of this Prospectus, any Franchisee,
Licensee, or Operator is referred to as a "Borrower") generally involve all of
the risks associated with small business loans. Since small businesses are
typically privately-owned, there is generally no publicly available
information about such companies and the Company must rely on the diligence of
its employees and agents to obtain information in connection with the
Company's lending
12
<PAGE>
decisions. Typically, the success of small and medium sized businesses depends
on the management talents and efforts of one or two persons or a small group
of persons, and the death, disability or resignation of one or more of these
persons could have a material adverse impact on the related company. In
addition, small and medium sized businesses frequently have smaller market
shares than their competition, may be more vulnerable to economic downturns,
often need substantial additional capital to expand or compete and may
experience substantial variations in operating results, any of which may have
an adverse effect on a Borrower's ability to repay a loan or lease. While
publicly available information permits the Company to perform certain risk
analysis concerning the default, failure, and closure risks within industries
and among Borrower groups, generally there is no assurance that the available
information correctly reflects the risks associated with lending to Borrowers
in each industry in general or to any particular Borrower within any
particular industry. Moreover, there is no assurance that the underwriting
formulas derived by the Company for Franchisees, Licensees and Operators
generally or for particular business concepts will adequately assess the risk
of making a loan to any particular Borrower.
THE COMPANY'S VALUATION OF A BORROWER'S BUSINESS MAY NOT BE INDICATIVE OF
ITS TRUE VALUE. The Company's loans are underwritten in accordance with the
Company's underwriting guidelines which permit Borrowers to borrow up to a
specified percentage of the value of the business unit and, in certain
instances, the real estate pledged as collateral in connection with the loans.
The value of the business unit is derived from a formula based upon the
business concept and the revenues and cash flows generated by the business
unit from its operations, as well as a valuation for each loan is performed by
an independent third-party hired by the Company. However, there can be no
assurance that the Company's valuations actually reflect an amount that could
be realized upon a current sale of a Borrower's business unit and related
personal and real property. Moreover, such a valuation is not indicative of
the value of the enterprise at any time after the date of the valuation.
Future values may depend upon a variety of factors, including the economic
success of the business unit, local and general competitive and economic
conditions, as well as the strength of the relevant business concept, the
franchisor or other licensor and the related Borrower. In addition, a
Borrower's franchise or license agreement is not typically included in the
collateral securing a loan, and as a result the Company may not foreclose on
the franchise or license agreement in the event of a default by the Borrower.
As a result, there is no assurance that the value of the collateral securing
the loan will equal or exceed the amount of the loan and related Borrower
obligations at any time. In addition, in the event of a default by a
particular Borrower, there may be factors present that reduce the revenues or
cash flow derived at the location and the value of the enterprise. Moreover,
the liquidation value of the collateral securing the loan generally will be
less than the value of the enterprise as determined above. Accordingly, in
order to realize the full value of the collateral (which may or may not be
sufficient to satisfy a Borrower's obligations to the Company), the Company
generally will be required to obtain the cooperation of the franchisor or
licensor. However, there is no assurance that such cooperation will be
obtained, and that the interests of the Company and the franchisor or licensor
will be comparable.
THE COMPANY'S VALUATION OF A BORROWER'S INTEREST IN REAL PROPERTY MAY NOT
REFLECT ITS FUTURE VALUE. The Company's loans are often secured by a mortgage
or deed of trust on a Borrower's interest in the business unit-related real
property upon which the unit operates. However, in many instances such
interest is in a lease of limited value other than to one who also has the
right to operate the business at such location, and as noted above, a
Borrower's franchise or licensee agreement is not typically included in the
collateral securing a loan. Accordingly, the Company's underwriting guidelines
for leased properties do not require the Borrower to provide title insurance
or reports and such policies or reports are typically not obtained in
connection with the loans where the related property is a leasehold. In
instances where the Company's underwriting guidelines permit a Borrower to
borrow amounts based upon the value of the Borrower's interest in the business
unit-related real estate, the Company determines the value of such real
property interest based upon an independent, third-party appraisal. Such
appraisals value the real property on an in-use, income approach which assumes
that the property is in use as an income producing business property. Such
value, even if realized in a sale or liquidation, generally would not provide
such Borrower with sufficient proceeds to satisfy its obligations to the
Company. Moreover, such an appraisal is not indicative of the value of the
real property interest at any time after the date of the appraisal. Future
values may depend upon a variety of factors, including changes in the
surrounding area,
13
<PAGE>
including, but not limited to, changes which alter the visibility of the
location and traffic patterns, duration of the lease, and absence of
sufficient nondisturbance agreements, as well as changes in general or local
economic conditions, increases in interest rates, real estate taxes and other
operating expenses (including energy costs), changes in governmental rules and
regulations (including environmental rules), acts of God and other factors.
Accordingly, there is no assurance that the Company's valuations actually
reflect the amount that could be realized upon a current sale of the real
property interest.
THE COMPANY MAY INCUR SUBSTANTIAL CREDIT RISKS TO THE EXTENT IT CANNOT
SECURITIZE OR SELL LOANS OR LEASES. Certain of the Company's loans and leases
may not be readily saleable or securitizable, or may be saleable or
securitizable only after the individual loan or lease portfolio performance
characteristics become apparent over time. To the extent that such loans and
leases are not sold or securitized, the Company must fund such assets with
borrowings or internally generated funds and bears the entire credit risk
associated with such assets. The Company's inability ultimately to sell or
securitize substantially all of the loans and leases it originates would have
a material adverse effect on the Company's business and results of operations.
See "--Substantial Need for Liquidity to Fund Lending Activities" and "--
Concentration on Restaurant, Retail Energy and Golf Sectors May Expose the
Company to Concept Failures, Industry Cycles, Environmental Liabilities and
Other Industry Specific Risks."
THE COMPANY'S DEVELOPMENT AND CONSTRUCTION LOANS HAVE RISKS DIFFERENT FROM
OTHER LOANS ORIGINATED BY THE COMPANY. The Company's DEVCO loans are a short-
term product (up to 18 months) offered to fund the development and
construction or acquisition of new business units or the conversion of
existing business units into a different franchise concept. For the six months
ended June 30, 1997 and the year ended December 31, 1996, DEVCO loans
represented 17.9% and 23.3%, respectively, of total loan and lease
originations. DEVCO loans have different risks than the permanent loans
originated by the Company including the fact that in underwriting such loans,
the Company relies more heavily on operator experience and the strength of the
business concept rather than the historical profitability of the unit and that
generally no payments are applied to reduce the principal or interest due on
such loans until maturity. In addition, DEVCO loans which are construction
loans involve additional risks attributable to the fact that loan funds are
advanced upon the security of the business unit under construction, which is
of uncertain value prior to completion of construction and commencement of
operations of the unit. In the event that construction is not completed or the
business unit does not commence operations successfully, the collectibility of
the related loan may be impaired. In the event the Company's evaluation of
creditworthiness is less accurate for DEVCO loans than for permanent loans,
the Company may be exposed to a greater risk of loss on such loans.
Also, the Company does not currently securitize any of its DEVCO loans and
funds such loans primarily with warehouse borrowings. However, the Company may
refinance such loans with permanent financing, subject to its credit
underwriting guidelines. In the event that the Company is unwilling or unable
to refinance a DEVCO loan at maturity and no other lender refinances such
loan, the Company may incur losses upon foreclosure or other collection
action. See "Business--Loan Originations--Type of Loan Products."
BANKRUPTCY OF A BORROWER MAY ADVERSELY AFFECT LOAN REPAYMENT. The bankruptcy
of a Borrower could result in substantial delays in the enforcement of such
Borrower's obligations to the Company and the enforcement and realization of
the Company's interest in the collateral securing the obligations. In this
regard, in the event of a bankruptcy of a Borrower, the Company would be
stayed from foreclosing on its collateral and enforcing its rights against
such Borrower. In addition, in the event that the value of the collateral
securing a Borrower's obligations to the Company, as determined by the
bankruptcy court, is less than the amount of the obligations owed to the
Company, the Company's claim against such Borrower would be divided into
secured and unsecured claims. Interest or attorneys' fees would not accrue in
respect of either claim when such Borrower is in bankruptcy. As a result of,
among other things, the issues relating to the value of the collateral
securing the obligations owed by the borrower to the Company summarized above,
there is no assurance that the Company's claim against the Borrower would not
exceed the value of the collateral securing the obligations owed by the
borrower to the secured party.
14
<PAGE>
The Company's Borrowers generally are corporations, limited liability
companies and other limited liability entities, and the principals of the
Borrowers generally are not required to personally guarantee the loans. As a
result, in the event of a default by a Borrower under any particular loan, the
stockholders or other principals of the defaulting Borrower generally will
have no personal liability to repay the loan.
REAL PROPERTY WITH ENVIRONMENTAL PROBLEMS MAY CREATE LIABILITY FOR THE
COMPANY. Contamination of real property by hazardous substances may give rise
to a lien on that property to assure payment of the cost of clean-up or, in
certain circumstances, subject the lender to liability. Such contamination may
also reduce the value of the business and property. Under the laws of some
states and under the federal Comprehensive Environmental Response,
Compensation, and Liability Act of 1980 ("CERCLA"), a lender may become liable
for cleanup of a property and adjacent properties that are contaminated by
releases from the property if the lender engages in certain activities. In
1996 CERCLA was amended to eliminate federal lender liability under CERCLA in
certain circumstances, including foreclosure if the lender resells the
property at the earliest practicable, commercially reasonable time on
commercially reasonable terms. In addition, the amendments provided some
guidance to lenders with respect to the nature of activities that would and
would not give rise to liability under CERCLA. These amendments do not apply
to state environmental laws. Also, foreclosure and other activities on
contaminated property may subject a lender to state tort liability.
In the course of its business, the Company may acquire real property
securing loans that are in default. There is a risk that hazardous substances
or waste, contaminants, pollutants or sources thereof could be discovered on
such properties after acquisition by the Company. In such event, the Company
might be required to remove such substances from the affected properties at
its sole cost and expense. There can be no assurance that the cost of such
removal would not substantially exceed the value of the affected properties or
the loans secured by such properties or that the Company would have adequate
remedies against the prior owners or other responsible parties, or that the
Company would not find it difficult or impossible to sell the affected real
properties either prior to or following any such removal. The Company's
servicing guidelines require it to obtain an environmental site assessment of
a business property prior to acquiring title thereto. Such requirement
effectively precludes enforcement of the security for the related loan until a
satisfactory environmental site assessment is obtained or until any required
remedial action is thereafter taken but will decrease the likelihood that the
Company will become liable for a material adverse environmental condition at
the business property. However, there can be no assurance that the servicing
guidelines will effectively insulate the Company from potential liability for
a materially adverse environmental condition at any business property. See
"Business--Regulation--Environmental Laws Affecting Borrowers in Specific
Sectors."
POTENTIAL ADVERSE EFFECT OF "CHANGES IN CONTROL" IN FRANCHISE AGREEMENTS AND
LIMITATIONS INCLUDING NATURAL PERSON FRANCHISEES. The franchise agreements of
the Borrowers often prohibit "Changes in Control" whether by death, disability
or otherwise. While in the event of the death or disability of a natural
person franchisee or of the principals of an entity franchisee, the executors
and representatives of natural person franchisees are often permitted a period
of months to locate a person acceptable to the franchisor to acquire the
disabled or deceased person's interest in the business entity or to become a
successor franchisee, there is no assurance that any such person would be
found or, if found, would be acceptable to the franchisor and secured party.
In the event that an acceptable person is not located, the Borrower would be
in default under its franchise agreement and loan, and, among other things,
the Borrower's right to operate the business unit could be terminated. License
agreements of Borrowers on retail energy loans may contain similar provisions.
FRANCHISE TERMINATION OR NONRENEWAL COULD HAVE A MATERIAL ADVERSE EFFECT ON
A BORROWER'S ABILITY TO REPAY A LOAN. A Borrower's franchise agreement may be
subject to termination in the event of default after applicable cure periods.
Default provisions under franchise agreements are generally drafted broadly,
and include, among other things, failure to meet operating standards, actions
which may threaten licensed intellectual property, and investments by
principals in a competitive business.
In addition, certain of the Borrower's franchise agreements may have
remaining terms which are less than the full term of the respective Borrower's
loans. In such cases, the respective Borrowers have the option, or are
15
<PAGE>
expected to be granted an option, to renew the franchise agreement for an
additional term. Such option, however, often is contingent on the Borrower's
execution of the then current form of franchise agreement (which may include
increased royalties, advertising and other costs and which contained further
restrictions on the franchisee's geographic and other rights) and satisfaction
of certain conditions (including modernization of the business unit and
related operations), the satisfaction of which may require the expenditure of
substantial sums by the Borrower. The Company's standard loan documentation
provides that the termination of a Borrower's franchise agreement is a default
under the related loan which entitles the Company to declare the principal
amount of such loan, immediately due and payable.
There is no assurance that the Borrowers will not default under their
respective franchise agreements, or that the Borrowers will be able to satisfy
the requirements for renewal of the franchise agreement for an additional
term. In the event a franchise agreement terminates, the related Borrower
would not be able to continue to operate the business unit. In many instances,
the sole business and source of revenue for the Borrowers is the operation of
the business unit and the termination of the franchise agreement would mean
that such Borrowers would cease business operations. Because the success of
the business of the franchisee is largely dependent upon brand recognition and
the strength of the business concept in which it operates, Borrowers whose
rights to operate within the business concepts have been terminated will
likely have substantially depleted revenues and/or higher operating costs, if
they are able to operate at all. Accordingly, the termination or nonrenewal of
the franchise agreement likely will result in a Borrower's inability to
satisfy its obligations under the loan and a substantial decrease in the value
of the collateral securing such obligations. License agreements by Borrowers
on retail energy loans may contain similar provisions. See "Business--
Underwriting."
PREPAYMENT RESTRICTIONS ON LOANS MAY BE INSUFFICIENT TO DETER
PREPAYMENTS. Substantially all of the Company's loans contain provisions
restricting prepayments of such loans. Prepayment provisions included in fixed
rate loan documents provide for a prepayment fee equal to (i) the greater of a
percentage (declining from 4.0% to 1.0% over the first five years) of the
unpaid loan balance or the present value of the unpaid balance multiplied by
the spread between the U.S. Treasury rate at the date the loan was originated
and the U.S. Treasury rate on the date the loan is prepaid plus (ii) the
present value of 0.13% of the remaining principal payments. The prepayment fee
for floating rate loans is equal to a percentage (declining from 3.5% to 1.5%
over the first four years) of the unpaid loan balance. Such restrictions may
prohibit prepayments in whole or in part during a specified period of time
and/or require the payment of a prepayment fee in connection with the
prepayment thereof. Such prepayment restrictions can, but do not necessarily,
provide a deterrent to prepayments. As a result, if actual prepayments exceed
Company estimates, the carrying value of the Company's retained interest in
loan securitizations may become impaired, and the Company may be unable to
effect future securitizations on terms similar to its recent securitization
transactions, thereby having an adverse effect on the Company's financial
condition and operating results. Prepayment charges may be in an amount which
is less than the figure which would fully compensate for the difference in
yield upon reinvestment of the prepayment proceeds against its expected yield
to maturity of the loans. There can be no assurance that the Borrower on a
loan which is being prepaid will have sufficient financial resources to pay
all or a portion of any required prepayment charges, particularly where the
prepayment results from acceleration of the loans following a payment default.
No assurance can be given that, at the time any prepayment charges are
required to be made in connection with a defaulted loan, foreclosure proceeds
will be sufficient to make such payments. No representation or warranty is
made as to the effect of such prepayment charges on the rate of prepayment of
the related loan.
The enforceability, under the laws of a number of states, of provisions
similar to the provisions in the loans providing for the payment of prepayment
charges upon a voluntary or involuntary bankruptcy is unclear. In particular,
no assurance can be given that, at any time that any prepayment charge is
required to be made in connection with an involuntary prepayment, the
obligation to pay such prepayment charge will be enforceable under applicable
law or, if enforceable, that foreclosure proceeds will be sufficient to make
such payment. Proceeds recovered in respect of any defaulted loan will, in
general, be applied to cover outstanding property protection expenses and
servicing expenses and unpaid principal and interest prior to being applied to
cover any prepayment charge due in connection with the liquidation of such
loan.
16
<PAGE>
BALLOON PAYMENT AT MATURITY AND EXTENSION INCREASES LENDER RISKS. The
Company may from time to time originate loans with a balloon payment due at
maturity. The ability of a Borrower to pay such amount will normally depend on
its ability to fully refinance the loan or sell the business unit and related
property at a price sufficient to permit the Borrower to make balloon
payments. The ability of a Borrower to refinance will be affected by a number
of factors, including, without limitation, the value of the related property,
the financial condition and operating history of the Borrower and the related
property limitations on transfer imposed by franchise or license agreements,
the strength of the commercial real estate market, tax laws, and prevailing
general economic conditions.
LIMITED COVENANT RESTRICTIONS IN COMPANY LOAN DOCUMENTS MAY LIMIT THE
COMPANY'S ABILITY TO RECOVER LOAN PROCEEDS. The Company's loan documents with
each Borrower generally contain only a limited number of restrictive financial
covenants, including covenants to maintain a specified fixed charge coverage
ratio and covenants restricting encumbering or disposing of the collateral
(other than dispositions in the ordinary course of business and encumbrances
in connection with purchase money financings and certain other permitted
encumbrances). The loan documents generally do not contain other financial
covenants, such as covenants requiring maintenance of minimum levels of loan
to value ratios, net worth or liquid assets, or covenants restricting or
prohibiting distributions. The absence of such covenants (which are often
included in traditional bank financings) may limit the secured party's ability
to respond to declining collateral values and/or recover amounts in respect of
any loans in the event of default.
CONCENTRATION ON RESTAURANT, RETAIL ENERGY AND GOLF SECTORS MAY EXPOSE THE
COMPANY TO CONCEPT FAILURES, INDUSTRY CYCLES, ENVIRONMENTAL LIABILITIES AND
OTHER INDUSTRY SPECIFIC RISKS
FRANCHISE CONCEPTS HAVE SPECIFIC RISKS. The ability of a Borrower operating
as a Franchisee to repay its loan is subject to general business risks
typically associated with operating a business and particularly with operating
a QSR/casual dining restaurant or other franchised business, including,
without limitation, (i) an increase in the cost of labor (including, without
limitation, mandatory increases in the minimum wage payable to employees) or
food products, (ii) a decrease in the consumer demand for a particular product
or class of products offered by a particular franchise concept and (iii)
adverse changes in the economy in the geographic location in which a
particular restaurant is located.
A BORROWER'S ABILITY TO REPAY A LOAN OR LEASE MAY BE ADVERSELY AFFECTED BY
THE STRENGTH OF THE SUBJECT FRANCHISE CONCEPT. A Franchisee's success is
largely dependent upon brand recognition and the strength of the franchise
system in which it operates. The continued success of a Borrower's business
may be directly dependent upon the strength of the franchise concept, which in
turn may be dependent upon the continued strength of the franchisor and the
support which it provides to the franchise concept. While all of the Company's
loans are made to Borrowers within approved franchise concepts and the
approval of a franchise concept is based, among other things, on the
historical results of the franchise concept, the strength of the franchisor
and the support which it provides to the franchise concept, there is no
assurance that the prior performance of the franchise concept will be
indicative of future results, or that the franchisor will continue to have its
present strength or continue to provide the support for the franchise concept.
In addition, name brand recognition and franchise concept support that
provides much of the basis for the successful operation of individual
franchise businesses, can also mean that problems within the franchise concept
or at other locations (e.g., food poisoning, crime, litigation and negative
publicity) have substantial negative impact of the operations of otherwise
successful individual restaurants.
The Company relies to a significant degree upon its established business
relationships with franchisors in such franchise concepts as a source of new
loan originations. The Company has a limited number of formal agreements with
franchisors. No assurance can be given that such relationships will continue.
The discontinuance of the relationship with one or more franchisors could
reduce the volume of new loans that the Company is able to originate, which
could have a material adverse effect on the Company's business and results of
operations. See "Business--Loan Originations--Lending Groups."
17
<PAGE>
COMPETITION FACING FRANCHISEES MAY ADVERSELY AFFECT A BORROWER'S REVENUES
AND PROFITS. The QSR/casual dining restaurant sector in which many of the
Company's Borrowers compete is highly competitive (e.g., with respect to
price, service, location, food quality and presentation), and is affected by
changes in taste and eating habits of the public, local economic and national
economic conditions and population and traffic patterns. Borrowers compete
with a variety of locally-owned restaurants, as well as competitive regional
and national chains and franchises. In addition, Borrowers may be at risk of
competition from restaurants within the same franchise concepts. Moreover, new
companies may easily enter the Borrowers' respective market segments. All such
competition may adversely affect a Borrower's revenues and profits and the
value of its enterprise and its ability to satisfy its obligations in
connection with its loan. Furthermore, Borrowers face stiff competition for
competent employees and high levels of employee turn-over, which also can have
an adverse effect on the operations and profitability of the Borrowers and on
their ability to satisfy their loan obligations. See "Business--Competition."
CONCENTRATION RISKS FACED BY THE COMPANY MAY ADVERSELY AFFECT COMPANY
OPERATIONS. The Company may be exposed to certain substantial concentration
risks including risks of (i) franchise concept concentration, (ii) Borrower
concentration and (iii) geographic concentration.
The Company makes loans to Borrowers who are franchisees in a limited number
of franchise concepts, the majority of which operate solely in the QSR/casual
dining restaurant market. For the six months ended June 30, 1997 and the year
ended December 31, 1996, QSR originations comprised approximately 73.1% and
84.5%, respectively, of total loan and lease originations, while casual dining
originations represented 10.7% and 9.5%, respectively. Such concentration of
systems will mean that in the event that any of the included franchise
concepts suffers a material adverse change, the Borrowers in such franchise
concept would be adversely affected, and there would be a concomitant adverse
impact on the Borrowers' ability to repay its obligations to the Company. To
date the substantial majority of the Company's loans have been made to
Borrowers operating QSRs in a limited number of jurisdictions. Concentration
in a limited number of jurisdictions will mean that in the event that any of
the included jurisdictions suffers a material adverse change (whether as a
result of deteriorating economic conditions, natural disasters or otherwise),
the Borrowers in such jurisdiction would be adversely affected. In addition,
to the extent that the Company makes loans to a Borrower or an affiliated
group of Borrowers which constitutes a material portion of the Company's then
outstanding loans, the Company could suffer material losses in the event such
Borrower or affiliated group defaulted on its loans. For the six months ended
June 30, 1997, the Company had made loans to one Borrower whose loans
comprised 9.7% of the Company's total loan and lease originations during the
period and the Company's top five Borrowers had loans comprising 33.7% of the
Company's total loan and lease originations during the period. Of total loan
and lease originations for the six months ended June 30, 1997, 21.3% were
originated in California; no other state accounted for over 10% of
originations for such period and no state accounted for over 10% of total loan
and lease originations for the years ended December 31, 1996 and 1995. See
"Business--Loan Originations--Lending Groups" and "--Geographic Distribution."
FRANCHISE SUCCESS IS DEPENDENT IN PART ON FRANCHISE SITE LOCATION. One of
the strengths of the franchise system is procedures employed in selecting site
locations for franchises business units, and an important part of the value of
a franchise business is the franchisee's ability to operate the franchise
business at the specified location. In this regard, many franchisee agreements
are "site" or "location" specific and permit only the Borrower to operate at
the specified location. However, in the event of changes adversely affecting
the location (e.g., changes in traffic patterns, changes in visibility,
deterioration of the surrounding neighborhood), the Borrower may not be able
to relocate its operations even if the Borrower has the financial resources to
fund such a move. If a Borrower were unable to move, such changes could result
in decreased revenue and substantially impair the Borrower's ability to
satisfy its obligations under the loan, as well as the value of the business
and collateral securing the loan.
18
<PAGE>
RETAIL ENERGY CONCEPTS HAVE SPECIFIC RISKS
TERM OF PETROLEUM SUPPLY CONTRACTS MAY AFFECT BORROWER PROFIT MARGINS. Many
of the Company's Borrowers operating as Licensees in the retail energy sector
operate under supply agreements (the "Supply Agreements") with national retail
petroleum companies which may require such Borrowers to, among other things,
purchase all or a portion of their requirements for petroleum products from
such companies. The Supply Agreements may also contain terms which require
such Borrowers to pay additional costs to such companies to cover marketing
activities and additional other expenses for the percentage of branded
products sold under such Company's brand in the event the Borrower fails to
achieve certain target earnings set forth in the Supply Agreement (the "Target
Earnings"). In addition, the Supply Agreements may require such Borrowers to
make additional "margin maintenance payments" on petroleum products not
purchased if such Borrowers do not purchase a minimum amount of product per
year. The minimum amounts required to be purchased may escalate each year.
Accordingly, if Target Earnings are not met and/or such Borrowers do not meet
the minimum purchase requirements, the cost for purchasing petroleum products
could become excessive and adversely affect such Borrowers' profit margin with
respect to those products and consequently their ability to repay their loans.
BORROWERS IN RETAIL ENERGY SECTOR SUBSTANTIALLY DEPENDENT ON SALE OF MOTOR
FUEL. Gasoline sales are highly competitive. Most Borrowers in the retail
energy sector compete with both independent and brand gasoline stations.
Gasoline profit margins associated with the sale of motor fuel have a
significant impact on such Borrowers and are affected by numerous factors
outside of each Borrower's control, including the supply and demand for motor
fuel in retail markets, volatility in the wholesale gasoline market and
competitive pricing influences in each Borrower's local market area. Borrowers
may obtain motor fuel from a number of independent suppliers in an attempt to
lower their cost per gallon and establish a diverse supplier base in the event
of shortages. As Borrowers generally may not inventory more than two weeks'
volume requirements, any sustained shortage of motor fuel from a Borrower's
suppliers could substantially reduce the volume of motor fuel sold by such
Borrower. A material decrease in either the volume of motor fuel sold or the
profit margin on such sales for an extended time period could have a material
adverse effect on the income of Borrowers in the retail energy sector and
their ability to service loans from the Company. In addition, the Company
believes that the patronage of customers desiring to purchase motor fuel
accounts for a significant portion of customer traffic at retail energy
business units and has a favorable impact on the merchandise sales in the
convenience stores, car washes and truck stops connected to service station
operations. Accordingly, any reduction in motor fuel supplies and resulting
reductions in motor fuel sales could adversely affect the sale of non-motor
fuel items and result in decreased revenues for such Borrowers.
PROPERTIES SUBJECT TO ENVIRONMENTAL REGULATIONS MAY CREATE LIABILITY FOR
BORROWERS. The operation and management of retail energy businesses (whether
pursuant to direct ownership, leases or management contracts) involves the use
and limited storage of certain hazardous materials. Specifically, the
Company's Borrowers in the retail energy sector incur ongoing costs to comply
with federal, state and local environmental laws and regulations governing
underground storage tank systems ("USTs") used in their operations. The
Company's loans may be secured by convenience store and gas station locations
with USTs and other environmental risks. Borrowers may be required to obtain
various environmental permits and licenses in connection with their operations
and activities and comply with various health and safety regulations adopted
by federal, state, local and foreign authorities governing the use and storage
of such hazardous materials. Under various federal, state, local and foreign
laws, ordinances and regulations, various categories of persons, including
owners, operators or managers of real property may be liable for the costs of
investigation, removal and remediation of hazardous substances that are or
have been released on or in their property even if such releases were by
former owners or occupants. In addition, any liability of Borrowers for
assessment and remediation activities in connection with releases into the
environment of gasoline or other regulated substances from USTs or otherwise
at such Borrowers' gasoline facilities could adversely impact the Borrowers'
ability to repay their loans from the Company or the value of any pledged
collateral. Due to the nature of releases, the actual costs incurred may vary
and the ongoing costs of assessment and remediation activities may vary from
year to year and may adversely impact such Borrowers' ability to repay their
loans. As of June 30, 1997, the Company was not aware of any adverse impact on
a Borrower's ability to repay a loan or any impairment of collateral arising
19
<PAGE>
from environmental liabilities. However, no assurance can be given that
environmental liabilities will not adversely impact the ability of Borrowers
to repay their obligations to the Company in the future. See "--Certain
Underwriting Requirements and Risks May Adversely Affect Credit Quality."
Most states have funds which provide reimbursement to qualified storage tank
owners/operators for assessment and remediation costs associated with
petroleum releases (after the operator pays a set deductible and co-payment
amount). Most funds are supported by annual tank registration fees paid by the
station owners and a gasoline fee, included in the price of the gas, which is
paid by consumers. As a result of the recently enacted legislation regarding
USTs, there has been an increasing number of UST replacements. Consequently,
some state funds have been drained of reserves. The result is a delay in
disbursement until the fund can be replenished with fee collections, the
effect of which may have an adverse effect on the Borrower's financial
condition and ability to repay its loan. See "Business--Regulation--
Environmental Regulations Affecting Retail Energy Businesses."
COMPETITION FACED BY BORROWERS IN THE RETAIL ENERGY SECTOR MAY ADVERSELY
AFFECT BORROWER PROFITABILITY. The retail energy sector is highly competitive.
The number and type of competitors vary by location. The Company's Borrowers
in the retail energy sector presently compete with other convenience stores,
large integrated gasoline service station operators, supermarket chains,
neighborhood grocery stores, independent gasoline service stations, fast food
operations and other similar retail outlets, some of which are well recognized
national or regional retail chains. The Company's Borrowers in the retail
energy sector may compete against businesses which have greater financial and
other resources than those of the Borrowers. Key competitive factors in the
retail energy sector include, among others, location, ease of access, store
management, product selection, pricing, hours of operation, store safety,
cleanliness, product promotions and marketing. As a result of purchase
economies or vertical integration, certain of the Company's Borrowers in the
retail energy sector may not be able to compete effectively with larger
competitors which may possess greater control over product costs and may have
the ability to offer a broader range of products or services. To the extent
these competitors adopt marketing policies, including advertising and pricing
levels, that exploit their competitive advantages, such competitors could gain
market share and have an adverse effect on the profitability of the Company's
Borrowers in the retail energy sector and their ability to repay their loans.
GOLF LOANS HAVE SPECIFIC RISKS
CONSUMER SPENDING AND TRENDS. The amount spent by consumers on discretionary
activities, such as those offered by Borrowers in the golf sector, has
historically been dependent upon levels of discretionary income which may be
adversely affected by general economic conditions. A decrease in consumer
spending on golf-associated activities could have a material adverse effect on
the financial condition and results of operations of Borrowers in the golf
sector and their ability to repay the Company's loans.
ZONING AND ENVIRONMENTAL REGULATIONS MAY ADVERSELY AFFECT BORROWER
COSTS. The construction of golf courses for third parties and the development
of golf practice and instruction facilities involve compliance with land use
planning, zoning and environmental regulations, including regulations
applicable to the treatment, storage and disposal of hazardous and solid
wastes, run-off and wetland development. Regulations governing the use and
development of real estate may prevent Borrowers in the golf sector from
acquiring or developing prime locations for golf facilities, substantially
delay or complicate the process of developing locations acquired by such
Borrowers for golf facilities or constructing golf courses on locations owned
by others, or materially increase the cost thereof.
Further, the operation and management of golf courses and golf practice and
instruction facilities (whether pursuant to direct ownership, lease or
management contract) involve the use and limited storage of certain hazardous
materials such as herbicides, pesticides, fertilizers, motor oil, gasoline and
paint. Borrowers may be required to obtain various environmental permits and
licenses in connection with their operations and activities and comply with
various health and safety regulations adopted by federal, state, local and
foreign authorities governing the use and storage of such hazardous materials.
Under various federal, state, local and foreign laws,
20
<PAGE>
ordinances and regulations, various categories of persons, including owners,
operators or managers of real property may be liable for the costs of
investigation, removal and remediation of hazardous substances that are or
have been released on or in their property even if such releases were by
former owners or occupants. See "--Certain Underwriting Requirements and Risks
May Adversely Affect Credit Quality."
REVENUES OF BORROWERS MAY BE ADVERSELY AFFECTED BY SEASONALITY. Golf
facilities generally are the most active during the second and third quarters
of the year. The inherent seasonality of participation in golf and golf-
related activities and the effect of weather conditions generally result in
greater revenues and income during the second and third quarters as compared
to the first and fourth quarters of the year. Poor weather conditions and
unforseen natural events may result in reduced utilization of Borrowers' golf
facilities and have an adverse effect on revenues of Borrowers in the golf
sector.
EQUIPMENT LOANS AND LEASES HAVE SPECIFIC RISKS
INABILITY TO RECOGNIZE RESIDUAL VALUE MAY ADVERSELY AFFECT THE COMPANY'S
FINANCIAL CONDITION. The Company retains a residual interest in the equipment
covered by its leases. The estimated fair market value of the equipment at the
end of the contract term of the lease, if any, is reflected as an asset on the
Company's balance sheet for leases held to maturity and will be included as
part of the gain on sale in any lease securitization transaction. The
Company's results of operations depend, to some degree, upon its ability to
realize these residual values. Realization of residual values depends on many
factors which are outside the Company's control, including general market
conditions at the time of expiration of the lease, whether there has been
unusual wear and tear on, or use of, the equipment, the cost of comparable new
equipment, the extent, if any, to which the equipment has become
technologically or economically obsolete during the contract term and the
effects of any additional or amended government regulations. If, upon the
expiration of a lease, the Company sells or refinances the underlying
equipment and the amount realized is less than the recorded value of the
residual interest in such equipment, a loss reflecting the difference will be
recognized. Any failure by the Company to realize aggregate recorded residual
values could have a material adverse effect on its business and results of
operations.
EQUITY INVESTMENTS ARE SUBJECT TO RISK OF LOSS
The Company periodically makes passive unsecured equity investments in
companies operating in the sectors served by its lending and leasing business.
Such investments may be made in conjunction with loans and leases or
independent of any borrowing relationship. In certain cases, the Company is
obligated to make additional equity investments in such companies at the
option of the majority investor. Such investments involve a high degree of
risk because the investment is not secured by any assets of such entities and
the Company bears the risk of loss of its entire investment. Generally, the
Company is unable to control the activities of these companies due to its
minority ownership interest and lacks representation in the management of such
companies. No assurances can be made that such entities will be profitable or
that the Company will receive any return on its investments. See "Business--
Equity Investments" and "Certain Transactions--Other Matters--Equity
Investments."
The Company may also enter into joint venture or similar arrangements for
its loan and lease activities. The Company is currently negotiating with a
major investment bank to form a joint venture pursuant to which the loan and
lease activities of the Company's Golf Finance Group would be exclusively
conducted by a new entity which would be 50% owned and managed by each of the
Company and the investment bank. The parties could by mutual agreement utilize
the joint venture, if formed, to exclusively originate other types of loans
and leases, which could include loans and leases in the Company's other
existing sectors or in new sectors. Any income distributed by the new entity
would be shared equally by the Company and the investment bank.
PROFITABILITY OF THE COMPANY MAY BE ADVERSELY AFFECTED BY INTEREST RATE
FLUCTUATIONS
Profitability may be directly affected by fluctuations in interest rates
which affect the Company's ability to earn a spread between interest received
on its loans and leases held for sale and rates paid on warehouse lines of
credit and repurchase facilities. The Company's profitability may be adversely
affected during any period of
21
<PAGE>
unexpected or rapid changes in interest rates. By way of example, in an
inflationary economy, interest rates normally increase. A substantial and
sustained increase in interest rates, whether due to inflation or otherwise,
could adversely affect the Company's ability to originate loans and leases.
Fluctuating interest rates also may affect the net interest income earned by
the Company resulting from the difference between the yield to the Company on
loans held pending sale and the interest paid by the Company for funds
borrowed under the Company's warehouse lines of credit and repurchase
facilities. If interest rates rise, the required discount rate used in
determining the Company's retained interest in loan securitizations might also
rise, thereby causing the
Company to record an expense reducing the Company's gain on sale and the
carrying value of retained interests in loan securitizations.
HEDGING STRATEGIES MAY NOT PROTECT THE COMPANY FROM INTEREST RATE RISKS
The Company is required under its warehouse lines of credit and repurchase
facilities to hedge all of its fixed-rate loan balances securing such
facilities. The Company's hedging strategy normally includes selling U.S.
Treasury futures in such amounts and maturities as to effectively hedge the
interest rate volatility of its portfolio. The Company does not maintain naked
or leveraged hedge positions. While the Company believes its hedging
strategies are cost-effective and provide some protection against interest
rate risks, no hedging strategy can completely protect the Company from such
risks. Further, the Company does not believe that hedging against the interest
rate risks associated with adjustable-rate loans is cost-effective, and the
Company does not utilize the hedging strategies described above with respect
to its adjustable-rate loans.
THE COMPANY MAY BE REQUIRED TO REPURCHASE LOANS AND LEASES SOLD OR SECURITIZED
IN THE EVENT OF BREACH OF REPRESENTATIONS AND WARRANTIES
In connection with the issuance of securities in offerings in which loans
originated by the Company have been securitized, such securities are issued to
purchasers nonrecourse to the Company; provided, however, that the purchasers
of such securities will have recourse to the Company with respect to the
breach of a standard representation or warranty made by the Company at the
time such loans are securitized. To the extent that the Company is required to
repurchase any loan it will incur those risks incurred by conventional
lenders.
In the ordinary course of its business, the Company is subject to claims
made against it by Borrowers and certificate holders in the Company's
securitizations arising from, among other things, losses that are claimed to
have been incurred as a result of alleged breaches of fiduciary obligations,
misrepresentations, errors and omissions of employees, officers and agents of
the Company (including its appraisers), incomplete documentation and failures
by the Company to comply with various laws and regulations applicable to its
business. The Company believes that liability with respect to any currently
asserted claims or legal actions is not likely to be material to the Company's
results of operations or financial condition; however, any claims asserted in
the future may result in legal expenses or liabilities which could have a
material adverse effect on the Company's results of operations and financial
condition.
THE INABILITY OF THE COMPANY TO MANAGE GROWTH COULD ADVERSELY AFFECT COMPANY
OPERATIONS
The Company's total revenues and net income have grown significantly since
inception, primarily due to increased loan origination activities. While the
Company intends to continue to pursue a growth strategy, its future operating
results will depend largely upon its ability to expand its loan and lease
origination activities. The Company plans to continue its growth of loan and
lease originations through increased penetration in the sectors where the
Company currently operates as well as expansion into new sectors. However,
these expansion plans will require additional personnel and assets and there
can be no assurance that the Company will be able to successfully expand and
operate such programs profitably or that the Company will anticipate all of
the changing demands that its expanding operations will have on the Company's
management, information and operating systems. Any failure by the Company to
hire appropriate personnel or adapt its systems could have a material adverse
effect on the Company's results of operations and financial condition.
22
<PAGE>
THE COMPANY'S OPERATIONS COULD BE ADVERSELY AFFECTED BY THE LOSS OF KEY
PERSONNEL
The Company's success depends to a large extent upon the expertise and
continuing contributions of Wayne L. Knyal, President, Chief Executive Officer
and a Director of the Company and Thomas J. Shaughnessy, Executive Vice
President and Chief Credit Officer of the Company. The loss of the services of
either of these individuals could have a material adverse effect on the
Company's business and results of operations. The Company's future success
also depends on its ability to identify, attract and retain additional
qualified personnel. There can be no assurance that the Company will be
successful in identifying, attracting and retaining such personnel. See
"Management--Directors and Executive Officers."
LIMITED HISTORY OF INDEPENDENT OPERATIONS AND NEW PRODUCTS LIMIT THE ABILITY
OF THE COMPANY TO PREDICT FUTURE PERFORMANCE
The Company has experienced substantial growth in loan and lease
originations and total revenues since inception, and in particular since June
1995 when ICII acquired the operations of Franchise Mortgage LLC. The Company
had been unprofitable until 1996 and there can be no assurance that the
Company will be profitable in the future or that these rates of growth will be
sustainable or indicative of future results. Prior to the Offering, the
Company benefited from the financial, administrative and other resources of
ICII and Greenwich Capital Financial Products, Inc., a prior owner of the
operations of Franchise Mortgage LLC. Prior to this Offering, ICII had
extended loans to the Company and guaranteed the Company's warehouse lines of
credit, repurchase facilities and leases. ICII will not guarantee any of the
Company's future financing facilities or leases. Accordingly, the Company's
prospects must be evaluated in light of the risks, expenses and difficulties
it will encounter as an independent business. Although the Company will have a
services agreement with ICII upon the effective date of this Offering, there
can be no assurance that the Company will develop the financial, management or
other resources necessary to operate successfully as an independent company.
In light of the Company's aforementioned growth in loan and lease
originations, the historical performance of the Company's earnings may be of
limited relevance in predicting future performance. Also, the loans originated
by the Company and included in the Company's securitizations have been
outstanding for a relatively short period of time. Consequently, the
delinquency and loss experience of the Company's loans and leases to date may
not be indicative of results to be experienced in the future. It is unlikely
that the Company will be able to maintain delinquency and loss ratios at
current levels as the portfolio becomes more seasoned.
The Company has recently expanded its product offerings to include leases
and has expanded its marketing efforts to include Borrowers in the retail
energy and golf sectors. The Company has either limited or no experience with
these new products and markets, and there can be no assurance that the Company
will be able to compete in these markets successfully or that the return on
the Company's investment in these new products and markets will be consistent
with the Company's historical financial results.
ANY FUTURE ACQUISITIONS OF OTHER SPECIALTY FINANCE COMPANIES OR ASSETS MAY
HAVE ADVERSE EFFECTS ON THE COMPANY'S BUSINESS
The Company may, from time to time, engage in the acquisition of other
specialty finance companies or portfolios of loan and lease assets. Any
acquisition made by the Company may result in potentially dilutive issuances
of equity securities, the incurrence of additional debt and the amortization
of expenses related to goodwill and other intangible assets, any of which
could have a material adverse effect on the Company's business and results of
operations. The Company also may experience difficulties in the assimilation
of the operations, services, products and personnel related to acquired
companies or asset portfolios, an inability to sustain or improve the
historical revenue levels of acquired companies, the diversion of management's
attention from ongoing business operations and the potential loss of key
employees of such acquired companies. The Company currently has no agreements
with regard to potential acquisition and there can be no assurance that future
acquisitions, if any, will be consummated.
23
<PAGE>
ONE-TIME DEFERRED INCOME TAX CHARGE WILL REDUCE THE COMPANY'S EARNINGS
In accordance with SFAS 109, as a result of terminating the Company's LLC
status upon completion of this Offering, the Company will be required to
record a one-time non-cash charge against earnings for deferred income taxes
based upon the change from the Company's LLC status to C Corporation status.
Management estimates that there will be a charge for the quarter ending
December 31, 1997 and the year ending December 31, 1997; if such a charge were
recorded at September 30, 1997, the amount would have been approximately
$11.1 million. This amount is expected to increase through the closing date of
this Offering. For a further discussion, see "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Results of
Operations--Impact of Change in Tax Status," "--Tax Considerations" and Notes
3, 4 and 14 of Notes to Financial Statements.
SUBSTANTIAL COMPETITION IN THE COMMERCIAL FINANCE INDUSTRY MAY ADVERSELY
AFFECT THE COMPANY'S ABILITY TO ORIGINATE OR MAINTAIN LOANS AND LEASES
As a specialty commercial finance lender, the Company faces intense
competition, primarily from commercial banks, thrift institutions, diversified
finance companies, asset-based lenders, specialty franchise finance companies
and real estate investment trusts, among others. Many of these competitors in
the financial services business are substantially larger and have more capital
and other resources than the Company. Competition can take many forms,
including convenience in obtaining a loan or lease, customer service,
marketing and distribution channels and loan and lease pricing. Furthermore,
the current level of gains realized by the Company and its competitors on the
sale of the type of loans and leases they originate is attracting and may
continue to attract additional competitors into this market with the possible
effect of lowering gains that may be realized on the Company's loan and lease
sales. Competition may be affected by fluctuations in interest rates and
general economic conditions. During periods of rising rates, competitors which
have locked in low borrowing costs may have a competitive advantage. During
periods of declining rates, competitors may solicit the Company's customers to
refinance their loans and leases. During economic slowdowns or recessions, the
Company's Borrowers may experience financial difficulties and may be receptive
to offers by the Company's competitors.
CONTROL OF THE COMPANY BY SELLING STOCKHOLDERS AND POTENTIAL CONFLICTS OF
INTEREST BETWEEN THE COMPANY AND CERTAIN AFFILIATES
After the Offering, the Selling Stockholders will beneficially own 64.1% of
the outstanding Common Stock of the Company (or approximately 60.0% of the
outstanding Common Stock if the Underwriters' over-allotment option is
exercised in full). Of such shares, 41.2% will be owned by ICII and 22.9% will
be owned by FLRT, Inc., a company controlled by Wayne L. Knyal, the Company's
President and Chief Executive Officer. As a result, the Selling Stockholders
will be able to control substantially all matters requiring approval by the
stockholders of the Company, including the election of directors and the
approval of mergers or other business combination transactions. Under the
Company's Bylaws, as long as ICII directly owns at least 25% of the Company's
outstanding voting stock, the Unaffiliated Directors of the Company's Board of
Directors (directors independent of both management and ICII) must
independently approve all transactions between the Company and ICII. The
disposition and voting of the shares of Common Stock of the Company held by
ICII is controlled by ICII's Board of Directors consisting of H. Wayne
Snavely, Kevin E. Villani, Joseph R. Tomkinson, Stephen Shugerman, G. Louis
Graziadio, III, Perry A. Lerner, J. Clayborn LaForce and Robert Muehlenbeck.
Messers. Snavely, Graziadio and Lerner are directors of the Company. See
"Management" and "Principal and Selling Stockholders."
OFFERING TO BENEFIT EXISTING STOCKHOLDERS
This Offering will provide substantial benefits to existing stockholders of
the Company. First, the initial public offering price is substantially higher
than the $0.68 per share book value on the shares held by existing
stockholders. New investors will invest $180.0 million or 93.7% of the total
consideration paid for 35.9% of the
24
<PAGE>
shares of Common Stock to be outstanding after the Offering. The shares of
Common Stock owned by existing stockholders would be valued at $320.9 million
at the effective time of the Offering; such shares had a book value of $12.1
million at June 30, 1997. Second, each of ICII and FLRT, Inc. will receive
monies as a result of the Offering. As selling stockholders, ICII and FLRT,
Inc. will receive approximately $52.1 million and $15.6 million, respectively,
of the net proceeds of this Offering. Also, the Company intends to apply a
portion of the net proceeds of this Offering to repay demand indebtedness owed
to ICII ($10.0 million was owed to ICII as of June 30, 1997 at an interest
rate of 12% per annum; amounts owed to ICII will increase by an amount
currently estimated to be $3.0 million (this amount may increase depending on
the level of Franchise Mortgage LLC's taxable income immediately prior to the
completion of this Offering) to fund the Final LLC Distribution). See "Use of
Proceeds" and "LLC Distributions." Third, the Company may be liable for taxes
in respect of tax periods prior to the Reorganization. Since July 1, 1995, the
Company has been treated as a partnership for federal and state income tax
purposes. As a result, the income of the Company has not been subject to
federal or state income taxation. The members of Franchise Mortgage LLC (ICII
and FLRT, Inc.) are liable for individual federal and state income taxes on
their allocated portions of the Company's taxable income. The Company's status
as an LLC will be automatically terminated as a result of the Reorganization.
The Company has agreed to indemnify each of ICII and FLRT, Inc. for any
federal or state income taxes, including penalties and interest thereon,
imposed by any taxing authority with respect to, for, or fairly attributable
to the operations of Franchise Mortgage LLC for the period from July 1, 1995
through the effective date of this Offering. Notwithstanding the foregoing,
each of ICII and FLRT, Inc. has agreed to indemnify the Company for all taxes,
including penalties and interest thereon, resulting from any determination
made by a taxing authority that Franchise Mortgage LLC should be determined
for tax purposes to be an association taxable as a corporation and only to the
extent that such taxes pertain to the income of Franchise Mortgage LLC as
originally reported on its income tax return for the period in question and
solely to the extent of any LLC distributions made by Franchise Mortgage LLC
to ICII and FLRT, Inc.
ANTITAKEOVER PROVISIONS MAY DETER OR LIMIT CHANGES IN MANAGEMENT AND OWNERSHIP
OF THE COMPANY
Certain provisions of Delaware law and the Certificate of Incorporation (the
"Certificate") and Bylaws (the "Bylaws") of the Company may make it more
difficult or expensive for a third party to acquire, or discourage a third
party from attempting to acquire control of the Company. Specifically, the
Company's Certificate and Bylaws will prohibit stockholder action by written
consent and limit the ability of stockholders to call special meetings. Also,
the Board of Directors of the Company has the power to issue "blank check"
preferred stock (the "Preferred Stock") with rights senior to the Common Stock
without approval by the stockholders of the Company. The Preferred Stock may
be issued from time to time with such designations, rights, preferences and
privileges as the Board of Directors may determine and may adversely affect
the rights of the Common Stock. See "Description of Capital Stock--Certain
Provisions of Delaware General Corporation Law."
NO ASSURANCE OF ACTIVE TRADING MARKET FOR COMMON STOCK
Prior to this Offering, there has been no public market for the Common Stock
of the Company. Although the Company intends to apply for quotation of the
Common Stock on the Nasdaq National Market, there can be no assurance that an
active public trading market for the Common Stock will develop after the
Offering or that, if developed, it will be sustained. The public offering
price of the Common Stock offered hereby has been determined by negotiations
between the Company and the Representatives of the Underwriters and may not be
indicative of the price at which the Common Stock will trade after the
Offering. See "Underwriting." Consequently, there can be no assurance that the
market price for the Common Stock will not fall below the initial public
offering price.
POSSIBLE VOLATILITY OF STOCK PRICE; EFFECT OF FUTURE OFFERINGS MAY ADVERSELY
AFFECT MARKET PRICE OF COMMON STOCK
The market price of the Common Stock may experience fluctuations that are
unrelated to the Company's operating performance. In particular, the price of
the Common Stock may be affected by general market price movements as well as
developments specifically related to the commercial finance industry such as,
among other
25
<PAGE>
things, interest rate movements. In addition, the Company's operating income
on a quarterly basis is significantly dependent upon the successful completion
of the Company's loan securitizations and whole loan sales in the market, and
the Company's inability to complete significant loan sale transactions in a
particular quarter may have a material adverse impact on the Company's results
of operations for that quarter and could, therefore, negatively impact the
price of the Common Stock.
The Company may increase its capital by making additional private or public
offerings of its Common Stock, securities convertible into its Common Stock or
debt securities. The effect of such offerings, the timing of which cannot be
predicted, may be the dilution of the book value or earnings per share of the
Common Stock outstanding, if the Company issues or plans to issue additional
shares at a price below the then net tangible book value per share of the
Company's Common Stock. Such an event may result in the reduction of the
market price of the Common Stock.
SHARES ELIGIBLE FOR FUTURE SALE MAY ADVERSELY AFFECT THE MARKET PRICE OF THE
COMPANY'S COMMON STOCK
The sales of substantial amounts of the Company's Common Stock in the public
market or the prospect of such sales could materially and adversely affect the
market price of the Common Stock. Upon completion of this Offering, the
Company will have outstanding 27,825,000 shares of Common Stock. The
10,000,000 shares of Common Stock offered hereby will be immediately eligible
for sale in the public market without restriction beginning on the date of
this Prospectus. The remaining 17,825,000 shares of Common Stock are
restricted in nature and are saleable to the extent permitted for "affiliates"
pursuant to Rule 144 under the Securities Act. The Company and the Selling
Stockholders have agreed that they will not, without the prior written consent
of NationsBanc Montgomery Securities, Inc. (which consent may be withheld in
its sole discretion) and subject to certain limited exceptions, sell,
transfer, or otherwise dispose of any shares of Common Stock, options or
warrants to acquire Common Stock, or securities exchangeable or exercisable
for or convertible into Common Stock for a period commencing on the date of
this Prospectus and continuing to a date 180 days after such date. See "Shares
Eligible for Future Sale" and "Underwriting." Additionally, it is expected
that stock options for 1,209,400 shares of Common Stock will be granted to
certain employees, officers and directors of the Company on the date of this
Offering at a per share exercise price equal to the initial public offering
price, not more than 20% of which, except in the event of a change of control
of the Company, will be exercisable on that date which is one year from the
date of this Offering. The Stock Option Plan authorizes the grant of options
to purchase, and awards of, an aggregate of up to 10% of the shares of the
Company's Common Stock to be outstanding after this Offering, including any
shares issued pursuant to the Underwriters' over-allotment option, but not
less than 2,700,000 Shares. The Company intends to register under the
Securities Act shares reserved for issuance pursuant to the Stock Option Plan.
The Company has entered into a registration rights agreement (the "ICII
Registration Rights Agreement") pursuant to which the Company has agreed to
file one or more registration statements under the Securities Act in the
future for shares of the Company held by ICII, subject to certain conditions
set forth therein. Pursuant to the ICII Registration Rights Agreement, the
Company will use its reasonable efforts to cause such registration statements
to be kept continuously effective for the public sale from time to time of the
shares of the Company held by ICII. Also, under the ICII Registration Rights
Agreement, FLRT, Inc. has certain piggyback registration rights with respect
to a demand registration statement initiated by ICII concerning shares of the
Company's Common Stock held by ICII; provided however that for a period of
three years following the date of this Prospectus, FLRT, Inc. is limited in
the amount of shares of the Company's Common Stock it can sell to that amount
authorized pursuant to Rule 144. Thereafter, or in the event that Mr. Knyal's
employment is terminated by the Company without cause or by Mr. Knyal for good
reason (as defined in his employment agreement), FLRT, Inc. shall have
registration rights similar to those granted to ICII under the ICII
Registration Rights Agreement without any volume limitations. See
"Management--Executive Compensation--Employment Agreement."
26
<PAGE>
IMMEDIATE AND SUBSTANTIAL DILUTION
The initial public offering price is substantially higher than the book
value per outstanding share of the Common Stock. Purchasers of the Common
Stock will experience immediate and substantial dilution in net tangible book
value of $14.17 per share of Common Stock from the initial public offering
price per share of Common Stock. See "Dilution."
ABSENCE OF DIVIDENDS
Following the completion of the Offering, the Company intends to retain
earnings to finance the growth and development of its business. Accordingly,
the Company does not anticipate paying cash dividends on the Common Stock in
the foreseeable future.
27
<PAGE>
THE REORGANIZATION
The Company's predecessor, FLRT, Inc. (formerly Franchise Mortgage
Acceptance Corporation), was incorporated by Wayne L. Knyal as a California
corporation in April 1991 and was wholly owned by him at that time. FLRT, Inc.
and certain individuals formed a limited partnership for the purpose of
originating and securitizing franchise loans. As the general partner of such
limited partnership, FLRT, Inc. owned the sole rights to service such loans
(the "FLRT Servicing Contracts"). In March 1993, Mr. Knyal entered into a
joint venture with Greenwich Capital Financial Products, Inc. ("Greenwich")
pursuant to which Mr. Knyal became the president of the Franchise Mortgage
Acceptance Company division (the "FMAC Division") of Greenwich. Between March
1993 and June 1995, the Company originated and securitized franchise loans
through the FMAC Division. However, FLRT, Inc. retained all rights to the FLRT
Servicing Contracts.
On June 30, 1995, ICII acquired from Greenwich certain assets of the FMAC
Division, including all of Greenwich's rights under certain servicing
contracts entered into by the FMAC Division (the "FMAC Servicing Contracts")
and a $410,000 obligation owed by Mr. Knyal to Greenwich (see "Certain
Transactions"). The FMAC Servicing Contracts pertain to the servicing of
franchise loans that were previously securitized by Greenwich through the FMAC
Division and other franchise loans owned by Greenwich and not yet securitized.
Concurrent with the closing of the transactions described above, ICII entered
into an operating agreement with Mr. Knyal for the formation of Franchise
Mortgage LLC. In connection with the acquisition, Franchise Mortgage LLC or
its affiliates assumed certain liabilities related to the FMAC Servicing
Contracts and Greenwich agreed to act as Franchise Mortgage LLC's exclusive
agent in connection with the securitization of franchise loans for a period of
24 months.
Franchise Mortgage LLC was formed to originate, securitize and service
franchise loans. Under the terms of the operating agreement, in exchange for a
66.7% ownership interest in Franchise Mortgage LLC, ICII was obligated to
contribute to Franchise Mortgage LLC $1.3 million in cash and all of the
assets purchased from Greenwich. In exchange for a 33.3% ownership interest in
Franchise Mortgage LLC, Knyal caused FLRT, Inc., to contribute to Franchise
Mortgage LLC all of its rights under the FLRT Servicing Contracts.
Immediately prior to this Offering, Franchise Mortgage LLC will merge into
Franchise Mortgage Acceptance Company, a Delaware corporation which was
incorporated in August 1997 for the purpose of succeeding to the business of
Franchise Mortgage LLC (the "Reorganization"). Although Franchise Mortgage
Acceptance Company has been organized, it has not commenced operations and has
no assets, liabilities or contingent liabilities. As a result of the
Reorganization, the historical financial statements of Franchise Mortgage LLC
will become those of Franchise Mortgage Acceptance Company; for this reason,
separate financial statements of Franchise Mortgage Acceptance Company are not
presented herein. As a result of the Reorganization, immediately prior to this
Offering ICII will own 66.7% and FLRT, Inc. will own 33.3%, respectively, of
the outstanding shares of Common Stock of Franchise Mortgage Acceptance
Company. Mr. Knyal currently beneficially owns 85% of the Common Stock of the
Company held by FLRT, Inc.
Since July 1, 1995, the Company has been treated as a partnership for
federal and state income tax purposes. As a result, the income of the Company
has not been subject to federal or state income taxation. The members of
Franchise Mortgage LLC (ICII and FLRT, Inc.) are liable for individual federal
and state income taxes on their allocated portions of the Company's taxable
income. The Company's status as an LLC will be automatically terminated as a
result of the Reorganization. The Company has agreed to indemnify each of ICII
and FLRT, Inc. for any federal or state income taxes, including penalties and
interest thereon, imposed by any taxing authority with respect to, for, or
fairly attributable to the operations of Franchise Mortgage LLC for the period
from July 1, 1995 through the effective date of this Offering. Notwithstanding
the foregoing, each of ICII and FLRT, Inc. has agreed to indemnify the Company
for all taxes, including penalties and interest thereon, resulting from any
determination made by a taxing authority that Franchise Mortgage LLC should be
determined for tax purposes to be an association taxable as a corporation and
only to the extent that such taxes pertain to the income of Franchise Mortgage
LLC as originally reported on its income tax return for the period in question
and solely to the extent of any LLC distributions made by Franchise Mortgage
LLC to ICII and FLRT, Inc.
28
<PAGE>
USE OF PROCEEDS
The net proceeds to be received by the Company from the sale of the
5,937,500 shares of Common Stock offered by the Company (after deducting the
estimated underwriting discount and offering expenses payable by the Company),
are estimated to be $98.9 million. The Company intends to apply the net
proceeds from this Offering (i) to repay demand indebtedness owed to ICII
($10.0 million was owed to ICII as of June 30, 1997 at an interest rate of 12%
per annum; amounts owed to ICII will increase by an amount currently estimated
to be $3.0 million (this amount may increase depending on the level of
Franchise Mortgage LLC's taxable income immediately prior to the completion of
this Offering) to fund the Final LLC Distribution), (ii) to fund future loan
and lease originations and equity investments and (iii) for general corporate
purposes. Prior to the Reorganization, the Company's excess liquidity needs
were funded by ICII. Excess liquidity needs of the Company have primarily
included the haircut on loan originations and investments in certain equity
ownership interests. Prior to their eventual use, the net proceeds will be
invested in high quality, short-term investment instruments such as short-term
corporate investment grade or United States Government interest-bearing
securities. The Company will not receive any proceeds from the sale of Common
Stock by the Selling Stockholders.
LLC DISTRIBUTIONS
Since July 1, 1995, the Company has been treated as a partnership for
federal and state income tax purposes. As a result, the income of the Company
has not been subject to federal and state income taxation. The members of
Franchise Mortgage LLC (ICII and FLRT, Inc.) are liable for individual federal
and state income taxes on their allocated portions of the Company's taxable
income. The Company's status as an LLC will be automatically terminated as a
result of this Offering.
For the six months ended June 30, 1997 and the six months ended December 31,
1995, the Company distributed approximately $6.3 million and $3.8 million,
respectively, to its members which distributions were funded with cash on hand
and borrowings. This amount represents a portion of the Company's earnings
through June 30, 1997. The Company will make the Final LLC Distribution
currently estimated to be $3.0 million (this amount may increase depending on
the level of Franchise Mortgage LLC's taxable income immediately prior to the
completion of this Offering) immediately prior to the completion of this
Offering, such payment will be funded with a short term loan from ICII
repayable with a portion of the net proceeds of this Offering. See "Use of
Proceeds."
Purchasers of Common Stock in the Offering will not receive any portion of
the Final LLC Distribution. Following termination of its status as an LLC, the
Company will be subject to federal and state corporate income taxation. See
"Capitalization" and Notes 3, 4 and 14 of Notes to Financial Statements.
DIVIDEND POLICY
Except as described herein under "LLC Distributions," the Company has never
paid any cash dividends on its Common Stock. The Company intends to retain all
of its future earnings to finance its operations and does not anticipate
paying cash dividends in the foreseeable future. Any decision made by the
Company's Board of Directors to declare dividends in the future will depend
upon the Company's future earnings, capital requirements, financial condition
and other factors deemed relevant by the Company's Directors. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
29
<PAGE>
DILUTION
The pro forma net tangible book value of the Company's Common Stock at June
30, 1997 was approximately $7.5 million or $0.34 per share. Pro forma net
tangible book value per share represents total tangible assets reduced by the
amount of total liabilities, divided by the number of shares of Common Stock
outstanding, after giving effect to (i) the Reorganization, (ii) the Final LLC
Distribution of $3.0 million (this amount may increase depending on the level
of Franchise Mortgage LLC's taxable income immediately prior to the completion
of this Offering) and repayment thereof with a portion of the net proceeds of
this Offering (see "LLC Distributions") and (iii) the recording by the Company
of deferred income taxes as if the Company were treated as a C Corporation at
June 30, 1997, and the reclassification of members' capital to additional
paid-in capital in connection therewith. After giving effect to the sale by
the Company of the shares of Common Stock offered by the Company hereby at the
initial public offering price of $18.00 per share (after deducting the
estimated underwriting discount and offering expenses), the pro forma as
adjusted net tangible book value of the Company at June 30, 1997 would have
been $106.4 million or $3.83 per share of Common Stock. This represents an
immediate increase in pro forma net tangible book value of $3.49 per share to
existing stockholders and an immediate dilution of $14.17 per share to new
investors purchasing shares in this Offering. The following table illustrates
this per share dilution:
<TABLE>
<S> <C> <C>
Initial public offering price per share.......................... $18.00
Pro forma net tangible book value per share as of June 30,
1997.......................................................... $0.34
Increase per share attributable to new investors............... 3.49
-----
Pro forma as adjusted net tangible book value per share after
this Offering................................................... 3.83
------
Dilution per share to new investors.............................. $14.17
======
</TABLE>
The following table summarizes, on a pro forma basis as of June 30, 1997,
after giving effect to the adjustments set forth above, the number of shares
of Common Stock purchased from the Company, the total consideration paid to
the Company and the average price per share of Common Stock paid by the
existing stockholders and by the new investors in this Offering:
<TABLE>
<CAPTION>
SHARES OWNED
AFTER THE OFFERING TOTAL CONSIDERATION
------------------ -------------------- AVERAGE PRICE
NUMBER PERCENT AMOUNT PERCENT PER SHARE
---------- ------- ------------ ------- -------------
<S> <C> <C> <C> <C> <C>
Existing stockholders..... 17,825,000 64.1% $ 12,080,000 6.3% $0.68
New investors............. 10,000,000 35.9 180,000,000 93.7 18.00
---------- ----- ------------ -----
Total................... 27,825,000 100.0% $192,080,000 100.0%
========== ===== ============ =====
</TABLE>
30
<PAGE>
CAPITALIZATION
The following table sets forth the capitalization of the Company (i) on an
actual basis as of June 30, 1997 (when the Company was an LLC), (ii) on a pro
forma basis to reflect (A) the Reorganization, (B) the Final LLC Distribution
of $3.0 million (this amount may increase depending on the level of Franchise
Mortgage LLC's taxable income immediately prior to the completion of this
Offering) immediately prior to the completion of this Offering, such amount to
be funded with a short term loan from ICII (see "LLC Distributions") and (C)
the recording by the Company of $7.0 million of deferred income taxes as if
the Company were treated as a C Corporation at June 30, 1997 and the
reclassification of members' capital to additional paid-in capital in
connection therewith and (iii) on a pro forma as adjusted basis to give effect
to the issuance and sale of the shares of Common Stock offered by the Company
at the initial public offering price of $18.00 per share (after deducting the
estimated underwriting discount and offering expenses payable by the Company)
and the anticipated applications of the net proceeds therefrom. This table
should be read in conjunction with the Financial Statements and the Notes
thereto included elsewhere in this Prospectus.
<TABLE>
<CAPTION>
AT JUNE 30, 1997
--------------------------------
PRO PRO FORMA
ACTUAL FORMA AS ADJUSTED(1)
-------- -------- --------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
Borrowings.................................... $195,922 $195,922 $195,922
Payable to ICII............................... 9,997 12,997 --
-------- -------- --------
Total borrowings............................ 205,919 208,919 195,922
Members' equity(2)............................ 22,098 -- --
Stockholders' equity:
Preferred Stock, $.001 par value; 10,000,000
shares authorized; none issued and
outstanding actual, pro forma and pro forma
as adjusted................................ -- -- --
Common Stock, $.001 par value; 100,000,000
shares authorized(3); no shares issued and
outstanding actual; 21,887,500 shares
issued and outstanding, pro forma;
27,825,000 shares issued and outstanding,
pro forma as adjusted...................... -- 22 28
Additional paid-in capital.................. -- 12,058 110,991
-------- -------- --------
Total stockholders' equity................ -- 12,080 111,019
-------- -------- --------
Total capitalization...................... $228,017 $220,999 $306,941
======== ======== ========
</TABLE>
- --------
(1) After deducting the estimated underwriting discount and offering expenses
payable by the Company, and assuming no exercise of the Underwriters'
over-allotment option.
(2) Members' equity consists of approximately $5.8 million of members' capital
and $16.3 million of retained earnings.
(3) Excludes shares reserved for issuance pursuant to the Company's Stock
Option Plan. The Stock Option Plan authorizes the grant of options to
purchase, and awards of, an aggregate of up to 10% of the shares of the
Company's Common Stock to be outstanding after this Offering, including
any shares issued pursuant to the Underwriters' over-allotment option, but
not less than 2,700,000 shares. Options to acquire 1,209,400 shares are
expected to be granted to employees, officers and directors of the Company
at the effective date of this Offering at a per share exercise price equal
to the initial public offering price. See "Management--Stock Options."
31
<PAGE>
SELECTED FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA AND RATIOS)
The selected statement of operations data for the six months ended June 30,
1997, the year ended December 31, 1996, the six months ended June 30, 1995 and
December 31, 1995, and the year ended December 31, 1994, and the selected
balance sheet data as of June 30, 1997, and December 31, 1996 and 1995, have
been derived from audited financial statements of the Company which, together
with the notes thereto and the related report of KPMG Peat Marwick LLP,
independent certified public accountants, are included in this Prospectus. The
selected statement of operations data for the six months ended June 30, 1996,
and the years ended December 31, 1993 and 1992, and the selected balance sheet
data as of December 31, 1994, 1993 and 1992, have been derived from the
unaudited financial statements of the Company not included herein, and include
all adjustments, consisting solely of normal recurring accruals, which
management considers necessary for a fair presentation of such financial
information for those periods. Results of operations for the six months ended
June 30, 1997 are not necessarily indicative of results to be expected for the
year ended December 31, 1997, or a full year. Financial information for
periods ended and dates prior to July 1, 1995, represent that of the Company's
predecessors.
<TABLE>
<CAPTION>
PREDECESSOR
----------------------------------
SIX MONTHS ENDED SIX MONTHS SIX MONTHS YEARS ENDED
JUNE 30, YEAR ENDED ENDED ENDED DECEMBER 31,
---------------------- DECEMBER 31, DECEMBER 31, JUNE 30, -----------------------
1997 1996 1996 1995 1995 1994 1993 1992
------------- -------- ------------ ------------- ---------- ------- ------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS
DATA:
Revenues:
Gain on sales(1)....... $ 19,808 $ 12,520 $ 18,671 $ -- $ -- $ 4,052 $ 1,430 $ --
Net interest income.... 1,373 302 1,641 239 154 37 35 2
Loan servicing income.. 1,376 649 1,191 349 326 306 345 147
Other income........... -- 63 63 -- -- 68 -- --
-------- -------- -------- -------- ------- ------- ------- -----
Total revenues......... 22,557 13,534 21,566 588 480 4,463 1,810 149
-------- -------- -------- -------- ------- ------- ------- -----
Expenses:
Personnel and
commission............ 4,665 3,901 8,270 356 931 1,723 1,035 --
General and
administrative........ 1,467 495 1,094 294 684 1,804 2,952 306
Other.................. 2,462 1,375 2,878 597 776 1,664 1,718 --
-------- -------- -------- -------- ------- ------- ------- -----
Total expenses......... 8,594 5,771 12,242 1,247 2,391 5,191 5,705 306
-------- -------- -------- -------- ------- ------- ------- -----
Net income (loss)....... $ 13,963 $ 7,763 $ 9,324 $ (659) $(1,911) $ (728) $(3,895) $(157)
======== ======== ======== ======== ======= ======= ======= =====
Pro forma earnings
data(2):
Net income as
reported.............. $ 13,963 $ 7,763 $ 9,324
Pro forma income
taxes................. 5,935 3,366 3,873
-------- -------- --------
Pro forma net income... $ 8,028 $ 4,397 $ 5,451
======== ======== ========
Pro forma net income
per share(3).......... $ 0.37 $ 0.20 $ 0.25
======== ======== ========
Supplemental pro forma
earnings data(2):
Net income as
reported.............. $ 13,963
Establishment of
deferred
tax liability......... 7,018
--------
Supplemental pro forma
net income............ $ 6,945
========
Supplemental pro forma
net income per
share(3).............. $ 0.32
========
<CAPTION>
AS OF JUNE 30, 1997 AS OF DECEMBER 31,
---------------------- ------------------------------------------------------
PREDECESSOR
---------------------------
PRO FORMA (4) ACTUAL 1996 1995 1994 1993 1992
------------- -------- ------------ ------------- ---------- ------- -------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash
equivalents ........... $ 15 $ 15 $ -- $ -- $ 102 $ 205 $ 1
Securities available for
sale................... 2,581 2,581 39,349 -- 9,541 5,025 --
Loans and leases held
for sale............... 208,014 208,014 98,915 181,254 -- -- --
Retained interest in
loan
securitizations(5)..... 7,002 7,002 6,908 -- -- -- --
Accrued interest
receivable............. 1,137 1,137 560 1,108 138 39 --
Goodwill................ 4,571 4,571 4,332 4,226 -- -- --
Other assets............ 9,636 9,636 10,112 2,460 467 862 309
-------- -------- -------- -------- ------- ------- -------
Total assets........... 232,956 232,956 160,176 189,048 10,248 6,131 310
Payable to Imperial
Credit Industries,
Inc.................... 12,997 9,997 17,728 -- -- -- --
Overdraft............... -- -- 171 445 -- -- --
Borrowings.............. 195,922 195,922 125,240 181,632 13,548 7,160 460
Deferred income taxes... 7,018 -- -- -- -- -- --
Other liabilities....... 4,939 4,939 2,580 3,198 1,543 3,086 70
-------- -------- -------- -------- ------- ------- -------
Total liabilities...... 220,876 210,858 145,719 185,275 15,091 10,246 530
Members' equity......... -- $ 22,098 $ 14,457 $ 3,773 $(4,843) $(4,115) $(220)
======== ======== ======== ======= ======= =======
Common stock............ 22 --
Additional paid-in
capital................ 12,058
--------
Total stockholders
equity................ $ 12,080
========
</TABLE>
32
<PAGE>
<TABLE>
<CAPTION>
SIX MONTHS YEAR ENDED DECEMBER 31,
ENDED ----------------------------------------------
JUNE 30, 1997 1996 1995 1994 1993 1992
------------- -------- -------- -------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
OPERATING STATISTICS:
Loan originations:
Total loan
originations.......... $ 285,370 $456,981 $218,742 $109,166 $29,367 $26,101
Average initial
principal balance per
loan.................. $ 730 $ 837 $ 706 $ 635 $ 452 $ 458
Weighted average
interest rate:
Fixed rate loans....... 10.70% 10.29% 10.12% 10.21% 9.48% 10.94%
Variable rate loans.... 9.60% 9.34% 8.40% 8.13% -- % -- %
Equipment finance
originations:
Total equipment finance
originations.......... $ 15,247 $ 1,486 $ -- $ -- $ -- $ --
Average principal
balance per
financing............. $ 186 $ 149 $ -- $ -- $ -- $ --
Weighted average
interest rate......... 12.08% 12.14% -- % -- % -- % -- %
Total loan and lease
originations:.......... $ 300,617 $458,467 $218,742 $109,166 $29,367 $26,101
Loan sales:
Whole loan sales....... $ 15,349 $ -- $ -- $ -- $ -- $ --
Loans sold through
securitizations(1).... 158,554 325,088 147,972 105,686 28,973 --
---------- -------- -------- -------- ------- -------
Total................. $ 173,903 $325,088 $147,972 $105,686 $28,973 $ --
Loans and leases held in
servicing portfolio
(at period end)(6)..... $1,049,843 $737,176 $358,579 $180,367 $81,030 $55,164
Net charge-offs as a
percentage of total
servicing portfolio.... -- % -- % -- % -- % -- % -- %
</TABLE>
- --------
(1) Gain on sale for the six months ended June 30, 1997 and 1996 and the year
ended December 31, 1996 includes $18.4 million, $5.8 million and $11.9
million of cash gains, of which $2.4 million, $3.6 million and $7.8
million, respectively, represented loan fees. The gain on sale of loans
for the December 1995 securitization was not recognized until the first
quarter of 1996.
(2) From July 1, 1995 through the closing date of the Offering, the Company
qualified to be treated as a partnership for federal and state income tax
purposes. Pro forma earnings data reflect the Reorganization and the
income tax expense that would have been recorded had the Company not been
taxed as a partnership. As a result of terminating the Company's LLC
status upon completion of this Offering, the Company will be required to
record a one-time non-cash charge against historical earnings for deferred
income taxes. This charge will occur in the quarter ending December 31,
1997 and the year ending December 31, 1997. If this charge were recorded
at September 30, 1997, the amount would have been approximately $11.1
million. This amount is expected to increase through the closing date of
this Offering. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and Notes 3, 4 and 14 of Notes to
Financial Statements.
(3) 21,887,500 outstanding shares were used in computing pro forma and
supplemental pro forma earnings per share. See Note 3 of Notes to
Financial Statements.
(4) Pro forma balance sheet data reflects the Reorganization, the distribution
by Franchise Mortgage LLC to its members of the Final LLC Distribution of
$3.0 million (this amount may increase depending on the level of Franchise
Mortgage LLC's taxable income immediately prior to the completion of this
Offering) immediately prior to the completion of this Offering, such
amount to be funded with a short term loan from ICII repayable with a
portion of the net proceeds of this Offering, the recording by the Company
of deferred income taxes (see footnote (2) above), and the
reclassification of members' equity to additional paid-in capital in
connection therewith. See "LLC Distributions," "Use of Proceeds" and
"Management's Discussion and Analysis of Financial Condition and Results
of Operations."
(5) See Note 8 of Notes to Financial Statements.
(6) Total delinquencies, which include all loans and leases 90 or more days
past due as a percentage of all loans and leases held in the Company's
servicing portfolio, was 0.11% as of June 30, 1997.
33
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the Company's
financial statements and notes thereto appearing elsewhere herein.
THE REORGANIZATION
The Company's predecessor, FLRT, Inc. (formerly Franchise Mortgage
Acceptance Corporation), was incorporated by Wayne L. Knyal as a California
corporation in April 1991 and was wholly owned by him at that time. FLRT, Inc.
and certain individuals formed a limited partnership for the purpose of
originating and securitizing franchise loans. As the general partner of such
limited partnership, FLRT, Inc. owned the sole rights to the FLRT Servicing
Contracts. In March 1993, Mr. Knyal entered into a joint venture with
Greenwich pursuant to which Mr. Knyal became the president of the FMAC
Division. Between March 1993 and June 1995, the Company originated and
securitized franchise loans through the FMAC Division. However, FLRT, Inc.
retained all rights to the FLRT Servicing Contracts.
On June 30, 1995, ICII acquired from Greenwich certain assets of the FMAC
Division, including all of Greenwich's rights under the FMAC Servicing
Contracts and a $410,000 obligation owed by Mr. Knyal to Greenwich. See
"Certain Transactions." The FMAC Servicing Contracts pertain to the servicing
of franchise loans that were previously securitized by Greenwich through the
FMAC Division and other franchise loans owned by Greenwich and not yet
securitized. Concurrent with the closing of the transactions described above,
ICII entered into an operating agreement with Mr. Knyal for the formation of
Franchise Mortgage LLC. In connection with the acquisition, Franchise Mortgage
LLC or its affiliates assumed certain liabilities related to the FMAC
Servicing Contracts and Greenwich agreed to act as Franchise Mortgage LLC's
exclusive agent in connection with the securitization of franchise loans for a
period of 24 months.
Franchise Mortgage LLC was formed to originate, securitize and service
franchise loans. Under the terms of the operating agreement, in exchange for a
66.7% ownership interest in Franchise Mortgage LLC, ICII was obligated to
contribute to Franchise Mortgage LLC $1.3 million in cash and all of the
assets purchased from Greenwich. In exchange for a 33.3% ownership interest in
Franchise Mortgage LLC, Knyal caused FLRT, Inc. to contribute to Franchise
Mortgage LLC all of its rights under the FLRT Servicing Contracts.
Immediately prior to this Offering, Franchise Mortgage LLC will effectuate
the Reorganization whereby it will merge into Franchise Mortgage Acceptance
Company, a Delaware corporation which was incorporated in August 1997 for the
purpose of succeeding to the business of Franchise Mortgage LLC. As a result
of the Reorganization, ICII will own 66.7% and FLRT, Inc. will own 33.3%,
respectively, of the outstanding shares of Common Stock of Franchise Mortgage
Acceptance Company. Mr. Knyal currently beneficially owns 85% of the Common
Stock of the Company held by FLRT, Inc.
In connection with the LLC Termination Date, the Company will make the Final
LLC Distribution currently estimated to be $3.0 million (this amount may
increase depending on the level of Franchise Mortgage LLC's taxable income
immediately prior to the completion of this Offering) to the members of
Franchise Mortgage LLC. See "LLC Distributions" and Notes 3, 4 and 14 of Notes
to Financial Statements.
The accompanying statements of operations and cash flows for the six months
ended June 30, 1995, and the year ended December 31, 1994, are those of the
Company's predecessor when it was a division of Greenwich. Revenues and
interest expense appearing on such statements of operations result from assets
and debt of such division accounted for separately by Greenwich. Personnel and
commission expense appearing on such statements of operations apply to the
employees of such division, and such expense was also accounted for separately
by Greenwich. All other expenses of such division were either directly
assigned or allocated to the predecessor division by Greenwich based on either
actual utilization or the number of such division's employees.
34
<PAGE>
ACCOUNTING FOR GAIN ON SALE
The gain on sale of loans in a securitization is computed as cash received
from securitization plus the fair value of any retained interests held from a
loan securitization less the book value of the loans sold (including par value
of loans, plus or minus premiums, discounts and unearned loan fees) less any
reserves required to be held by a securitization trust. The fair value of
retained interests in loan securitizations is computed as the present value of
the estimated cash flows associated with the retained interest, using an
appropriate discount factor and prepayment and credit loss assumptions.
LOAN AND LEASE ORIGINATIONS
The following table summarizes the Company's loan and lease originations for
the six months ended June 30, 1997 and 1996 and the years ended December 31,
1996, 1995, 1994, 1993 and 1992.
<TABLE>
<CAPTION>
SIX MONTHS ENDED YEAR ENDED
JUNE 30, DECEMBER 31,
------------------ ----------------------------------------------
1997 1996 1996 1995 1994 1993 1992
-------- -------- -------- -------- -------- ------- -------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
Loan originations:
Principal balance...... $285,370 $208,221 $456,981 $218,742 $109,166 $29,367 $26,101
Number of loans........ 391 281 546 310 172 65 57
Average initial
principal balance per
loan.................. $ 730 $ 741 $ 837 $ 706 $ 635 $ 452 $ 458
Weighted average
interest rate:
Fixed rate loans....... 10.70% 10.17% 10.29% 10.12% 10.21% 9.48% 10.94%
Variable rate loans.... 9.60% 9.13% 9.34% 8.40% 8.13% -- % -- %
Equipment finance
originations:
Equipment finance
balance............... $ 15,247 $ 140 $ 1,486 $ -- $ -- $ -- $ --
Number of financings... 82 1 10 -- -- -- --
Average initial balance
per financing ........ $ 186 $ 140 $ 149 $ -- $ -- $ -- $ --
Weighted average
interest rate......... 12.08% 11.99% 12.14% -- % -- % -- % -- %
Total loan and lease
originations........... $300,617 $208,361 $458,467 $218,742 $109,166 $29,367 $26,101
</TABLE>
RESULTS OF OPERATIONS
Impact of Change in Tax Status
Prior to the completion of this Offering, the Company qualified to be taxed
as a partnership. As such, the Company was not responsible for federal or
state income taxes. As a result of the change in tax status effective with the
completion of this Offering, the Company will, in future periods, provide for
all income taxes at statutory rates. These factors are estimated to result in
an effective tax rate for periods subsequent to the Offering of approximately
42%. However, for the three-month period in which the Offering closes, the
Company will record a one-time non-cash charge for the quarter ending December
31, 1997 and for the year ending December 31, 1997 for deferred income taxes
based upon the change in the Company's status to a C Corporation. If such a
charge were recorded at September 30, 1997, the amount would have been
approximately $11.1 million. This amount is expected to increase through the
closing date for this Offering. For further information see Notes 3, 4 and 14
of Notes to Financial Statements.
Six Months Ended June 30, 1997 Compared to Six Months Ended June 30, 1996
The following discussion relates to a comparison of the Company's results of
operations for the six months ended June 30, 1997 compared to six months ended
June 30, 1996; percentage increases in the line items discussed below for the
six months ended June 30, 1997 compared to the six months ended June 30, 1996
are not expected to reach similar levels in future periods. Results of
operations for the six months ended June 30, 1997 are not necessarily
indicative of results to be expected for the year ended December 31, 1997, or
a full year.
35
<PAGE>
<TABLE>
<CAPTION>
SIX MONTHS SIX MONTHS
ENDED ENDED
JUNE 30, 1997 JUNE 30, 1996
------------- -------------
(IN THOUSANDS)
<S> <C> <C>
Revenues:
Gain on sale of loans.............................. $19,808 $12,520
Interest income.................................... 10,767 1,257
Interest expense................................... (9,394) (955)
------- -------
Net interest income.............................. 1,373 302
Loan servicing income.............................. 1,376 649
Other income....................................... -- 63
------- -------
Total revenues................................... 22,557 13,534
------- -------
Expenses:
Personnel and commission........................... 4,665 3,901
Professional services.............................. 1,176 602
Travel............................................. 524 202
Business promotion................................. 316 198
Occupancy.......................................... 277 122
Goodwill amortization.............................. 169 251
General and administrative......................... 1,467 495
------- -------
Total expenses................................... 8,594 5,771
------- -------
Net income....................................... $13,963 $ 7,763
======= =======
</TABLE>
Total revenues increased 66.7% to $22.6 million for the six months ended
June 30, 1997 from $13.5 million for the comparable period in 1996. During the
same periods, the Company's total expenses increased 48.9% to $8.6 million
from $5.8 million. As a result, the Company's net income increased 79.9% to
$14.0 million for the six months ended June 30, 1997 as compared to $7.8
million for the comparable period in 1996.
The increase in revenues was primarily attributable to a $7.3 million
increase in gain on sale of loans. For the six months ended June 30, 1997, the
Company sold approximately $158.6 million of loans in a securitization for a
gain on sale of $18.8 million (of which $18.4 million was cash) as compared to
$272.6 million of loans sold in two securitizations for a gain on sale of
$12.5 million (of which $5.8 million was cash) for the six months ended June
30, 1996. The Company also recognized a gain on sale of $1.0 million in the
six months ended June 30, 1997 from a whole loan sale of approximately $15.3
million. The increased gain on sale of loans was due to several factors,
including the composition of loans in the securitization, the structure of the
securitization, market conditions at the time of the securitization
transaction and the fact that the Company was successful in selling all
classes of securitization interests. There can be no assurance that the
Company can recognize comparable gains on sale in any future period.
Net interest income also contributed to the increase in revenues, increasing
354.6% to $1.4 million for the six months ended June 30, 1997 as compared to
$0.3 million for the same period in 1996, primarily due to the significant
increase in loans and leases held for sale which resulted from increased loan
and lease originations.
Additionally, loan servicing income increased 112.0% to $1.4 million for the
six months ended June 30, 1997 as compared to $0.7 million for the same period
in 1996. This was due to an increase in loans and leases serviced which
resulted from the securitization of $325.1 million in loans from June 1996
through December 1996 with servicing rights retained by the Company.
Total expenses increased 48.9% to $8.6 million for the six months ended June
30, 1997 as compared to $5.8 million for the same period of the prior year
primarily due to infrastructure additions needed to fund increased loan and
lease originations. Personnel expenses increased 19.6% to $4.7 million,
professional services increased 95.3% to $1.2 million and general and
administrative expenses increased 196.4% to $1.5 million for the six months
ended June 30, 1997 as compared to the six months ended June 30, 1996.
36
<PAGE>
Year Ended December 31, 1996 Compared to Year Ended December 31, 1995
The following discussion relates to a comparison of the Company's results of
operations for the year ended December 31, 1996, compared to the year ended
December 31, 1995; percentage increases in the line items discussed below for
the year ended December 31, 1996 compared to the year ended December 31, 1995
are not expected to reach similar levels in future years.
<TABLE>
<CAPTION>
PRO FORMA
YEAR ENDED YEAR ENDED
DECEMBER 31, 1996 DECEMBER 31, 1995(1)
----------------- --------------------
(IN THOUSANDS)
<S> <C> <C>
Revenues:
Gain on sale of loans................... $ 18,671 $ --
Interest income......................... 16,130 3,050
Interest expense........................ (14,489) (2,657)
-------- -------
Net interest income................... 1,641 393
Loan servicing income................... 1,191 675
Other income............................ 63 --
-------- -------
Total revenues........................ 21,566 1,068
-------- -------
Expenses:
Personnel and commission................ 8,270 1,287
Professional services................... 1,093 583
Travel.................................. 614 337
Business promotion...................... 450 158
Occupancy............................... 310 149
Goodwill amortization................... 411 146
General and administrative.............. 1,094 978
-------- -------
Total expenses........................ 12,242 3,638
-------- -------
Net income (loss)..................... $ 9,324 $(2,570)
======== =======
</TABLE>
- --------
(1) The statement of operations for the six months ended December 31, 1995 and
the predecessor statement of operations for the six months ended June 30,
1995 have been combined to show a 12 month period for the purpose of
comparing to the year ended December 31, 1996.
Total revenues increased 1,919.3% to $21.6 million for the year ended
December 31, 1996 from $1.1 million for the year ended December 31, 1995. For
the same years, the Company's total expenses increased 236.5% to $12.2 million
from $3.6 million. As a result, the Company's net income increased to $9.3
million for the year ended December 31, 1996 as compared to a loss of $2.6
million for 1995.
The $20.5 million increase in revenues for the year ended December 31, 1996
was primarily attributable to the sale of approximately $430.3 million of
loans in securitizations, resulting in an $18.7 million gain on sale (of which
$11.9 million was cash). The Company securitized $105.2 million of loans for
the six months ended December 31, 1995; however, for accounting purposes, the
transaction was precluded from sale treatment until the first quarter of 1996
at which time the retained interests were sold to an affiliate of ICII.
Net interest income also contributed to the increase in revenues, increasing
317.6% to $1.6 million for the year ended December 31, 1996 as compared to
$0.4 million for the year ended December 31, 1995, due to the significant
increase in loans and leases held for sale which primarily resulted from a
108.9% increase in loan originations to $457.0 million in 1996 as compared to
$218.7 million in 1995.
Additionally, loan servicing income increased 76.4% to $1.2 million for the
year ended December 31, 1996 from $0.7 million for the year ended December 31,
1995. This was due to the increase in loans serviced which resulted from the
securitization of $167.4 million in loans in June 1996 and $105.2 million in
loans in 1995, with servicing rights retained by the Company.
The 236.5% increase in total expenses to $12.2 million for the year ended
December 31, 1996 compared to $3.6 million for the year ended December 31,
1995 primarily resulted from the growth in operations of the Company due to
the dramatic increase in loan originations. Personnel expenses increased $7.0
million or 542.6%, professional services increased $0.5 million or 87.5% and
travel and business promotion expenses increased $0.6 million or 114.9% for
the year ended December 31, 1996 as compared to the year ended December 31,
1995.
37
<PAGE>
Year Ended December 31, 1995 Compared to Year Ended December 31, 1994
<TABLE>
<CAPTION>
PRO FORMA
YEAR ENDED YEAR ENDED
DECEMBER 31, 1995(1) DECEMBER 31, 1994
-------------------- -----------------
(IN THOUSANDS)
<S> <C> <C>
Revenue:
Gain on sale of loans................... $ -- $4,052
Interest income......................... 3,050 1,445
Interest expense........................ (2,657) (1,408)
------- ------
Net interest income................... 393 37
Loan servicing income................... 675 306
Other income............................ -- 68
------- ------
Total revenue......................... 1,068 4,463
------- ------
Expense:
Personnel and commission................ 1,287 1,723
Professional services................... 583 1,057
Travel.................................. 337 340
Business promotion...................... 158 170
Occupancy............................... 149 97
Goodwill amortization................... 146 --
General and administrative.............. 978 1,804
------- ------
Total expense......................... 3,638 5,191
------- ------
Net loss.............................. $(2,570) $ (728)
======= ======
</TABLE>
- --------
(1) The statement of operations for the six months ended December 31, 1995 and
the predecessor statement of operations for the six months ended June 30,
1995 have been combined to show a 12 month period for the purpose of
comparing to the year ended December 31, 1994.
Total revenues decreased 76.1% to $1.1 million for the year ended December
31, 1995 from $4.5 million for the comparable period in 1994. Over this
period, the Company's total expenses decreased 29.9% to $3.6 million from $5.2
million. As a result, the Company's net loss increased by $1.8 million to $2.6
million.
Revenue decreased $3.4 million from 1994 to 1995 largely as a result of a
$4.1 million decline in gain on sale of loans. In December 1995, the Company
securitized and sold $105.2 million in loans. The related gain on this sale of
$4.5 million was deferred for accounting purposes until the first quarter of
1996. Additionally, $44.6 million of loans originated by the Company during
1995 were retained by Greenwich at the time ICII acquired the FMAC Division
assets from Greenwich. Greenwich securitized and sold such loans in October
1995. Accordingly, the gain on such sale recognized by Greenwich has not been
included in the Company's 1995 revenues since such loans were not owned by the
Company at the time of sale.
Offsetting the decrease in gain on sale of loans was an increase in net
interest income of 962.2% to $0.4 million for the year ended December 31, 1995
as compared to $37,000 for the year ended December 31, 1994, primarily due to
the increase in loans held for sale which resulted from a 100.4% increase in
loan originations to $218.7 million in 1995 as compared to $109.2 million in
1994.
Also offsetting the decrease in gain on sale of loans was an increase in
loan servicing income of 120.6% to $0.7 million for the year ended December
31, 1995 as compared to $0.3 million for 1994.
The 29.9% decrease in total expenses to $3.6 million for the year ended
December 31, 1995 compared to $5.2 million for the year ended December 31,
1994 primarily resulted from the reduction of parent company allocated
expenses for Franchise Mortgage LLC as compared to its predecessor.
38
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
The Company requires access to short-term warehouse lines of credit and
repurchase facilities in order to fund loan and lease originations pending
sale or securitization of such loans and leases. At June 30, 1997, the Company
had the following warehouse lines of credit and repurchase facilities, each of
which was guaranteed by ICII:
<TABLE>
<CAPTION>
INTEREST COMMITMENT PRINCIPAL
LENDER EXPIRATION DATE INDEX RATE AMOUNT OUTSTANDING
------ --------------- ----- -------- ---------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Credit Suisse First Boston December 31, 1998 Libor plus 160 to 235 basis points 7.29% $300,000 $167,447
Banco Santander June 1, 1998 Libor plus 160 basis points 7.29% 50,000 16,465
Sanwa Bank(1) September 30, 1997 Eurodollar plus 200 basis points 7.50% 15,000 12,010
-------- --------
Total......................................................................... $365,000 $195,922
======== ========
</TABLE>
- --------
(1) In October 1997, the expiration date of this facility was extended to June
30, 1998, the index was reduced to Eurodollars plus 160 basis points and
the commitment amount was increased to $25 million.
In October 1997, the Company finalized a warehouse line of credit with
Morgan Stanley for a commitment amount of $200 million, bearing interest at
rates ranging from Libor plus 95 to 155 basis points, depending upon the loan
product type. This warehouse line of credit is expected to provide additional
financing for the Company's continued growth in loan and lease originations
and it is not guaranteed by ICII.
The Company is currently negotiating with a major investment bank to form a
joint venture pursuant to which all loan and lease activities of the Company's
Golf Finance Group would be exclusively conducted by a new entity which would
be 50% owned and managed by each of the Company and the investment bank. In
connection therewith, the investment bank would make available to the new
entity a 12 month $100.0 million warehouse line of credit bearing interest at
Libor plus 100 basis points.
The Company also has a master purchase and sale agreement with Southern
Pacific Thrift and Loan Association, a wholly owned subsidiary of ICII
("SPTL") to originate loans for SPTL under mutual agreement, and subject to
SPTL underwriting each such loan prior to sale of such loans. Under this
agreement, the Company also has the ability to repurchase loans, under mutual
agreement with SPTL. There is no specified commitment by either party, and
each individual sale is negotiated separately as to pricing. This agreement
has no expiration date. At June 30, 1997, loans originated for SPTL (and not
repurchased), totaled approximately $104.3 million. The Company does not
expect to originate a significant volume of loans for SPTL under this
arrangement in the future.
The Company's sources of operating cash flow include: (i) loan origination
income and fees; (ii) net interest income on loans held for sale; (iii) cash
servicing income; (iv) premiums obtained in sales of whole loans and (v) cash
proceeds from loan securitization. Cash from loan origination fees, net
interest income on loans held for sale and loan servicing fees, as well as
available borrowings generally provide adequate liquidity to fund current
operating expenses, excluding the difference between the amount funded on
loans originated and the amount advanced under the Company's current warehouse
facilities (the "haircut").
Prior to the Reorganization, the Company's excess liquidity needs were
funded by ICII. Excess liquidity needs of the Company have primarily included
the haircut on loan originations and investments in certain equity ownership
interests. The Company has no significant debt service obligations, lease
payments or capital expenditures which are not covered by normal operating
income. The interest rate on borrowings from ICII was fixed at 12% annually.
At June 30, 1997, the outstanding balance was $10.0 million. The Company will
make the Final LLC Distribution currently estimated to be $3.0 million (this
amount may increase depending on the level of Franchise Mortgage LLC's taxable
income immediately prior to the completion of this Offering) immediately prior
to the completion of this Offering. The Final LLC Distribution will be funded
with a short
39
<PAGE>
term loan from ICII. The Company expects to repay outstanding borrowings from
ICII, including amounts to fund the Final LLC Distribution, with a portion of
the net proceeds of the Offering, see "Use of Proceeds."
The Company's whole loan sales and loan securitizations generally result in
significant amounts of cash. Prior to the Reorganization, the excess cash flow
from these transactions was used to repay borrowings from ICII.
For a description of the Company's securitization activities, see
"Business--Financing--Securitizations and Whole Loan Sales."
For the six months ended June 30, 1997, net cash provided by operating
activities was $17.1 million. This excludes cash used in net loan originations
of $109.3 million, which was attributable to the Company's increased loan
origination volume. For the year ended December 31, 1996, net cash provided by
operating activities was $5.1 million, exclusive of cash provided by net loan
origination activity of $82.3 million.
For the six months ended June 30, 1997, net cash provided by investing
activities was $35.8 million, which was primarily attributable to the sale of
securities relating to the restructuring of the Company's 1991A
securitization. For the year ended December 31, 1996, net cash used in
investing activities was $49.9 million, which was primarily attributable to
the purchase of securities related to the restructuring of the Company's 1991A
securitization.
For the six months ended June 30, 1997, net cash provided by financing
activities was $56.6 million, which was primarily attributable to increased
amounts of warehouse line borrowings resulting from increased loan
originations during the period, offset by a $6.3 million LLC distribution to
its members. For the year ended December 31, 1996, net cash used in financing
activities was $37.3 million, which was primarily attributable to the
repayment of bonds relating to the restructuring of the Company's 1991A
securitization, offset by $73.3 million in cash provided through borrowings
from ICII and warehouse lines of credit and repurchase facilities.
The Company anticipates that the net proceeds from the Offering, together
with cash generated from operations and funds available under its credit
facilities, will be sufficient to fund its operations for at least the next 12
months if the Company's future operations are consistent with management's
expectations.
INFLATION
The Financial Statements and Notes thereto presented herein have been
prepared in accordance with GAAP, which require the measurement of financial
position and operating results in terms of historical dollars without
considering the changes in the relative purchasing power of money over time
due to inflation. The impact of inflation is reflected in the increased costs
of the Company's operations. Unlike industrial companies, nearly all of the
assets and liabilities of the Company's operations are monetary in nature. As
a result, interest rates have a greater impact on the Company's operations'
performance than do the effects of general levels of inflation. Inflation
affects the Company's operations primarily through its effect on interest
rates, since interest rates normally increase during periods of high inflation
and decrease during periods of low inflation. During periods of significantly
increasing interest rates, demand for loans may be adversely affected.
TAX CONSIDERATIONS
As a result of terminating its LLC status upon completion of this Offering,
the Company will be required to record deferred income taxes, which relate
primarily to timing differences between financial and income tax reporting of
gain on sale of loans that were attributable to the periods in which it
qualified to be taxed as a partnership. The recording of such deferred income
taxes will result in a one-time non-cash charge against earnings as an
additional income tax provision equal to the amount of the deferred income tax
liability. The change by the Company from an LLC to a C Corporation is
expected to have a significant adverse impact on the
40
<PAGE>
Company's reported net income for the quarter ending December 31, 1997 and the
year ending December 31, 1997. As of June 30, 1997, the amount of the
Company's deferred income taxes to be recorded would have been approximately
$7.0 million although management believes that such amount will increase
through the closing date of this Offering. See Notes 3, 4 and 14 of Notes to
Financial Statements.
ACCOUNTING CONSIDERATIONS
The Company adopted a new accounting standard on January 1, 1997, and will
adopt additional accounting and disclosure standards on either December 31,
1997, or January 1, 1998. For a description of these standards and the effect,
if any, adoption has had or will have on the Company's financial statements,
see Note 4 of Notes to Financial Statements.
41
<PAGE>
BUSINESS
The following Business section contains forward-looking statements which
involve risks and uncertainties. The Company's actual results could differ
materially from those anticipated in these forward-looking statements as a
result of certain factors, including those set forth under "Risk Factors" and
elsewhere in this Prospectus.
GENERAL
The Company is a specialty commercial finance company engaged in the
business of originating and servicing loans and equipment leases to small
businesses, with a primary focus on established national and regional
franchise concepts. Since commencing business in 1991, the Company believes it
has become a leading lender to national and regional quick service restaurant
("QSR") franchisees, and the Company has developed a growing presence in the
casual dining sector. More recently, the Company has expanded its focus to
include retail energy licensees (service stations, convenience stores, truck
stops, car washes and quick lube businesses) and golf operating businesses
(golf courses and golf practice facilities). The Company originates long-term
fixed and variable rate loan and lease products and sells such loans and
leases either through securitizations or whole loan sales to institutional
purchasers on a servicing retained basis. The Company believes that its loan
and lease products are attractive investments to institutional investors
because of the credit profile of its Borrowers, relatively long loan and lease
terms, call protection through prepayment penalties and appropriate risk-
adjusted yields. The Company also periodically makes equity investments or
receives contingent equity compensation as part of its core lending and
leasing business. The Company originated loans and leases through 11 marketing
offices in nine states at June 30, 1997. From the Company's inception through
June 30, 1997, it funded over $1.2 billion in loans and leases and at June 30,
1997, had a servicing portfolio of $1.1 billion. The Company's loan and lease
originations grew to $458.5 million in 1996 from $218.7 million in 1995 and to
$300.6 million for the six month period ended June 30, 1997 from $208.4
million for the comparable period in 1996. At June 30, 1997, the Company's
average initial loan balance was $730,000 and the percentage of its loans and
leases that were 90 days or more delinquent was 0.1%.
The Company's focus is to provide funding to industries that have been
historically underserved by banks and other traditional sources of financing.
This focus requires the Company to develop specific industry expertise in the
sectors which it serves in order to provide individualized financial solutions
for its Borrowers. The Company believes that its industry expertise and
proprietary databases, combined with its responsiveness to Borrowers,
flexibility in structuring transactions and broad product offerings give it a
competitive advantage over more traditional, highly regulated small business
lenders. The Company's Borrowers are generally small business operators, most
of whom are independent, multi-unit franchisees, with proven operating
experience and a history of generating positive operating cash flows. The
Company relies primarily upon its assessment of enterprise value, based in
part on independent third party valuations, and historical operating cash
flows to make credit determinations, as opposed to relying solely on the value
of real estate and other collateral.
HISTORY
In 1991, the Company began making loans to franchisees of Taco Bell Corp. In
1992 and 1993, other national QSR concepts, such as Burger King, Wendy's,
Pizza Hut, KFC and Hardee's, were approved. The Company's principal loan
products at that time were fixed rate, 15-year, fully amortizing loans. In
1995, the Company began making loans to casual dining concepts such as TGI
Friday's, Applebee's and Denny's and offering its Borrowers adjustable rate
loans. Also in 1995, the Company began offering development and construction
("DEVCO") loans to its more experienced Borrowers to fund the development and
construction or acquisition of new business units or the conversion of
existing business units into a different franchise concept. In 1996, the
Company expanded its approved concepts to include strong regional restaurants
such as Carl's, Jr., Church's Chicken and Golden Corral and launched its Golf
Finance Group to provide financing to owners and operators of golf courses and
golf practice facilities. The Equipment Finance Group also commenced
activities in 1996 to provide equipment loans and leases to the sectors which
the Company serves. In February 1997, the Company created its Retail Energy
Finance Group to make loans to businesses that distribute retail petroleum
products.
42
<PAGE>
BUSINESS STRATEGY
The Company's goal is to become a leading national small business lender in
each of its target markets. The Company's growth and operating strategy is
based on the following key elements:
Growth in Existing Sectors. The Company plans to replicate its success in
the restaurant sector in other business sectors that it has entered more
recently, such as retail energy and golf, through focused product development,
customer service and support. The Company forms specialized teams for each
sector to assess customer needs, generate customer loyalty and enhance service
and support. Management believes that its industry leadership position,
relationships with major Borrowers, franchisors and vendors, and expertise
within sectors will assist the Company in increasing its market share.
Controlled Expansion into New Sectors. Management believes that substantial
opportunities exist to extend the Company's expertise into other business
sectors. The Company believes that its experience in lending to restaurant
franchisees has allowed it to develop a template for efficiently originating
and servicing loans and leases in other industry sectors. The Company's
philosophy is to provide complete business solutions to identified industries
by developing strategies and financial products which are based on industry
characteristics and each Borrower's specific needs. The Company carefully
reviews industry data, seeking business sectors with a combination of large
funding requirements, proven cash flow generating capabilities, standardized
operations, a scarcity of long-term, fixed rate funding sources and
characteristics attractive to secondary market investors.
Maintenance of Credit Quality. The Company's delinquency and loss experience
has been extremely low, due in part to lending to experienced operators, its
detailed industry knowledge, active oversight of its existing servicing
portfolio, strict underwriting criteria and the Company's ability to locate
qualified replacement Franchisees/Borrowers to assume delinquent loans. At
June 30, 1997, the Company had only two loans, representing 0.1% of all loans
and leases held in the Company's servicing portfolio as of such date, 90 days
or more delinquent and, from its inception in April 1991 through June 30, 1997
had experienced no net charge offs.
Efficient Secondary Market Execution. The Company is committed to
maintaining effective secondary market execution on loans and leases that it
originates and sells. The Company believes that the favorable execution it has
experienced to date is primarily the result of the attractive terms and the
credit quality of the loans and leases that it originates. Of the $37.5
million in gain on sale from securitizations recognized by the Company since
January 1, 1996, $30.3 million was comprised of cash received by the Company
at the time of securitization and not the present value of anticipated cash
flows on retained interests. As a result, the Company has reduced its exposure
to the risks associated with holding large amounts of such retained interests
on its balance sheet. From the beginning of 1996 through June 30, 1997, the
Company completed three securitizations and a whole loan sale totaling $483.6
million and $15.3 million, respectively. In all such transactions, the Company
has retained the right to service the sold or securitized loans.
Diversification of Revenue Sources. Management is committed to developing a
diversified revenue base to reduce revenue volatility and enhance
profitability. The Company continually monitors and adjusts its loan and lease
products and securitization structures to improve the stability of its cash
flows. Revenue sources include loan and lease origination points and fees,
interest income earned prior to the sale of the loans and leases, whole loan
and lease sale profits, securitization profits, loan and lease servicing fees
and equity investment returns.
INDUSTRY BACKGROUND
Franchising
A franchise is a business operating pursuant to a franchise agreement under
which the franchisee undertakes to conduct a business or sell a product or
service in accordance with methods and procedures prescribed by a franchisor
and the franchisor undertakes to assist the franchisee through advertising,
promotion and other advisory services. Although the term franchise is
typically associated with fast food restaurants, a multitude of
43
<PAGE>
franchise businesses exist, offering a variety of products and services such
as hotels and motels, automotive parts, and cleaning services. Most franchise
concepts offer franchisees training and diverse levels of ongoing support and
oversight. Business format franchisees provide franchisees with a
comprehensive operating system, whereas product distribution arrangements
primarily license a trademark and/or logo. According to the International
Franchise Association, franchises comprise one out of every 12 businesses in
the United States. The Franchise Trade Association has estimated that by the
year 2000 over 50% of retail sales, or approximately $1 trillion, will be
generated by franchises.
The Food Service Sector
According to the Chain Store Guide (the "Guide"), using National Restaurant
Association (the "NRA") data, in 1996 the food service industry employed more
than nine million people and had estimated sales of $307.6 billion. According
to the Guide, full service restaurants, QSRs, commercial cafeterias, social
caterers and ice-cream and frozen yogurt stands ("Eating Places") represented
an estimated $207.8 billion, or 67.6%, of such food service sales in 1996 and
are expected to grow by 4.5% to $217.2 billion in 1997. The QSR segment of
Eating Places are those restaurants that offer fast food or take-out, without
table service. Most QSR establishments offer food products that lend
themselves to quick service, such as pizza, chicken, hamburgers and similar
food items. Full service restaurants typically represent casual and fine
dining restaurants that accept major credit cards, offer table service and
provide full liquor service. The QSR segment represented an estimated
$98.4 billion, or 47.3%, of all Eating Places sales in 1996, and is expected
to grow by 5.2% to $103.5 billion in 1997. The full service segment
represented an estimated $100.3 billion, or 48.2%, of all Eating Places sales
in 1996, and is expected to grow by 4.1% to $104.4 billion in 1997.
Development and maturation of the QSR segment of the food service industry
has led to a consolidation of restaurant operators. Increased competition has
decreased profit margins which has contributed to the emergence of
increasingly large and professionally managed restaurant operating companies.
Large operators typically have greater economies of scale and better
management systems which allow them to compete more effectively. As size and
diversification become increasingly important, many franchise restaurant
operators are becoming affiliated with multiple restaurant systems. The
Company believes that the maturation of the fast food segment is likely to
result in greater stability for this industry segment. Chain restaurant
consolidation has also created lending opportunities for the Company arising
from the demand by restaurant operators for acquisition financing.
The Retail Energy Sector
The United States retail petroleum sector is composed of service stations,
convenience stores, and other related retail establishments which provide
branded and independent fuel for motor vehicle consumption. According to the
National Petroleum News ("NPN"), retail petroleum sector sales for the year
ended December 31, 1995 approximated $300 billion or 4% of gross domestic
product. According to NPN's latest count, the service station sector included
approximately 188,000 units. The Company believes that these units are
generally well located as a result of the early origins of these units
relative to convenience stores and other retail merchants. According to NPN,
at December 31, 1996, there were approximately 94,000 domestic convenience
stores of which approximately 73% distributed fuel. According to the NPN,
convenience store industry sales grew 5.4% in 1996 as gasoline volume, fast
food sales and merchandise sales per customer increased due to retailers'
focus on customer service needs. According to the NPN, gasoline demand grew
1.8% in 1996 to 123.2 billion gallons and is projected to increase 1.5% in
1997. The strength in demand reflects United States economic growth, the
relaxation of speed limits, the increase in the total United States vehicle
fuel consumption and the growing popularity of sport utility vehicles and
minivans.
The Company believes the retail energy sector is currently underserved by
traditional lenders. Increasing sales and profit margins for gasoline
retailers, the perceived diminished risk of lender liability for environmental
clean-up costs and heightened profitability in multi-profit service
stations/convenience store combinations should increase demand for financing.
In addition, the Company believes that service station consolidation has also
created lending opportunities arising out of the demand for acquisition
financing.
44
<PAGE>
The Golf Sector
According to The National Golf Foundation ("NGF"), golf course development
activity reached an eight year high in 1995. In 1995, 468 new golf courses
opened representing the largest number of initial course openings in one year.
Also, according to NGF, golf course construction set a record during 1995 with
850 courses under construction, 442 of which were completed in 1996.
Additionally, the NGF believes that, there were 808 courses in the planning
stages in 1996. Of the courses under construction in 1996, as many as 450
courses were scheduled to open in 1997. NGF defines a golf facility as a
facility with at least one nine-hole course and that may include different
types of courses, such as regulation-length courses, executive-length courses,
and par-3 length courses. In 1996, there were a total of 30,044 golf
facilities in the United States including 15,703 golf courses of which 70%
were classified as public access.
In the United States, golf courses handled approximately 477 million rounds
in 1996. The number of rounds played has increased by 6.5% since 1975.
Currently, 26% of golfers are over 50 years of age, with 48% between the ages
of 18 and 39. NGF statistics show that golfers in their 50's play three times
as much as golfers between the ages of 18 and 39. The number of rounds played
should significantly increase as the baby-boomer segment of the population
heads toward retirement age. In addition, for the past 10 years, the game has
added approximately two million beginners a year, with the 18-29 age group
producing the largest single sub-segment.
The Company believes that the golf sector has the following similar
characteristics to other sectors that the Company currently lends to: positive
cash flow from operations, golf course and facility ownership is broad and
diverse geographically, and the industry is underserved by traditional
lenders. Increased golf usage has driven demand for loans for renovation and
construction, while increased dollars spent at golf courses has driven demand
for loans for golf course and facilities acquisitions.
LOAN ORIGINATIONS
Type of Loan Products
The Company offers permanent loans, DEVCO loans (including acquisition
loans) and equipment loans and leases to those sectors in which it operates.
Permanent loans. Substantially all of the Company's permanent loans are
self-amortizing long-term fixed or adjustable rate loans provided for purposes
other than development and construction of business units. Permanent loans
have a maximum term and amortization of up to 15 years. Fixed rate loans are
tied to the U.S. Treasury rates plus a spread while adjustable rate loans are
tied to the London interbank offered rate ("LIBOR") plus a spread and
generally reprice on a monthly basis. As a cash flow lender, the Company
maintains flexibility to tailor a loan program to fit the specific needs of
its Borrowers. The terms of the loans vary in part based on the collateral
pledged.
The Company focuses on the cash flow of the subject business, the continuing
ability of the Borrower to operate the business unit in a cash positive manner
and the Borrower's ability to repay the loan since neither the real property
mortgage nor the franchise or license agreement is generally assignable to
secure the loan. In determining enterprise value, in addition to a Borrower's
credit profile, the Company focuses on the following factors:
. Business Profitability. The Company seeks to lend to Borrowers whose
subject business operations provide adequate cash flow to support loan
payments.
. Strength of Business Concept. The Company emphasizes loans to Borrowers
whose subject business has significant national or regional market
penetration.
. Operating Experience. The Company emphasizes loans to Borrowers having
ownership of multiple business units with strong industry backgrounds.
. Site Considerations. The Company focuses on a business' location,
physical condition and environmental characteristics.
45
<PAGE>
Location. The Company lends to Borrowers with business units located in
high traffic areas that it believes exhibit strong retail property
fundamentals.
Physical Condition. The Company loans to Borrowers investing in well-
maintained existing properties or in newly constructed properties. Each
group uses third party appraisal professionals who conduct physical
site inspections of each subject property.
Environmental. The Company engages outside professionals to
independently conduct Phase I environmental assessments for new
financings. Phase II environmental assessment reports are also
prepared, if recommended by the Phase I assessments. The Company will
not finance a business if a Phase II report indicates significant
environmental concerns.
. Collateral. Loans are partially secured by taking a first lien on all
available furniture, fixtures and equipment. Where the available
collateral includes a building on a ground lease, the Company requires an
assignment of the lease in addition to a security interest on the
building and on the furniture, fixtures and equipment. If the collateral
includes owned real estate, the Company also obtains a first mortgage on
the property. Borrowers with additional collateral are generally afforded
better credit terms. Depending on the collateral provided, loan to value
ratios, up front fees and interest rates are adjusted to properly reflect
credit risk.
Development and Construction Loans. DEVCO loans are offered to fund the
development and construction or acquisition of new business units or the
conversion of existing business units into a different franchise concept.
DEVCO loans are an interest-only short-term product. Fixed rate DEVCO loans
are tied to U.S. Treasury rates, while adjustable rate DEVCO loans are tied to
LIBOR. The loans generally include up front points and exit fees.
DEVCO loans generally have an 18 month maturity which is comprised of two
terms. The Borrower must receive a Certificate of Occupancy ("CO") within 12
months of the date of the loan. If a CO is received, the term of the loan is
extended for six months to complete the construction or acquisition phase. If
a CO is not received after 12 months, the loan is called. After 18 months the
Borrower can apply for a permanent loan which will be re-underwritten.
The Company believes that DEVCO loans create a pipeline for the Company's
permanent loans. As a result of fee incentives built into the DEVCO products,
Borrowers generally look to convert into permanent loans on the maturity date.
DEVCO loans are secured by the real property mortgage or leasehold interest as
well as all available furniture, fixtures and equipment.
When used as a construction or development loan, a DEVCO loan provides a
seasoning period to allow the Borrower to construct a business unit before
converting to a permanent loan. When used as an acquisition or conversion
loan, the interest only period of a DEVCO loan gives the Borrower the
opportunity to improve business unit performance and achieve a higher cash
flow before locking into long-term financing.
Equipment Loans and Leases. The Company provides equipment financing to
experienced owners and operators in those sectors in which the Company
operates. Equipment loans are fixed rate products tied to U.S. Treasury rates.
These loans have a maximum term of up to 10 years. In addition, the Company
offers standard equipment leases. Substantially all of the leases originated
by the Company are "direct financing" leases in that they transfer
substantially all of the benefits and risks of equipment ownership to the
lessee. Because the Company's leases are classified as direct financing
leases, the Company records total estimated unguaranteed residual value 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
is defined as "unearned income." Interest income is recognized over the term
of the lease by amortizing the unearned income and deferred initial direct
costs using the interest method.
46
<PAGE>
Lending Groups
The Company's focus at inception was to provide secured financing to
franchisees of Taco Bell Corp. After establishing an infrastructure and credit
expertise, the Company began expanding its QSR concepts, loaning to casual
dining concepts and moving into other related lending sectors such as retail
energy, golf and equipment finance. The Company carefully reviews industry
data seeking sectors with a combination of large capital requirements, proven
cash flow generating capabilities, standardized operations, a scarcity of long
term funding sources and characteristics attractive to secondary market
investors. This business formula provides the template to identify, test and
determine the potential value of entering into new sectors.
The Company's lending groups currently include Restaurant Finance, Retail
Energy Finance, Golf Finance and Equipment Finance. Each of these groups
includes a core group of professionals who are experts in the sector and can
target selected Borrowers in such sector. See "Risk Factors--Concentration on
Restaurant, Retail Energy and Golf Sectors May Expose the Company to Concept
Failures, Industry Cycles, Environmental Liabilities and Other Industry
Specific Risks."
Restaurant Finance Group. The Restaurant Finance Group was organized in 1991
and originally focused on providing loans to national and regional franchise
concepts such as Taco Bell, Burger King, Hardee's, KFC, Wendy's and Pizza Hut.
In 1995, the Company began making loans to casual dining concepts such as
TGIF, Applebee's, and Denny's and other successful casual dining concepts. In
1996, the Company expanded the approved concepts to include strong regional
restaurants such as Carl's, Jr., Church's Chicken and Golden Corral. As of
June 30, 1997, the Restaurant Finance Group originated loans through a network
of eight offices in seven states. For the six month period ended June 30, 1997
this group originated $252.0 million of restaurant loans, including loans to
Borrowers that represent franchise concepts such as Taco Bell, Burger King,
KFC and Wendy's. From the date of its formation through September 30, 1997,
the Restaurant Finance Group provided approximately $1.2 billion in financing.
The Restaurant Finance Group, which is headquartered in Denver, Colorado,
includes marketing, processing, underwriting, credit, closing and
administrative professionals with extensive experience in QSR and casual
dining restaurant finance. The marketing professionals generate loans on a
national basis which are processed and underwritten at the Company's
headquarters or in one of the Company's five regional offices located in
Greenwich, Atlanta, Dallas, Newport Beach and Los Angeles. Credit committee
approval is obtained in these regional offices unless the transaction exceeds
regional credit authority in which case approval must be obtained from the
Company's Senior Credit Committee. See "--Underwriting."
Franchisees utilize restaurant loans for a variety of purposes, including
the acquisition, development and construction of new franchise units, to
refinance existing franchise debt, to provide business expansion and
remodeling proceeds and for working capital. Loans offered are fixed and
adjustable loans typically ranging in size from $200,000 to $1.2 million with
terms of up to 15 years. Generally, the Company's restaurant finance borrowers
own three or more units, have three or more years of ownership in the concept,
or have an equivalent ownership tenure in a different major fast food or
casual dining concept.
47
<PAGE>
The following table sets forth the Company's QSR and casual dining loan
originations for the periods indicated by franchise concept.
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30, 1997 YEAR ENDED DECEMBER 31, 1996 YEAR ENDED DECEMBER 31, 1995
-------------------------------- -------------------------------- --------------------------------
NUMBER PRINCIPAL % OF NUMBER PRINCIPAL % OF NUMBER PRINCIPAL % OF
OF LOANS AMOUNT TOTAL OF LOANS AMOUNT TOTAL OF LOANS AMOUNT TOTAL
ORIGINATED ORIGINATED ORIGINATED ORIGINATED ORIGINATED ORIGINATED ORIGINATED ORIGINATED ORIGINATED
---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
QSRs:
Taco Bell........... 111 $102,314 40.6% 228 $163,011 37.7% 54 $ 44,614 20.4%
Burger King......... 36 33,586 13.3 112 111,443 25.8 92 61,329 28.0
Church's Chicken.... 86 29,374 11.7 -- -- -- -- -- --
Wendy's............. 32 22,622 9.0 42 35,639 8.2 26 18,319 8.4
KFC................. 41 18,447 7.3 22 14,511 3.4 59 30,400 13.9
Hardee's............ -- -- -- 57 40,586 9.4 40 34,964 16.0
Other QSR........... 23 13,422 5.3 43 22,267 5.1 -- -- --
--- -------- ----- --- -------- ----- --- -------- -----
Total QSR........... 329 219,765 87.2 504 387,457 89.6 271 189,626 86.7
Casual Dining:
Applebee's.......... 11 14,528 5.8 -- -- -- -- -- --
Golden Corral....... 4 6,232 2.5 5 14,450 3.3 -- -- --
TGI Friday's........ 6 5,110 2.0 3 7,870 1.8 1 2,550 1.2
Pizza Hut........... -- -- -- 16 8,093 1.9 38 26,566 12.1
Other Casual
Dining............. 8 6,385 2.5 11 13,220 3.1 -- -- --
--- -------- ----- --- -------- ----- --- -------- -----
Total Casual
Dining............. 29 32,255 12.8 35 43,633 10.1 39 29,116 13.3
Other Restaurant..... -- -- -- 2 1,440 0.3 -- -- --
--- -------- ----- --- -------- ----- --- -------- -----
Total............... 358 $252,020 100.0% 541 $432,530 100.0% 310 $218,742 100.0%
=== ======== ===== === ======== ===== === ======== =====
</TABLE>
Retail Energy Finance Group. The Retail Energy Finance Group was organized
in February 1997 to provide loans to national and regional businesses that
distribute retail petroleum products such as service stations, convenience
stores, truck stops, car washes and quick lube stores. Customers to date have
included major national operators of retail petroleum businesses as well as
major national chains such as Texaco, Chevron and Arco who seek to develop a
sponsored loan program for their dealers and sellers. As of June 30, 1997, the
Retail Energy Finance Group originated loans through a network of seven
offices in five states. For the six months ended June 30, 1997, this group
originated $23.5 million of energy loans including loans to Borrowers that
represent petroleum companies such as Texaco, Shell, BP and Exxon. From the
date of its formation through September 30, 1997, the Energy Finance Group
provided approximately $94.4 million in financing.
The Retail Energy Finance Group, which is headquartered in Morristown, New
Jersey, consists of 32 financial professionals and includes personnel similar
to the Restaurant Finance Group as well as industry professionals hired from
major oil companies and energy related commercial lending roles who evaluate
each customer's specific needs and suggest personalized financial solutions.
Similar to the Restaurant Finance Group, energy loans are originated on a
national basis and underwritten at the Company's headquarters or in one of
five regional offices.
Retail energy business operators use loans for existing station
acquisitions, the purchase of real estate associated with currently leased
facilities, funding for replacement or upgrading of underground storage tanks
and development to transform a gasoline station/convenience store into a
multi-profit center facility which may include a car wash, quick lube shop,
co-branded fast food express unit or slot machines in states such as Nevada
where gaming is permitted. Generally, the Company's Borrowers include business
owners with five to 50 established locations. Loans typically range in size
from $500,000 to $2.5 million. These loans are fixed and adjustable rate loans
having a term of up to 20 years. The Company requires Borrowers to provide at
least one additional revenue source aside from gasoline sales, such as a car
wash or fast food, convenience items or quick lube center in order to
diversify the revenue stream.
48
<PAGE>
Golf Finance Group. The Golf Finance Group is part of the Company's
Diversified Products Group, which focuses on potential expansion into other
sectors which are not related to the restaurant or retail energy sectors. The
Golf Finance Group was organized in 1996 to provide loans to experienced
owners and operators of golf courses and golf facilities, such as driving
ranges and practice facilities. For the six months ended June 30, 1997, this
group originated $9.9 million of golf loans.
The Golf Finance Group includes professionals with extensive commercial
lending experience. The loan origination process is conducted by experienced
golf facility lenders who solicit qualified owners nationwide. The group is
supported by loan processing, underwriting and closing departments which work
with Borrowers throughout the process. The Golf Finance Group operates out of
four offices in four states.
Loans are used for a variety of purposes, including debt refinance, golf
course or facility acquisitions, expansions, renovations and improvements,
purchase of new equipment, new golf course or facility development, purchase
of underlying real estate and working capital. Loans typically range in size
from $1.0 million to $5.0 million with a maximum term of up to 20 years. Since
the Company generally lends against existing cash flow, all non-acquisition
golf courses and facilities must have a minimum operating history of 12 months
under ownership by the Borrower.
The Company is currently negotiating with a major investment bank to form a
joint venture whereby all loan and lease activities of the Golf Finance Group
would be exclusively conducted by a new entity which would be 50% owned and
managed by each of the Company and the investment bank. See "Prospectus
Summary--Recent Developments."
Equipment Finance Group. The Equipment Finance Group was organized in 1996
to provide equipment financing to experienced owners and operators in those
sectors in which the Company operates. For the six months ended June 30, 1997
the group originated $15.2 million of equipment loans and leases.
Equipment loans and leases are originated either through the Company's
direct sales or telemarketing groups, third party originators or in connection
with loans offered in each sector in which the Company operates. The Company's
equipment loans and leases typically range in size from $200,000 to $400,000.
The Company believes the activities of this group complement those of groups
in its other sectors and provides a more complete financing solution for its
Borrowers.
Other Activities. The Diversified Products Group focuses on potential
expansion into other sectors which are not related to the Restaurant Finance
or Retail Energy Finance Groups such as golf finance, funeral service finance
and other areas which the Company believes could be served by its financing
activities. The Company recently commenced initial marketing efforts in the
funeral service finance area.
49
<PAGE>
The following table sets forth the Company's loan and lease origination
activity by sector for the periods indicated:
<TABLE>
<CAPTION>
SIX MONTH PERIOD ENDED JUNE 30, 1997 YEAR ENDED DECEMBER 31, 1996
------------------------------------------- -------------------------------------------
WEIGHTED % OF WEIGHTED % OF
AVERAGE PRINCIPAL PRINCIPAL AVERAGE PRINCIPAL PRINCIPAL
LENDING SECTOR NUMBER OF INTEREST AMOUNT AMOUNT NUMBER OF INTEREST AMOUNT AMOUNT
AND TYPE OF ORIGINATION ORIGINATIONS RATE ORIGINATED ORIGINATED ORIGINATIONS RATE ORIGINATED ORIGINATED
- ----------------------- ------------ -------- ---------- ---------- ------------ -------- ---------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Restaurant Loans:
Fixed-rate
loans........... 302 10.62% $198,365 66.0% 292 10.24% $218,765 47.7%
Variable-rate
loans............ 56 9.59 53,655 17.9 249 9.31 213,765 46.6
--- ----- -------- ----- --- ----- -------- -----
Total (2)........ 358 10.40 252,020 83.9 541 9.78 432,530 94.3
--- ----- -------- ----- --- ----- -------- -----
Retail Energy
Loans:
Fixed-rate
loans............ 23 10.76 19,500 6.5 -- -- -- --
Variable-rate
loans............ 6 9.69 4,000 1.3 -- -- -- --
--- ----- -------- ----- --- ----- -------- -----
Total (3)........ 29 10.58 23,500 7.8 -- -- -- --
--- ----- -------- ----- --- ----- -------- -----
Golf Loans:
Fixed-rate
loans............ 4 12.09 9,850 3.2 2 10.95 14,200 3.1
Variable-rate
loans............ -- -- -- -- 3 9.74 10,251 2.3
--- ----- -------- ----- --- ----- -------- -----
Total (3)........ 4 12.09 9,850 3.2 5 10.44 24,451 5.4
--- ----- -------- ----- --- ----- -------- -----
Equipment
Finance:
Fixed-rate loans
and leases....... 82 12.08 15,247 5.1 10 12.14 1,486 0.3
--- ----- -------- ----- --- ----- -------- -----
Total loan and
lease
originations..... 473 10.56% $300,617 100.0% 556 9.83% $458,467 100.0%
=== ===== ======== ===== === ===== ======== =====
<CAPTION>
YEAR ENDED DECEMBER 31, 1995(1)
-------------------------------------------
WEIGHTED % OF
AVERATE PRINCIPAL PRINCIPAL
LENDING SECTOR NUMBER OF INTEREST AMOUNT AMOUNT
AND TYPE OF ORIGINATION ORIGINATIONS RATE ORIGINATED ORIGINATED
- ----------------------- ------------ -------- ---------- ----------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Restaurant Loans:
Fixed-rate
loans........... 202 10.12% $143,515 65.6%
Variable-rate
loans............ 108 8.40 75,227 34.4
--- ----- -------- -----
Total (2)........ 310 9.53 218,742 100.0
--- ----- -------- -----
Retail Energy
Loans:
Fixed-rate
loans............ -- -- -- --
Variable-rate
loans............ -- -- -- --
--- ----- -------- -----
Total (3)........ -- -- -- --
--- ----- -------- -----
Golf Loans:
Fixed-rate
loans............ -- -- -- --
Variable-rate
loans............ -- -- -- --
--- ----- -------- -----
Total (3)........ -- -- -- --
--- ----- -------- -----
Equipment
Finance:
Fixed-rate loans
and leases....... -- -- -- --
--- ----- -------- -----
Total loan and
lease
originations..... 310 9.53% $218,742 100.0%
=== ===== ======== =====
</TABLE>
- ----
(1) Loan and lease origination activity for the six months ended December 31,
1995 and for the six months ended June 30, 1995 have been combined to show
a 12 month period for the purpose of comparing to the year ended
December 31, 1996.
(2) For the six months ended June 30, 1997, 78.7% and 21.3% of the Company
restaurant loans consisted of permanent and DEVCO loans, respectively;
such percentages were 75.4% and 24.6% at December 31, 1996 and 97.3% and
2.7% at December 31, 1995.
(3) For the six months ended June 30, 1997 and for the years ended December
31, 1996 and 1995, all of the Company's retail energy loans and golf loans
were permanent loans.
50
<PAGE>
Geographic Distribution--The following table sets forth by state the number
of loans and leases originated by the Company for the periods presented.
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30, 1997 YEAR ENDED DECEMBER 31, 1996 YEAR ENDED DECEMBER 31, 1995
---------------------------------- ---------------------------------- ----------------------------------
PRINCIPAL PRINCIPAL PRINCIPAL
NUMBER OF AMOUNT % OF TOTAL NUMBER OF AMOUNT % OF TOTAL NUMBER OF AMOUNT % OF TOTAL
ORIGINATIONS ORIGINATED ORIGINATED ORIGINATIONS ORIGINATED ORIGINATED ORIGINATIONS ORIGINATED ORIGINATED
------------ ---------- ---------- ------------ ---------- ---------- ------------ ---------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
California...... 103 $ 64,038 21.3% 42 $ 33,209 7.2% 23 $ 13,172 6.0%
Michigan........ 33 24,370 8.1 7 4,848 1.1 9 7,414 3.4
Texas........... 26 23,829 7.9 41 29,189 6.4 15 13,471 6.2
Louisiana....... 15 15,784 5.3 5 4,243 0.9 -- -- --
North Carolina.. 19 14,641 4.9 21 23,106 5.0 22 13,444 6.1
Nevada.......... 11 11,895 4.0 18 11,284 2.5 -- -- --
New Jersey...... 16 12,205 4.1 29 30,746 6.7 14 10,906 5.0
Virginia........ 17 11,144 3.7 16 35,744 7.8 25 18,859 8.6
Ohio............ 21 9,960 3.3 10 6,501 1.4 9 8,192 3.7
South Carolina.. 9 8,867 2.9 20 16,927 3.7 8 5,460 2.5
Utah............ 8 9,038 3.0 5 7,482 1.6 -- -- --
Illinois........ 27 8,366 2.8 10 5,855 1.3 6 3,686 1.7
Colorado........ 8 7,268 2.4 6 3,155 0.7 10 6,066 2.8
Alabama......... 12 6,677 2.2 20 18,479 4.0 26 18,435 8.4
Pennsylvania.... 8 6,385 2.1 58 35,196 7.7 15 7,852 3.6
Florida......... 13 6,279 2.1 7 3,854 0.8 20 12,779 5.8
New York........ 4 3,640 1.2 21 13,499 2.9 12 9,588 4.4
Maryland........ 4 2,661 0.9 21 25,019 5.5 3 1,621 0.7
Connecticut..... 3 1,316 0.4 36 34,620 7.6 16 8,956 4.1
Other States.... 116 52,254 17.4 163 115,511 25.2 77 58,841 27.0
--- -------- ----- --- -------- ----- --- -------- -----
Totals: 473 $300,617 100.0% 556 $458,467 100.0% 310 $218,742 100.0%
=== ======== ===== === ======== ===== === ======== =====
</TABLE>
EQUITY INVESTMENTS
The Company periodically makes passive unsecured equity investments in
companies operating in the sectors served by its lending and leasing
businesses. Such investments may be made in conjunction with loans and leases
or independent of any borrowing relationship. The Company's equity
investments, which are generally made through subsidiary limited liability
companies, have taken the form of common stock equivalents, contingent equity
interests such as warrants, and combinations thereof. At June 30, 1997, the
Company had investments in entities operating 267 units, including Taco Bell,
Church's Chicken, KFC, Hardee's and Hot 'N Now franchisees. In certain cases,
concurrent equity investments have been made directly by the Selling
Stockholders and certain of the Company's officers and directors.
The Company analyzes potential equity opportunities independently of credit
analysis done in connection with its lending business, taking advantage of its
industry expertise and extensive database of operating information. In
general, the Company has structured its investments so that operating control
is retained by experienced business operators while the Company maintains
control over certain key corporate decisions that may affect its investments
over time. To date, all of the Company's equity investments have involved
actual or contingent minority (less than 50%) equity ownership. In certain
cases, the Company is obligated to make additional equity investments at the
option of the majority investor. Many of the Company's investments include
"put" and "call" options at specified values to facilitate the Company's
investment exit strategy.
At June 30, 1997, the Company had made five common stock equivalent equity
investments aggregating $4.4 million and was obligated to make up to an
additional $5.6 million in equity investments under existing arrangements. Of
these equity transactions, three were made in 1996 in connection with loans
made by the Company in the initial aggregate amount of $73.8 million, and two
were made in 1997 in connection with loans made by the Company in the initial
aggregate amount of $28.6 million. See "Risk Factors--Equity Investments are
Subject to Risk of Loss" and "Certain Transactions--Other Matters--Equity
Investments."
51
<PAGE>
The Company may also enter into joint venture or similar arrangements for
its loan and lease activities. The Company is currently negotiating with a
major investment bank to form a joint venture pursuant to which the loan and
lease activities of the Company's Golf Finance Group would be exclusively
conducted by a new entity which would be 50% owned and managed by each of the
Company and the investment bank. The parties could by mutual agreement utilize
the joint venture, if formed, to exclusively originate other types of loans
and leases, which could include loans and leases in the Company's other
existing sectors or in new sectors. Any income distributed by the new entity
would be shared equally by the Company and the investment bank.
MARKETING
The Company originates the majority of its loans through the efforts of its
Marketing Vice Presidents ("MVPs"), comprised of experienced, credit trained
professionals located in the Company's regional and district offices in
Alabama, California, Colorado, Connecticut, Georgia, Nebraska, New Jersey,
Texas and Washington. Each of the Restaurant, Retail Energy, Golf and
Equipment Finance Groups has dedicated marketing departments, specifically
targeting customers by sectors. In addition to its direct marketing
activities, the Company maintains a telemarketing center in Columbus,
Nebraska. The telemarketing center is used to perform basic telemarketing
functions for each of the various lending groups, as well as to coordinate
cross-marketing requests and opportunities.
Applicants are identified through in-person solicitation, targeted mailings,
phone solicitations, participation at conventions, institutional direct-
response advertising and through existing Borrower relationships. MVPs meet
with prospective Borrowers to determine the amount and appropriateness of the
requested loan or lease proceeds as well as to make a preliminary
determination of the Borrowers' creditworthiness. Qualifying prospects are
presented with a proposal generated through the Company's proprietary
underwriting software. Only after the prospective Borrower understands the
loan or lease product is a loan or lease application(s) taken. The Company
believes that this procedure accounts for the low denial rate the Company has
experienced. Since this model was originally developed in 1994, the Company
has funded over 90% of the applications submitted by its MVPs. Additionally,
the Company estimates it funds approximately 45% of all potential Borrowers it
interviews.
The Company maintains multiple prospect and Borrower databases. The
information varies from a simple name and address list to one that includes
Borrower cash flow margins by sector, concept, geography, demographic
information and other variables. The Company uses relational database software
to store variables important to the credit process. Additionally, the Company
has created an in-house research department which provides analysis on various
franchise concepts and industry sectors. The Company has an extensive library
of Borrower financial statements and uses the information for proprietary
studies, which assist management in focusing on various industries.
UNDERWRITING
Each of the Company's lending groups operates under a set of underwriting
guidelines that represents prudent credit standards designed to meet uniform
standards for securitization purposes. Each lending group has a credit manager
responsible for these guidelines who is a member of the Senior Credit
Committee (the "SCC"). Loans above specified limits are submitted to the SCC.
The Chief Credit Officer is the chairman of the SCC and has ultimate
responsibility for the credit standards and guidelines for each of the
Company's lending groups.
Underwriting Guidelines are consistent across each of Company's lending
groups. Below is a discussion of the methodology which has been used for the
Restaurant Finance Group. Similar guidelines are being used by the Company's
Retail Energy and Golf Finance Groups. See "Risk Factors--Certain Underwriting
Requirements and Risks May Adversely Affect Credit Quality."
Under the Company's current restaurant finance underwriting guidelines, each
loan is originated after a review of the following criteria: (i) the
applicant's ability to repay the loan, (ii) the adequacy of the cash flow of
both the franchise unit and the Borrower and (iii) the real and tangible
personal property that serves as collateral
52
<PAGE>
for such loan. The Company has created an underwriting model which
incorporates historical operating results of the borrower and compares them to
industry statistics for the applicable franchise concept. The model helps
outline the loan proposal to fit the approval guidelines. Loan officers input
data provided by potential borrowers into the underwriting model and determine
as to whether or not a loan would qualify under the Company's underwriting
guidelines before submission to the credit group. This pre-screening process
allows for documentation once a loan is accepted for underwriting. The
Company's loan originations typically range in size from $200,000 to $1.2
million for each franchise location. The majority of Borrowers are multiple
unit operators.
For all loans, the Borrower completes an environmental questionnaire and the
Company obtains a report from a third party service which identifies
environmental risks in the vicinity. Certificates of occupancy are requested
on all units. Additionally, Uniform Commercial Code searches are conducted for
all Borrowers before and after origination of a loan. The Company prefers
Borrowers to pay off all existing loans and equipment leases with the
Company's loan proceeds. For cases in which encumbrances will survive the
funding of the loan, the Company reviews all such notes, pledge and security
agreements, and loan documents.
Although the franchise agreement is not assigned to secure the loan, the
continued ability of the Borrower to operate the franchise is essential to
ensure the Borrower's ability to repay the franchisee loan. The Company
reviews a copy of the executed franchise agreement to verify (i) that the
Borrower is the franchisee or has been granted an assignment of franchisee
rights from the franchisor, (ii) that the duration of the franchise term is as
reported by the Borrower and (iii) that the renewal section of the agreement
provides for renewals of the franchise term, particularly when the franchise
term does not exceed the loan term. In the event a loan term exceeds the term
of a Borrower's franchise agreement, the loan documentation provides that it
is an event of default (entitling the Company to accelerate the loan at a
premium) if the franchise agreement is not renewed. If a franchise agreement
is not renewed, the Company can permit a Borrower to provide substitute
collateral satisfying the Company's underwriting guidelines. Additionally, a
certificate of good standing is required from the franchisor.
The Company reviews the organizational documents of Borrowers which are
business entities and reviews the personal net worth of Borrowers who are
individuals. Business credit reports are obtained for all Borrowers. Personal
credit reports are obtained for majority owners of all Borrowers. For
Borrowers organized as sole proprietorships (other than multi-unit borrowers)
and in certain other cases, personal guarantees are required from the
principals. All former bankruptcies must be discharged and the time since
discharge must be at least five years except in extraordinary circumstances.
Three years of historical operating statements, if available, are required
of all Borrowers. The Company analyzes the revenue and expense numbers to
determine the ability of the unit to support the repayment of a prospective
loan. The underwriting guidelines include three levels of analysis on each
loan request, each of which must be satisfied to qualify for the Company's
loan program. The first two are fixed charge coverage ratio tests at both the
consolidated Borrower level (minimum of 1.25x) and at the individual unit
level (minimum 1.15x). The fixed charge coverage ratio is the ratio of EBITDA
(adjusted earnings before interest, tax, depreciation and amortization) plus
rent over annual principal plus interest plus rent. This formula puts real
estate mortgage loans and enterprise only loans on a comparable basis. The
third analysis is the loan to value at the unit level. The "business value" of
a franchise unit is derived from a formula based upon the franchise concept
and the revenues and cash flow generated by the franchise unit through its
operations, which in turn is dependent upon and derived from a Borrower's
franchise agreement with the franchisor. In the case of enterprise loans, the
maximum loan-to-business value is generally 65%. A loan secured by real
property (fee or leasehold) is subject to a maximum loan to value of
approximately 70%. Exceptions to these maximum loan-to-business values may be
made in certain circumstances and with respect to single-unit Borrowers more
stringent loan-to-business value standards are required.
The Company hires independent third parties to perform a valuation of the
subject franchise unit and as applicable, realty interests of the specific
franchised restaurants and specialty retail locations. The appraisals are
based on the premise that the value of a unit is related to revenues and
EBITDA. Value-to-revenue ratios are
53
<PAGE>
used to estimate the market value of a unit site. An example of a factor in
the selection of applicable value ratios is unit EBITDA margins, especially
margins for the most recent 12 months. To determine realty interest valuation,
appraisers utilize realty comparables, market based data in estimating market
rentals and estimates of modeled cost and depreciation of any subject
building.
Retail energy lending involves certain additional underwriting issues. In
the case of loans and leases to operators of service stations, convenience
stores, truck stops, car washes and quick lube stores, the Company must also
concern itself with: (i) risks associated with USTs and other environmental
matters; (ii) protections afforded borrowers via the Petroleum Marketers
Practices Act and how these protections relate to senior lenders; (iii) profit
margin volatility inherent in the petroleum marketing; and (iv) the relative
value of location (side of street, relation to traffic lights), competition
and the value of the trademark in the service area.
In the case of golf lending, the Company also focuses on other issues such
as: (i) the cost and availability of secondary water supplies; (ii) the length
of the season of play; (iii) existing and planned competition; (iv) the number
of active golfers in the serving area; (v) environmental risks with regards to
chemical storage and the application of the chemicals and fertilizers; (vi)
expense ratios for more complex (more expensive) courses, e.g. special mowing
techniques, over-seeding during hot weather and (vii) tee and green insurance.
FINANCING
The Company has an ongoing need to finance its lending activities, which is
expected to increase as the volume of loan and lease originations increases.
The Company's primary operating cash requirements will include the funding of
(i) loans and leases pending their sale, (ii) fees and expenses incurred in
connection with its securitization program, (iii) overcollateralization or
reserve account requirements in connection with loans pooled and sold, (iv)
interest, fees and expenses associated with the Company's warehouse credit and
repurchase facilities with certain financial institutions, (v) federal and
state income tax payments and (vi) ongoing administrative and other operating
expenses. The Company currently funds these cash requirements primarily
through securitizations, whole loan and lease sales and borrowings from Banco
Santander, Sanwa Bank and Credit Suisse First Boston. See "Risk Factors--
Substantial Need for Liquidity to Fund Lending Activities."
Securitizations and Whole Loan Sales
The Company regularly offers its loans for sale through securitizations and
whole loan sales to financial institutions and institutional investors. The
Company plans to optimize its liquidity and profitability by continuously
evaluating various combinations of whole loan sales and securitization
structures. The Company plans to effect quarterly securitizations, and to
structure such transactions to take advantage of prevailing interest rates and
market conditions for senior subordinated and I/O securities.
Securitizations. Under the Company's current securitization structure, the
Company sells a pool of loans on a non-recourse basis to a single purpose
trust. The trust issues securities in the form of notes which are denominated
in multiple branches throughout the credit rating spectrum from the highest
investment grade rating of "AAA" descending to a non-investment grade rating
of "B." In addition, the Company structures an I/O in its financings that is
generally rated AAA. In past securitizations, the Company has sold all rated
interests while retaining a relatively small retained interest.
With respect to certain of the aforementioned securitizations, the Company
arranged for the related trusts to purchase credit enhancements for the senior
certificates in the related trusts in the form of insurance policies provided
by one AAA/AAA rated monoline insurance company and, as a result, the senior
certificates in each trust received a rating of "AAA" from Standard & Poor's
Ratings Services and "AAA" from Moody's Investors Service, Inc. The Company
may continue to arrange for credit enhancements on future securitizations.
54
<PAGE>
The following table lists securitization transactions involving loans
originated by the Company and securitized by the Company or Greenwich, as
indicated, through June 30, 1997. Prior to July 1, 1995, the Company's
securitizations were treated as financings for financial reporting purposes.
<TABLE>
<CAPTION>
ORIGINAL OUTSTANDING
ISSUANCE PRINCIPAL
FRANCHISE LOANS PRINCIPAL AMOUNT AT CUMULATIVE LOAN
RECEIVABLES TRUST DATE ISSUED AMOUNT JUNE 30, 1997 LOSSES SELLER
----------------- ----------------- --------- ------------- ---------- ------
(IN MILLIONS)
<S> <C> <C> <C> <C> <C>
1991-A.. September 1, 1991 $61.8 $ 15.3 $-- Company
1993-B.. December 17, 1993 29.0 20.4 -- Greenwich
1994-A.. (1) 105.7 75.6 -- Greenwich
1995-A.. October 1, 1995 42.7 39.9 -- Greenwich
1995-B.. December 2, 1995(2) 105.2 97.6 -- Company(2)
1996-A.. June 28, 1996 167.4 161.1 -- Company
1996-B.. December 1, 1996 157.7(3) 154.5 -- Company
1997-A.. June 1, 1997 158.6 158.6 -- Company
</TABLE>
- --------
(1) 1994-A was issued in three series: May 31, 1994, August 17, 1994 and
December 19, 1994.
(2) The gain on sale of loans for this transaction was not recognized until
the first quarter of 1996.
(3) Original issuance principal amount was $227.7 million which included
$70.0 million in loans sold by an affiliate of Credit Suisse First Boston.
Whole Loan Sales. Depending on market conditions, the Company also executes
whole loan sales in which the Company disposes of its entire economic interest
in the loans on a non-recourse basis (excluding servicing rights) for cash.
Whole loan sale gains/losses are recognized at the time of sale and there are
generally no residuals. Prior to June 30, 1997, the Company engaged in one
whole loan sale with aggregate principal balance of $15.3 million.
The Company seeks to maximize its premium on whole loan sale revenues by
closely monitoring institutional purchasers' requirements and focusing on
originating or purchasing the types of loans that meet those requirements and
for which institutional purchasers tend to pay higher premiums.
Whole loan sales are made on a non-recourse basis pursuant to a purchase
agreement containing customary representations and warranties by the Company
regarding the underwriting criteria applied by the Company and the origination
process. The Company, therefore, may be required to repurchase or substitute
loans in the event of a breach of its representations and warranties. In
addition, the Company may commit to repurchase or substitute a loan if a
payment default occurs within the first month following the date the loan is
funded, unless other arrangements are made between the Company and the
purchaser. The Company may also be required in some cases to repurchase or
substitute a loan if the loan documentation is alleged to contain fraudulent
misrepresentations made by the borrower.
The Company may be required either to repurchase or to replace loans which
do not conform to the representations and warranties made by the Company in
the pooling and servicing agreements entered into when the loans are pooled
and sold through securitizations.
Warehouse Lines of Credit and Repurchase Facilities
The Company is dependent upon its ability to access warehouse lines of
credit and repurchase facilities, in addition to its ability to continue to
securitize or sell loans in the secondary market, in order to fund new
originations. The Company has warehouse lines of credit and repurchase
facilities under which it had available an aggregate of approximately $365
million in financing at June 30, 1997.
55
<PAGE>
The following constitutes the Company's warehouse lines of credit and
repurchase facilities available at June 30, 1997, all of which are guaranteed
by ICII:
<TABLE>
<CAPTION>
INTEREST COMMITMENT PRINCIPAL
LENDER EXPIRATION DATE INDEX RATE AMOUNT OUTSTANDING
------ --------------- ----- -------- ---------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Credit Suisse First
Boston December 31, 1998 Libor plus 160 to 235 basis points 7.29% $300,000 $167,447
Banco Santander June 1, 1998 Libor plus 160 basis points 7.29% 50,000 16,465
Sanwa Bank(1) September 30, 1997 Eurodollars plus 200 basis points 7.50% 15,000 12,010
-------- --------
Total............................................................................ $365,000 $195,922
======== ========
</TABLE>
- --------
(1) In October 1997, the expiration date of this facility was extended to June
30, 1998, the index was reduced to Eurodollars plus 160 basis points and
the commitment amount was increased to $25 million.
In October 1997, the Company finalized a warehouse line of credit with
Morgan Stanley for a commitment amount of $200 million, bearing interest at
rates ranging from Libor plus 95 to 155 basis points, depending upon the loan
product type. This warehouse line of credit is expected to provide additional
financing for the Company's continued growth in loan and lease originations
and it is not guaranteed by ICII.
The Company is currently negotiating with a major investment bank to form a
joint venture pursuant to which all loan and lease activities of the Company's
Golf Finance Group would be exclusively conducted by a new entity which would
be 50% owned and managed by each of the Company and the investment bank. In
connection therewith, the investment bank would make available to the new
entity a 12 month $100.0 million warehouse line of credit bearing interest at
Libor plus 100 basis points.
LOAN AND LEASE SERVICING AND CREDIT QUALITY
The Company's Servicing Department is responsible for loan and lease
accounting, compliance monitoring and, as necessary, collections. As of June
30, 1997, the Company serviced approximately 1,573 loans and leases,
representing approximately $1.1 billion in principal balances. Of this amount,
$151.2 million were subserviced by the Company under a subservicing
arrangement with SPTL, the owner of the servicing rights. See "Certain
Transactions." The Company's servicing operations are located in Greenwich,
Connecticut.
The loan and lease servicing function includes monthly invoicing, payment
collections, computing investor payments and processing investor remittances.
The primary method for Borrower payments is through automatic clearing house
("ACH") direct debiting.
Compliance monitoring procedures include a semi-annual review of each
Borrower's compliance with stated covenants, including fixed charge coverage
ratios. In the event a Borrower fails to comply with such covenants, the
Borrower is placed on the Company's "Credit Watch List." Loans and leases on
the Credit Watch List are subject to increased scrutiny and monitoring by the
Company's servicing personnel. If a payment has not been received by the due
date, the loan or lease is considered in default, and the Company aggressively
pursues collections procedures, including collection calls and site visits. At
June 30, 1997, the Company had only two loans, representing 0.1% of all loans
and leases held in the Company's servicing portfolio as of such date, more
than 90 days delinquent and, from its inception in April 1991 through June 30,
1997, had experienced no net charge offs.
During the first month of a delinquency lasting ten days or more, the
Company contacts the Borrower to determine the reason for the default and the
likelihood and timing of any payment. The Company performs a credit
investigation and obtains updated financial statements from the Borrower and
current Dun & Bradstreet and personal credit reports. The Borrower's bank and
major trade creditors are typically contacted to provide first-hand
verification of the financial status of the Borrower. The Company may also
retain counsel in the state in which the Borrower is located, if it is
determined that the Borrower or a related entity is in bankruptcy or there is
a reason to believe voluntary or involuntary bankruptcy will be declared.
Within 15-45 days of the delinquency, an officer of the Company will meet in
person with the delinquent borrower, the nature of the Borrower's financial
difficulty will be re-examined and the likelihood of repayment
56
<PAGE>
will be re-evaluated. The Company will physically inspect the Borrower's
business unit, and industry consultants
or other Borrowers are contacted to evaluate the delinquent business unit.
After 60 days of delinquency, the franchisor will be notified in writing of
the default, and the delinquent Borrower will be informed of this action. The
loan or lease will be accelerated at this time, and the Borrower sent a
written notice demanding payment of the full amount due in respect of the loan
or lease. The Borrower may also be reminded that any other loans that the
Borrower may have from other sources are likely to be in default.
If it appears unlikely that the Borrower will cure the default, the Company
may decide to negotiate with the Borrower to induce the Borrower to offer the
business unit for sale to other Borrowers of the franchisor or licensee of the
concept. In this way the loans and leases could be assumed. The Company was
able to locate qualified replacement franchisee/Borrowers in the two cases
where it was necessary through its industry relationships, and believes that
it may be able to do so again in the future, if required. At a minimum,
payments would resume, or, if possible, there could be recovery of past-due
principal, interest and amounts advanced by the servicer. As a result of this
policy, the Company has been able to avoid loan losses to date.
As of June 30, 1997, two loans aggregating $1.2 million, or 0.11% of the
Company's $1.1 billion servicing portfolio, were 90 or more days delinquent.
However, some of the loans in the Company's servicing portfolio have been
outstanding for a relatively short period of time. Consequently, the Company's
experience to date may not be indicative of results to be experienced in the
future. See "Risk Factors--Limited History of Independent Operations and New
Products Limit the Ability of the Company to Predict Future Performance."
INTEREST RATE RISK MANAGEMENT
The Company's profits depend, in part, on the difference, or "spread,"
between the effective rate of interest received by the Company on the loans it
originates or purchases and the interest rates payable by the Company under
its warehouse financing facilities or for securities issued in its
securitizations. The spread can be adversely affected because of interest rate
increases during the period from the date the loans are originated or
purchased until the closing of the sale or securitization of such loans.
The Company is required by its warehouse lending facilities to hedge all of
its fixed-rate principal loan balance securing such facilities. The Company's
hedging strategy normally includes selling U.S. Treasury futures in such
amounts and maturities as to effectively hedge the interest rate volatility of
its portfolio. The Company does not maintain naked or leveraged hedge
positions.
In addition, the Company from time to time may use various other hedging
strategies to provide a level of protection against interest rate risks on its
fixed-rate loans. These strategies may include forward sales of loans or loan-
backed securities, interest rate caps and floors and buying and selling of
futures and options on futures. The Company's management determines the nature
and quantity of hedging transactions based on various factors, including
market conditions and the expected volume of loan originations and purchases.
While the Company believes its hedging strategies are cost-effective and
provide some protection against interest rate risks, no hedging strategy can
completely protect the Company from such risks. Further, the Company does not
believe that hedging against the interest rate risks associated with
adjustable-rate loans is cost-effective, and does not utilize the hedging
strategies described above with respect to its adjustable-rate loans. See
"Risk Factors--Profitability of the Company May be Adversely Affected by
Interest Rate Fluctuations" and "--Hedging Strategies May Not Protect the
Company from Interest Rate Risks."
COMPETITION
The Company faces intense competition in the business of originating and
selling loans and leases. Traditional competitors in the financial services
business include commercial banks, thrift institutions, diversified finance
companies, asset-based lenders, specialty franchise finance companies and real
estate investment trusts. Many of these competitors in the commercial finance
business are substantially larger and have considerably greater financial,
technical and marketing resources than the Company. In addition, many
financial service organizations have formed national networks for loan and
lease originations substantially similar to the Company's loan and lease
programs. Competition can take many forms including convenience in obtaining a
57
<PAGE>
loan or lease, customer service, marketing and distribution channels, amount
and term of the loan, and interest or credit ratings. In addition, the current
level of gains realized by the Company and its competitors on the sale of
loans and leases could attract additional competitors into this market with
the possible effect of lowering gains on future loan and lease sales due to
increased loan and lease origination competition.
The Company believes that its industry expertise and proprietary databases,
combined with its responsiveness to Borrowers, flexibility in structuring
transactions and broad product offerings give it a competitive advantage over
more traditional, highly regulated small business lenders.
REGULATION
Lending Laws
Certain aspects of the Company's businesses are subject to regulation and
supervision at both the federal and state level. Regulated matters include
loan origination, credit activities, maximum interest rates and finance and
other charges, disclosure to customers, the collection, foreclosure,
repossession and claims handling procedures utilized by the Company, multiple
qualification and licensing requirements for doing business in various
jurisdictions and other trade practices.
Future Laws
The laws, rules and regulations applicable to the Company are subject to
modifications and change. There can be no assurance that rules and
regulations, or other such laws, rules or regulations will not be adopted in
the future which could make compliance more difficult or expensive, restrict
the Company's ability to originate or sell loans, the amount of interest and
other charges earned on loans originated or sold by the Company, or otherwise
adversely affect the business or prospects of the Company.
Environmental Liability Generally
Contamination of real property by hazardous substances may give rise to a
lien on that property to assure payment of the cost of clean-up or, in certain
circumstances subject the lender to liability. Such contamination may also
reduce the value of the business property. Under the laws of some states and
under CERCLA, a lender may become liable for cleanup of a property and
adjacent properties that are contaminated by releases from the property if the
lender engages in certain activities. See "Risk Factors--Certain Underwriting
Risks May Adversely Affect the Credit Quality of the Company's Portfolio of
Loans and Leases--Environmental Concerns."
Environmental Laws Affecting Borrowers in Specific Sectors
Environmental Regulations Affecting Franchises. The operation and management
of franchise businesses (whether pursuant to direct ownership, lease or
management contract) may involve the use and limited storage of certain
hazardous materials. Borrowers may be required to obtain various environmental
permits and licenses in connection with their operations and activities and
comply with various health and safety regulations adopted by federal, state,
local and foreign authorities governing the use and storage of such hazardous
materials.
Environmental Regulations Affecting Retail Energy Businesses. The operation
and management of retail energy businesses (whether pursuant to direct
ownership, lease or management contract) involves the use and limited storage
of certain hazardous materials. Specifically, the Company's Borrowers in the
retail energy sector incur ongoing costs to comply with federal, state and
local environmental laws and regulations governing USTs used in their
operations. The Company's loans may be secured by convenience store and gas
station locations with USTs and other environmental risks. Borrowers may be
required to obtain various environmental permits and licenses in connection
with their operations and activities and comply with various health and safety
regulations adopted by federal, state, local and foreign authorities governing
the use and storage of such hazardous materials. Under various federal, state,
local and foreign laws, ordinances and regulations, various categories of
persons, including owners, operators or managers of real property may be
liable for the costs of
58
<PAGE>
investigation, removal and remediation of hazardous substances that are or
have been released on or in their property even if such releases were by
former owners or occupants. In addition, any liability to Borrowers for
assessment and remediation activities in connection with releases into the
environment of gasoline or other regulated substances from USTs or otherwise
at such Borrowers' gasoline facilities could adversely impact the Borrowers'
ability to repay their loans from the Company or the value of any pledged
collateral. Due to the nature of releases, the actual costs incurred may vary
and the ongoing costs of assessment and remediation activities may vary from
year to year and may adversely impact such Borrowers' ability to repay their
loans.
Most states have funds which provide reimbursement to qualified storage tank
owners/operators for assessment and remediation costs associated with
petroleum releases (after the operator pays a set deductible and co-payment
amount). Most funds are supported by annual tank registration fees paid by the
station owners and a gasoline fee, included in the price of the gas, which is
paid by consumers. There has been an increasing number of UST replacements in
recent years. Consequently, some state funds have been drained of reserves.
The result is a delay in disbursement until the fund can be replenished with
fee collections, the effect of which may have an adverse effect on the
borrowers' financial condition and ability to repay its loan.
Environmental Regulations Affecting Golf Courses and Facilities. The
operation and management of golf courses and golf practice and instruction
facilities (whether pursuant to direct ownership, lease or management
contract) involve the use and limited storage of certain hazardous materials
such as herbicides, pesticides, fertilizers, motor oil, gasoline and paint.
Borrowers may be required to obtain various environmental permits and licenses
in connection with their operations and activities and comply with various
health and safety regulations adopted by federal, state, local and foreign
authorities governing the use and storage of such hazardous materials.
EMPLOYEES
At June 30, 1997, the Company employed 124 persons. None of the Company's
employees is subject to a collective bargaining agreement. The Company
believes that its relations with its employees are satisfactory.
PROPERTIES
The Company's executive and administrative offices are located at 2049
Century Park East, Suite 350, Los Angeles, California and 5 Greenwich Office
Park, Greenwich, Connecticut and consist of an aggregate of approximately
17,700 square feet. The lease on the premises located in Los Angeles expires
in March 2002 and the current annual rent is approximately $145,900. The lease
on the premises located in Greenwich expires in September 2003 and the current
annual rent is approximately $255,700.
The Company also leases space for its other offices. These facilities
aggregate approximately 17,300 square feet, with an annual aggregate base
rental of approximately $321,400. The terms of these leases vary as to
duration and rent escalation provisions. In general, the leases expire between
1997 and 2002 and provide for rent escalations tied to either increases in the
lessor's operating expenses or fluctuations in the consumer price index in the
relevant geographical area.
LEGAL PROCEEDINGS
The Company occasionally becomes involved in litigation arising from the
normal course of business. Management believes that any liability with respect
to pending legal actions, individually or in the aggregate, will not have a
material adverse effect on the Company's financial position or results of
operations.
The predecessor entity to Franchise Mortgage LLC, and Mr. Knyal, among
others, are named as defendants in De Wald, et al. vs. Knyal, et al. filed on
November 15, 1996 in Los Angeles County Superior Court. The complaint seeks an
accounting, monetary and punitive damages for alleged breach of contract,
breach of fiduciary duty, breach of implied covenant of good faith and fair
dealing and fraud arising from an alleged business relationship. Franchise
Mortgage LLC has not been named as a defendant in this lawsuit. Counsel to the
predecessor entity and Mr. Knyal believe that the claim is without merit and
intend to defend it vigorously. ICII and FLRT, Inc. have agreed to indemnify
the Company against any and all liability that the Company and its
stockholders (other than ICII and FLRT, Inc.) may incur as a result of this
lawsuit.
59
<PAGE>
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The following table sets forth the name, age and position with the Company
of each person who is a director or executive officer of the Company.
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Wayne L. "Buz" Knyal............. 51 President, Chief Executive Officer and
Director
Thomas J. Shaughnessy............ 39 Executive Vice President and Chief Credit
Officer
John W. Rinaldi.................. 49 Executive Vice President, Loan Portfolio
Management and President, Equipment
Finance Group
Thomas Kaplan.................... 32 Executive Vice President, Capital Markets
Raedelle A. Walker............... 42 Executive Vice President and Chief
Financial Officer
H. Wayne Snavely(1).............. 56 Chairman of the Board
Ronald V. Davis(2)............... 50 Director
G. Louis Graziadio, III(1)....... 47 Director
Perry A. Lerner(2)............... 54 Director
Richard J. Loughlin(1)........... 63 Director
John E. Martin(1)................ 52 Director
Michael L. Matkins(2)............ 51 Director
</TABLE>
- --------
(1) Member of Compensation Committee
(2) Member of Audit Committee
WAYNE L. "BUZ" KNYAL has been the President, Chief Executive Officer and a
Director of Franchise Mortgage Acceptance Company since its inception and has
been the President, Chief Executive Officer and a Manager of Franchise
Mortgage LLC since its inception in June 1995. Prior to founding the Company's
predecessor in 1991, Mr. Knyal founded and owned CBI Insurance Services, Inc.
and concurrently served as President of CBI Mortgage Company, a residential
mortgage banker. From 1968 to 1980, Mr. Knyal was an Executive Vice President
of Krupp/Taylor Advertising and served clients in the fast food industry. Mr.
Knyal is a Director of New Riders, Inc., a restaurant company.
THOMAS J. SHAUGHNESSY has been the Executive Vice President, Chief Credit
Officer of Franchise Mortgage Acceptance Company since its inception. Mr.
Shaughnessy has held the same title at Franchise Mortgage LLC since July 1997
and was Senior Vice President, Chief Credit Officer of Franchise Mortgage LLC
from June 1995 through June 1997. From May 1994 through June 1995, Mr.
Shaughnessy held executive positions with the Company's predecessor when it
was a division of Greenwich. From 1992 to May 1994, Mr. Shaughnessy was the
Credit Portfolio Manager for the Franchise Finance Group at AT&T Capital
Corporation in Denver, Colorado.
JOHN W. RINALDI has been the Executive Vice President, Loan Portfolio
Management and President, Equipment Finance Group of Franchise Mortgage
Acceptance Company since its inception. Mr. Rinaldi has held the same title at
Franchise Mortgage LLC since July 1997 and was Senior Vice President,
Operations of Franchise Mortgage LLC since July 1995 through June 1997. From
1993 to July 1995, Mr. Rinaldi was the Executive Vice President of Federated
Financial Reserve Corporation, a national lessor. Mr. Rinaldi was the Senior
Vice President and Chief Operating Officer of the Commercial Equipment Finance
Group of Bell Atlantic Corporation's financial services subsidiary, Bell
Atlantic TriCon from 1984 to 1993. From 1968 to 1983, Mr. Rinaldi held various
credit, operations and marketing positions with TriContinental Leasing and its
parent, Yegen Associates.
60
<PAGE>
THOMAS KAPLAN has been the Executive Vice President, Capital Markets of
Franchise Mortgage Acceptance Company since October 1997. Mr. Kaplan was a
Senior Vice President in the Asset-Backed Finance group at Greenwich Capital
Markets ("Greenwich Capital") from September 1995 to October 1997, where he
was responsible for developing and maintaining investment banking
relationships with issuers of asset-backed and mortgage-backed securities and
whole loans. Mr. Kaplan had primary responsibility for Greenwich Capital's
investment banking relationship with Franchise Mortgage LLC, and acted as
financial advisor in connection with each of Franchise Mortgage LLC's
securitizations until June 1997. From 1990 to 1995, Mr. Kaplan was a Director
at Credit Suisse First Boston, where he was a trader for the firm's
subordinate mortgage- and asset-backed securities and asset-backed whole loan
positions.
RAEDELLE A. WALKER has been Executive Vice President and Chief Financial
Officer of Franchise Mortgage Acceptance Company since its inception and has
held the same title at Franchise Mortgage LLC since February 1997. From 1995
until joining Franchise Mortgage LLC, Ms. Walker served as the Chief Financial
Officer of SPTL, a wholly owned subsidiary of ICII. From 1985 to 1995, Ms.
Walker served as a Senior Manager with KPMG Peat Marwick LLP, providing
accounting and consulting services to clients in the firm's financial services
practice. Ms. Walker is a Certified Public Accountant.
H. WAYNE SNAVELY has been the Chairman of the Board of Franchise Mortgage
Acceptance Company since its inception and has been a Manager of Franchise
Mortgage LLC since June 1995. He has been Chairman of the Board and Chief
Executive Officer of ICII since December 1991 and President of ICII since
February 1996. From 1986 to February 1992, Mr. Snavely served as Executive
Vice President of Imperial Bancorp and Imperial Bank with direct management
responsibility for the following bank subsidiaries and division: Imperial Bank
Mortgage, SPTL, Imperial Trust Company, Wm. Mason & Company, Imperial
Ventures, Inc. and The Lewis Horwitz Organization. From 1983 through 1986, Mr.
Snavely was employed as Chief Financial Officer of Imperial Bancorp and
Imperial Bank. Mr. Snavely served as a Director of Imperial Bank from 1975 to
1983 and currently serves as a Director. Mr. Snavely is Chairman of the Board
of Southern Pacific Funding Corporation, Imperial Credit Mortgage Holdings,
Inc. and Imperial Financial Group, Inc., a subsidiary of Imperial Bank.
RONALD V. DAVIS has been a Director of Franchise Mortgage Acceptance Company
since its inception and has been a Manager of Franchise Mortgage LLC since
June 1995. Mr. Davis is the Chairman of the Board of Davis Capital LLC, a
private equity investment company. From 1980 to 1994, Mr. Davis was the
President and Chief Executive Officer of the Perrier Group of America, Inc.
("PGA"). Mr. Davis twice held the presidency of the International Bottled
Water Association, serving 1,000 members worldwide and in 1994, the industry
inducted him into the Beverage World Bottled Water Hall of Fame. Mr. Davis is
also a Director of Celestial Seasonings and Staff Leasing, Inc.
G. LOUIS GRAZIADIO, III has been a director of Franchise Mortgage Acceptance
Company since its inception. Mr. Graziadio is the Chairman of the Board and
Chief Executive Officer of Ginarra Holdings, Inc. (as well as its predecessor
and affiliated companies) since 1979. Ginarra Holdings, Inc. is a privately
held California corporation engaged in a wide range of investment activities.
Mr. Graziadio has been actively involved, since 1972, in real estate
development, construction and home building. Mr. Graziadio is Co-Chairman of
Imperial Financial Group, Inc. and a Director of the following companies:
ICII, Imperial Bancorp, Imperial Trust Company, an indirect subsidiary of
Imperial Bancorp, Lynx Golf, Inc., a golf club manufacturer and Vista 2000,
Inc.
PERRY A. LERNER has been a Director of Franchise Mortgage Acceptance Company
since its inception and has been a Manager of Franchise Mortgage LLC since
June 1995. He has been a principal in the investment firm of Crown Capital
Group, Inc. since 1996. Mr. Lerner was with the law firm of O'Melveny & Myers
from 1982 through 1996, having been a partner with the firm from 1984 through
1996. Mr. Lerner was an Attorney-Advisor of the International Tax Counsel of
the United States Treasury Department from 1973 to 1976. Mr. Lerner is a
Director of ICII, Imperial Financial Group, Inc. and Vista 2000, Inc.
61
<PAGE>
RICHARD J. LOUGHLIN has been a Director of Franchise Mortgage Acceptance
Company since its inception. Mr. Loughlin co-founded Century 21 Real Estate of
Northern California, Inc. in 1973 and served as President and Regional
Director until 1981, when he was appointed President and Chief Executive
Officer of Century 21 Real Estate Corporation. He held that position until
November of 1995 when he retired and was appointed President Emeritus to serve
as a consultant and spokesperson. Mr. Loughlin is a Director of Inspectech
Corporation and the National Association of Realtors. Loughlin's prior
affiliations include Chairman of Western Relocation Management, Inc., Chairman
of the Real Estate National Networks, Director of the National Easter Seal
Society, Director of the Housing Roundtable, and member of the Policy Advisory
Board of the Center for Real Estate and Urban Economics for the University of
California at Berkeley. Mr. Loughlin is a co-owner of the National Football
League's Carolina Panthers.
JOHN E. MARTIN has been a Director of Franchise Mortgage Acceptance Company
since its inception. Mr. Martin has been the Chairman and Chief Executive
Officer of New Riders, Inc., since June 1997. Mr. Martin was the Chairman and
Chief Executive Officer of PepsiCo Casual Dining from October 1996 to June
1997. From August 1983 through October 1996 he was the Chairman and Chief
Executive Officer of Taco Bell Corp. In 1996, Mr. Martin was named the third
most successful restaurant executive in the Spenser Stuart/Cornell Study. He
received the first Innovator Award from the Multi-Unit Foodservice Operators
association in 1994; the Silver Plate Award from the International Foodservice
Manufacturers Association in 1993 for his innovative leadership in the quick-
service industry; the National Association of Corporate Real Estate Executives
named him as the 1992 CEO of the Year; and Restaurants and Institutions
Magazine named him Executive of the Year in 1991. Mr. Martin is a member of
the Educational Foundation of the National Restaurant Association's board of
trustees, and is a founding member of the Chief Executive Round Table at the
University of California, Irvine. Mr. Martin is a Director of The Good Guys,
Inc. and Williams-Sonoma, Inc.
MICHAEL L. MATKINS has been a Director of Franchise Mortgage Acceptance
Company since its inception and has been a Manager of Franchise Mortgage LLC
since June 1995. Mr. Matkins is a founding partner with the law firm of Allen,
Matkins, Leck, Gamble & Mallory LLP. Mr. Matkins has advised institutional
investors, lenders, property owners and developers in all aspects of purchase,
sale, financing, leasing and construction of real estate properties ranging
from office and retail to recreational and mixed-use projects for more than 20
years. He has also represented institutional investors in the restructuring of
investments in real property as well as institutional developers in acquiring,
entitling and developing master-planned communities. Mr. Matkins is a member
of the Urban Land Institute and Chair of the Los Angeles District Urban
Development Council.
Directors are elected annually to serve until the next annual meeting of
stockholders and until their successors are elected and qualified. Directors
will not be able to stand for reelection unless they have attended at least
75% of Board meetings and committee meetings, as applicable. The Company plans
to pay its non-employee directors an annual fee of $12,000, payable quarterly,
$1,000 for each board meeting or committee meeting attended and to reimburse
them for reasonable expenses incurred in attending meetings. Concurrently with
this Offering, the Company will grant options to purchase 30,000 shares of
Common Stock under its Stock Option Plan to each of its non-employee
directors. See "--Stock Options." No family relationships exist between any of
the executive officers or directors of the Company.
The Company's Board of Directors has an Audit Committee and a Compensation
Committee. The Audit Committee is comprised of Messrs. Lerner, Matkins and
Davis and is responsible for making recommendations concerning the engagement
of independent certified public accountants, approving professional services
provided by the independent certified public accountants and reviewing the
adequacy of the Company's internal accounting controls. The Compensation
Committee is comprised of Messrs. Graziadio, Martin and Loughlin and is
responsible for recommending to the Board of Directors all officer salaries,
management incentive programs and bonus payments.
62
<PAGE>
OTHER KEY EMPLOYEES
<TABLE>
<C> <S>
Clinton V. Barrow Marketing Vice President, Restaurant Finance Group
Edward A. Boyle Senior Vice President, Managing Director,
Diversified Products Group
Kevin T. Burke Senior Vice President, Capital Markets
Melissa G. Dant, Esq. Vice President, Operations, Corporate Counsel,
Retail Energy Group
Kent "Carty" M. Davis Marketing Vice President, Restaurant Finance Group
Michael A. DeMita, III Senior Vice President, Managing Director,
Diversified Products Group
Brian V. Farren Senior Vice President, National Sales Manager,
Restaurant Finance Group
Bonita Glover Marketing Vice President, Restaurant Finance Group
Donald W. Hakes President, Retail Energy Group
Larry Howard Marketing Vice President, Restaurant Finance Group
Christopher Kelleher Senior Vice President, Operations Manager, Retail
Energy Group
Pierrette A. Newman, Esq. Senior Vice President, Operations, Corporate
Counsel, Restaurant Finance Group
Thomas J. Schuldt President, Restaurant Finance Group
David Schwartzman Senior Vice President, Credit Manager, Restaurant
Finance Group
Courtney S. Stephens Marketing Vice President, Restaurant Finance Group
Mary Ann Zic Vice President, Director of Research, Corporate
</TABLE>
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
Prior to this Offering, the Company did not have a compensation committee.
Messrs. Snavely and Knyal participated in deliberations concerning
compensation of executive officers during 1996. Messrs. Graziadio and Lerner
served on the Compensation Committee of ICII in 1996, and currently serve on
such committee. During 1996, Mr. Snavely served on the Compensation Committee
of ICII; beginning January 1, 1997 Mr. Snavely resigned from ICII's
Compensation Committee. None of the other executive officers of the Company
has served on the board of directors or on the compensation committee of any
other entity which had officers who served on the Company's Board of Directors
or on the Company's Compensation Committee.
EXECUTIVE COMPENSATION
Summary Compensation Table
The following table sets forth information concerning the annual and long-
term compensation earned by the Company's Chief Executive Officer and each of
the other executive officers whose annual salary and bonus during 1996
exceeded $100,000 (the "Named Executive Officers").
<TABLE>
<CAPTION>
ANNUAL COMPENSATION
------------------------------
NAME AND ALL OTHER
PRINCIPAL POSITION(1) SALARY BONUS COMPENSATION
--------------------- -------- -------- ------------
<S> <C> <C> <C>
Wayne L. Knyal(2)............................... $100,000 $150,000 $47,709(3)
President, Chief Executive Officer and Director
Thomas J. Shaughnessy(4)........................ 100,000 110,000 --
Executive Vice President and Chief Credit
Officer
John W. Rinaldi(4).............................. 125,000 125,000 11,709(5)
Vice President, Loan Portfolio Management and
President, Equipment Finance Group
</TABLE>
- --------
(1) Raedelle A. Walker joined the Company in February 1997 and serves as
Executive Vice President and Chief Financial Officer at an annual salary
of $160,000. Thomas Kaplan joined the Company in October 1997 and serves
as Executive Vice President, Capital Markets at an annual salary of
$225,000.
(2) Does not include distributions received by FLRT, Inc. as a member of
Franchise Mortgage LLC.
(3) Represents a car allowance of $6,000, reimbursement of living expenses of
$36,000 and a $5,709 contribution by the Company under ICII's 401(k) Plan.
(4) Messrs. Shaughnessy's and Rinaldi's base salaries for 1997 are $135,000
and $150,000, respectively.
(5) Represents a car allowance of $6,000 and a $5,709 contribution by the
Company under ICII's 401(k) Plan.
63
<PAGE>
Employment Agreement
In November 1997, the Company and Mr. Knyal entered into a five-year
employment agreement terminating on October 31, 2002 pursuant to which Mr.
Knyal agreed to act as the President and Chief Executive Officer of the
Company for an annual base salary of $400,000, an annual bonus of not less
than $82,000 and not to exceed $682,000, and customary benefits. Commencing
January 1998, an amount of $82,000 per year would be deducted from the bonus
payable to Mr. Knyal in order to repay certain amounts owed by Mr. Knyal to
the Company, pursuant to the terms of a promissory note. See "Certain
Transactions--Loans to Executive Officers and Directors." If Mr. Knyal's
employment is terminated by the Company without cause or by Mr. Knyal for good
reason (meaning the Company's uncured breach of any material term of the
agreement, the removal of Mr. Knyal as Chief Executive Officer (other than for
cause) or any diminution by the Company of Mr. Knyal's powers, duties or
authority), Mr. Knyal would be paid his annual salary and provided with all
customary benefits through October 31, 2002. In addition, in such event, FLRT,
Inc. would have registration rights similar to those granted to ICII under the
ICII Registration Rights Agreement without any volume limitations. See
"Certain Transactions--Arrangements with ICII and its Affiliates--ICII
Registration Rights Agreement."
STOCK OPTIONS
1997 Stock Option Plan
The Company's Board of Directors has adopted (and immediately prior to the
effective date of this Offering its stockholders will approve) the 1997 Stock
Option, Deferred Stock and Restricted Stock Plan (the "Stock Option Plan"),
which provides for the grant of qualified incentive stock options ("ISOs")
that meet the requirements of Section 422 of the Internal Revenue Code of
1986, as amended (the "Code"), stock options not so qualified ("NQSOs"),
deferred stock, restricted stock, stock appreciation rights and limited stock
appreciation rights awards ("Awards"). The Stock Option Plan is administered
by a committee of directors appointed by the Board of Directors (the
"Committee"). ISOs may be granted to the officers and key employees of the
Company or any of its subsidiaries. The exercise price for any option granted
under the Stock Option Plan may not be less than 100% (or 110% in the case of
ISOs granted to an employee who is deemed to own in excess of 10% of the
outstanding Common Stock) of the fair market value of the shares of Common
Stock at the time the option is granted. The purpose of the Stock Option Plan
is to provide a means of performance-based compensation in order to attract
and retain qualified personnel and to provide an incentive to those whose job
performance affects the Company. The effective date of the Stock Option Plan
will be the effective date of the Offering.
The Stock Option Plan authorizes the grant of options to purchase, and
awards of, an aggregate of up to 10% of the shares of the Company's Common
Stock to be outstanding after this Offering, including any shares issued
pursuant to the Underwriters' over-allotment option, but not less than
2,700,000 shares. The number of shares reserved for issuance under the Stock
Option Plan is subject to anti-dilution provisions for stock splits, stock
dividends and similar events. If an option granted under the Stock Option Plan
expires or terminates, or an Award is forfeited, the shares subject to any
unexercised portion of such option or Award will again become available for
the issuance of further options or Awards under the Stock Option Plan.
Under the Stock Option Plan, the Company may make loans available to stock
option holders, subject to the Committee's approval, in connection with the
exercise of stock options granted under the Stock Option Plan. If shares of
Common Stock are pledged as collateral for such indebtedness, such shares may
be returned to the Company in satisfaction of such indebtedness. If so
returned, such shares shall again be available for issuance in connection with
future stock options and Awards under the Stock Option Plan.
Unless previously terminated by the Board of Directors, no options or Awards
may be granted under the Stock Option Plan ten years after the effective date
of the Offering.
Options granted under the Stock Option Plan will become exercisable
according to the terms of the grant made by the Committee. Awards will be
subject to the terms and restrictions of the award made by the Committee. The
Committee has discretionary authority to select participants from among
eligible persons and to
64
<PAGE>
determine at the time an option or Award is granted and in the case of
options, whether it is intended to be an ISO or a NQSO, and when and in what
increments shares covered by the option may be purchased.
Under current law, ISOs may not be granted to any individual who is not also
an officer or employee of the Company or any subsidiary.
The exercise price of any option granted under the Stock Option Plan is
payable in full (1) in cash, (2) by surrender of shares of the Company's
Common Stock already owned by the option holder having a market value equal to
the aggregate exercise price of all shares to be purchased including, in the
case of the exercise of NQSOS, restricted stock subject to an Award under the
Stock Option Plan, (3) by cancellation of indebtedness owed by the Company to
the optionholder, (4) by a full recourse promissory note executed by the
optionholder or (5) by any combination of the foregoing. The terms of any
promissory note may be changed from time to time by the Board of Directors to
comply with applicable Service or Commission regulations or other relevant
pronouncements.
The Board of Directors may from time to time revise or amend the Stock
Option Plan, and may suspend or discontinue it at any time. However, no such
revision or amendment may impair the rights of any participant under any
outstanding Award without such participant's consent or may, without
shareholder approval, increase the number of shares subject to the Stock
Option Plan or decrease the exercise price of a stock option to less than 100%
of fair market value on the date of grant (with the exception of adjustments
resulting from changes in capitalization), materially modify the class of
participants eligible to receive options or Awards under the Stock Option
Plan, materially increase the benefits accruing to participants under the
Stock Option Plan or extend the maximum option term under the Stock Option
Plan.
The following table sets forth the stock options to be granted to executive
officers under the Stock Option Plan:
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS
--------------------------------------------
POTENTIAL
REALIZABLE VALUE AT
ASSUMED ANNUAL
NUMBER OF PERCENTAGE RATES OF STOCK
SHARES OF OPTIONS PRICE APPRECIATION
UNDERLYING TO BE EXERCISE FOR OPTION TERM(1)
OPTIONS GRANTED TO PRICE EXPIRATION -------------------
NAME GRANTED(2) EMPLOYEES(3) ($/SH)(4) DATE(5) 5%($) 10%($)
---- ---------- ------------ --------- ---------- -------- ----------
<S> <C> <C> <C> <C> <C> <C>
Thomas J. Shaughnessy... 80,000 8.0% $18.00 2007 $905,608 $2,294,989
John W. Rinaldi......... 50,000 5.0 18.00 2007 566,005 1,434,368
Thomas Kaplan........... 50,000 5.0 18.00 2007 566,005 1,434,368
Raedelle A. Walker...... 50,000 5.0 18.00 2007 566,005 1,434,368
</TABLE>
- --------
(1) Amounts reflect assumed risks of appreciation set forth in the
Commission's executive compensation disclosure requirements.
(2) Such stock options vest 20% on each anniversary date from the date of
grant.
(3) Based on options to acquire 1,209,400 shares expected to be granted under
the Stock Option Plan on the effective date of this Offering.
(4) The exercise price for all options will equal the initial public offering
price.
(5) Such stock options expire 10 years from the date of grant or earlier upon
termination of employment.
On the effective date of this Offering, it is expected that the Company will
grant to certain other employees and directors options to acquire 979,400
shares of Common Stock at a per share exercise price equal to the initial
public offering price, vesting 20% on each anniversary from the date of grant.
ICII Options Granted to Executive Officers and Key Employees
In April 1996, ICII granted incentive stock options to purchase 25,000
shares of ICII common stock to each of Messrs. Shaughnessy and Rinaldi and
incentive stock options to purchase 10,000 shares of ICII common stock to
Mr. Farren. In December 1995 and July 1996, ICII granted Raedelle A. Walker
incentive stock options to purchase an aggregate of 15,000 shares of ICII
common stock. The exercise price of all such options was the fair market value
of ICII common stock at the time of the grants.
65
<PAGE>
401(K) PLAN
On the effective date of this Offering, the Company will commence
participation in the ICII contributory retirement plan ("401(k) Plan") for all
full time employees with at least six months of service, which is designed to
be tax deferred in accordance with the provisions of Section 401(k) of the
Code. The 401(k) Plan provides that each participant may contribute from 2% to
14% of his or her salary, and the Company will contribute to the participant's
plan account at the end of each plan year 50% of the first 4% of salary
contributed by a participant. Under the 401(k) Plan, employees may elect to
enroll on the first day of any month, provided that they have been employed
for at least six months.
Subject to the rules for maintaining the tax status of the 401(k) Plan, an
additional Company contribution may be made at the Company's discretion.
Should a discretionary contribution be made, the contribution would first be
allocated to those employees deferring salaries in excess of 4%. The matching
contribution would be 50% of any deferral in excess of 4% up to maximum
deferral of 8%. Should discretionary contribution funds remain following the
allocation outlined above, any remaining Company matching funds would be
allocated as a 50% match of employee contributions, on the first 4% of the
employee's deferrals. Company matching contributions will be made as of
December 31st each year.
LIMITATION ON DIRECTORS' LIABILITIES AND INDEMNIFICATION
The Company's Certificate of Incorporation provides that, except to the
extent prohibited by the Delaware General Corporation Law (the "DGCL"), its
directors shall not be personally liable to the Company or its stockholders
for monetary damages for any breach of fiduciary duty as directors of the
Company. Under Delaware law, the directors have fiduciary duties to the
Company that are not eliminated by this provision of the Certificate of
Incorporation and, in appropriate circumstances, equitable remedies such as
injunctive or other forms of non-monetary relief will remain available. In
addition, each director will continue to be subject to liability under
Delaware law for breach of the director's duty of loyalty to the Company for
acts or omissions that are found by a court of competent jurisdiction to be
not in good faith or involving intentional misconduct, for knowing violations
of law, for actions leading to improper personal benefit to the director and
for payment of dividends or approval of stock repurchases or redemptions that
are prohibited by Delaware law. This provision also does not affect the
director's responsibilities under any other laws, such as the federal
securities laws or state or federal environmental laws. In addition, the
Company intends to maintain liability insurance for its officers and
directors.
Section 145 of the DGCL permits the Company to, and the Certificate of
Incorporation provides that the Company may, indemnify each person who was or
is a party or is threatened to be made a party to any threatened, pending or
completed action, suit or proceeding, whether civil, criminal, administrative
or investigative, by reason of the fact that he or she is or was, or has
agreed to become, a director or officer of the Company, or is or was serving,
or has agreed to serve, at the request of the Company, as a director, officer
or trustee of, or in a similar capacity with, another corporation,
partnership, joint venture, trust or other enterprise (including any employee
benefit plan), or by reason of any action alleged to have been taken or
omitted in such capacity, against all expenses (including attorneys' fees),
judgments, fines and amounts paid in settlement actually and reasonably
incurred by him or on his behalf in connection with such action, suit or
proceeding and any appeal therefrom. Such right of indemnification shall inure
to such individuals whether or not the claim asserted is based on matters that
antedate the adoption of the Certificate of Incorporation. Such right of
indemnification shall continue as to a person who has ceased to be a director
or officer and shall inure to the benefit of the heirs and personal
representatives of such a person. The indemnification provided by the
Certificate of Incorporation shall not be deemed exclusive of any other rights
that may be provided now or in the future under any provision currently in
effect or hereafter adopted by the Certificate of Incorporation, by any
agreement, by vote of stockholders, by resolution of directors, by provision
of law or otherwise. Insofar as indemnification for liabilities arising under
the Securities Act may be permitted to directors of the Company pursuant to
the foregoing provision, or otherwise, the Company has been advised that in
the opinion of the Securities and Exchange Commission such indemnification is
against public policy as expressed in the Securities Act and is, therefore,
unenforceable.
66
<PAGE>
Section 102(b)(7) of the DGCL permits a corporation to eliminate or limit
the personal liability of a director to the corporation or its stockholders
for monetary damages for breach of fiduciary duty as a director, provided that
such provision shall not eliminate or limit the liability of a director (i)
for any breach of the director's duty of loyalty to the corporation or its
stockholders, (ii) for acts or omissions not in good faith or which involve
intentional misconduct or a knowing violation of law, (iii) under Section 174
of the DGCL relating to unlawful dividends, stock purchases or redemptions or
(iv) for any transaction from which the director derived an improper personal
benefit. Section 102(b)(7) of the DGCL is designed, among other things, to
encourage qualified individuals to serve as directors of Delaware
corporations. The Company believes this provision will assist it in securing
the services of qualified directors who are not employees of the Company. This
provision has no effect on the availability of equitable remedies, such as
injunction or rescission. If equitable remedies are found not to be available
to stockholders in any particular case, stockholders may not have any
effective remedy against actions taken by directors that constitute negligence
or gross negligence.
67
<PAGE>
CERTAIN TRANSACTIONS
THE REORGANIZATION
Immediately prior to the closing of this Offering, Franchise Mortgage LLC
will merge into Franchise Mortgage Acceptance Company, a Delaware corporation.
Upon the closing of this Offering, ICII and FLRT, Inc. will own 11,466,667 and
6,358,333, or 41.2% and 22.9%, respectively, of the total outstanding shares
of the Company's Common Stock, respectively. See "The Reorganization."
ARRANGEMENTS WITH ICII AND ITS AFFILIATES
The Company and ICII have entered into agreements for the purpose of
defining their ongoing relationships. The agreements have been developed in
the context of a parent/subsidiary relationship and therefore are not the
result of arm's-length negotiations between independent parties. It is the
intention of the Company and ICII that such agreements and the transactions
provided for therein, taken as a whole, are fair to both parties, while
continuing certain mutually beneficial arrangements. However, there can be no
assurance that each of such agreements, or the transactions provided for
therein, have been effected on terms at least as favorable to the Company as
could have been obtained from unaffiliated parties.
Additional or modified arrangements and transactions may be entered into by
the Company, ICII, and their respective subsidiaries, after completion of this
Offering. Any such future arrangements and transactions will be determined
through negotiation between the Company and ICII, and it is possible that
conflicts of interest will be involved. All transactions by and between the
Company and ICII must be approved by a majority of the disinterested directors
of the Company.
The following is a summary of certain arrangements and transactions between
the Company and ICII.
Services Agreement
The Company and ICII will enter into a services agreement effective as of
the effective date of this Offering (the "Services Agreement") under which
ICII will continue to provide human resource administration, securitization
capability and certain accounting functions to the Company.
ICII will charge fees for each of the above services which it will provide
under the Services Agreement at a rate equal to $100 per month per employee
employed by the Company at the end of each month. The Services Agreement will
have an initial term that ends one year from the date of this Offering and is
renewable annually thereafter. The Company may terminate the Services
Agreement, in whole or in part, upon one month's written notice. As part of
the services to be provided under the Services Agreement, ICII will provide
the Company with insurance coverage and self insurance programs, including
health insurance. The charge to the Company for insurance coverage will be
based upon a pro rata portion of the costs to ICII of the various policies.
ICII's total insurance expense is allocated among ICII and its subsidiaries
based on the number of employees at each entity. The expense is annualized and
charged to each entity monthly. Management believes that the terms of the
Services Agreement are as favorable to the Company as could be obtained from
independent third parties.
ICII Registration Rights Agreement
The Company has entered into the ICII Registration Rights Agreement pursuant
to which the Company has agreed to file one or more registration statements
under the Securities Act in the future for shares of the Company held by ICII,
subject to certain conditions set forth therein. Pursuant to the ICII
Registration Rights Agreement, the Company will use its reasonable efforts to
cause such registration statements to be kept continuously effective for the
public sale from time to time of the shares of the Company held by ICII. Also,
under the ICII Registration Rights Agreement, FLRT, Inc. has certain piggyback
registration rights with respect to a demand registration statement initiated
by ICII concerning shares of the Company's Common Stock held by ICII; provided
however than for a period of three years following the date of this
Prospectus, FLRT, Inc. is limited in the amount of shares of the Company's
Common Stock it can sell to that amount authorized pursuant to Rule 144.
Thereafter, or in the event that Mr. Knyal's employment is terminated by the
Company without cause or by Mr. Knyal for good reason (as defined in his
employment agreement), FLRT, Inc. shall have registration rights similar to
those granted to ICII under the ICII Registration Rights Agreement without any
volume limitations.
68
<PAGE>
Transactions Involving SPTL
At December 31, 1995, the Company had a net receivable of principal and
interest on loans from SPTL, ICII's wholly owned subsidiary, of $579,000. In
July 1995, the Company sold approximately $3.8 million of servicing rights to
SPTL, resulting in a gain of $31,000. The Company also had a receivable from
ICII of $924,000 bearing interest at 10.4% as of December 31, 1995 and a
payable of $526,000 relating to ICII's residual interest in the Franchise Loan
Receivables Trust 1995-B.
The Company provides subservicing on a contractual basis for servicing
rights on certain loans originated by the Company's predecessor and sold to
SPTL. At June 30, 1997, December 31, 1996 and 1995, there was approximately
$151 million, $183 million and $262 million, respectively, of loans
outstanding underlying this subservicing arrangement. The Company receives
approximately 13 basis points for providing such services.
The Company purchased $55.3 million in loans at a $6.0 million premium from
SPTL on December 29, 1995. These loans had originally been purchased by SPTL
from Greenwich on November 30, 1995. The Company purchased $15.5 million in
loans at par value from SPTL on June 26, 1997. These loans were purchased by
SPTL from the Company in 1996 and 1997.
The Company also has a master purchase and sale agreement with SPTL to
originate loans for SPTL under mutual agreement, and subject to SPTL
underwriting each such loan prior to sale of such loans. Under this agreement,
the Company also has the ability to repurchase loans, under mutual agreement
with SPTL. There is no specified commitment by either party, and each
individual sale is negotiated separately as to pricing. This agreement has no
expiration date. At June 30, 1997, loans originated for SPTL (and not
repurchased), totaled approximately $104.3 million. The Company does not
expect to originate a significant volume of loans for SPTL under this
arrangement in the future.
Borrowings and Guarantees
At June 30, 1997 and December 31, 1996, the Company had borrowings from ICII
outstanding of $10.0 million and $17.7 million, respectively. The Company paid
interest at 12% on the outstanding balances. The Company will make the Final
LLC Distribution currently estimated to be $3.0 million (this amount may
increase depending on the level of Franchise Mortgage LLC's taxable income
immediately prior to the completion of this Offering)immediately prior to the
completion of this Offering. Such payment will be funded with a short term
loan from ICII repayable with a portion of the net proceeds of this Offering.
See "Use of Proceeds."
The Company, among other subsidiaries of ICII, has jointly and severally and
fully and unconditionally guaranteed ICII's $200 million 9.875% senior notes
due January 15, 2007 and $70 million liquidation amount of remarketed par
securities. Such guarantees will terminate upon the deconsolidation of the
Company in the financial statements of ICII, which will be effective upon the
closing of this Offering.
In consideration of ICII's guarantee of the Company's warehouse lines of
credit, repurchase facilities and leases outstanding at September 30, 1997,
the Company pays to ICII monthly a fee equal to 15 basis points on the
Company's outstanding borrowings covered by such guarantee. For the six months
ended June 30, 1997 and the year ended December 31, 1996, the amount of such
guarantee fees was $218,000 and $0, respectively. See "Business--Financing--
Warehouse Lines of Credit and Repurchase Facilities." ICII will not guarantee
any of the Company's future warehouse lines of credit and repurchase
facilities.
ICII guaranteed the Company's lease obligations for its executive and
administrative offices located in Los Angeles, California and Greenwich,
Connecticut. The parties to the leases are currently negotiating a release of
such guarantees. ICII will not guarantee any of the Company's future leases.
69
<PAGE>
Since July 1, 1995, the Company has been treated as a partnership for
federal and state income tax purposes. As a result, the income of the Company
has not been subject to federal or state income taxation. The members of
Franchise Mortgage LLC (ICII and FLRT, Inc.) are liable for individual federal
and state income taxes on their allocated portions of the Company's taxable
income. The Company's status as an LLC will be automatically terminated as a
result of the Reorganization. The Company has agreed to indemnify each of ICII
and FLRT, Inc. for any federal or state income taxes, including penalties and
interest thereon, imposed by any taxing authority with respect to, for, or
fairly attributable to the operations of Franchise Mortgage LLC for the period
from July 1, 1995 through the effective date of this Offering. Notwithstanding
the foregoing, each of ICII and FLRT, Inc. has agreed to indemnify the Company
for all taxes, including penalties and interest thereon, resulting from any
determination made by a taxing authority that Franchise Mortgage LLC should be
determined for tax purposes to be an association taxable as a corporation and
only to the extent that such taxes pertain to the income of Franchise Mortgage
LLC as originally reported on its income tax return for the period in question
and solely to the extent of any LLC distributions made by Franchise Mortgage
LLC to ICII and FLRT, Inc.
ICII Options Granted to Executive Officers and Key Employees
In April 1996, ICII granted incentive stock options to purchase 25,000
shares of ICII common stock to each of Messrs. Shaughnessy and Rinaldi and
incentive stock options to purchase 10,000 shares of ICII common stock to
Mr. Farren. In December 1995 and July 1996, ICII granted Raedelle A. Walker
incentive stock options to purchase an aggregate of 15,000 shares of ICII
common stock. The exercise price of all such options was the fair market value
of ICII common stock at the time of the grants.
OTHER MATTERS
In the ordinary course of business, the Company has conducted transactions
with certain of its officers and directors and with affiliated companies and
entities. All such transactions are conducted at "arm's length" in accordance
with the Company's policies.
Equity Investments
Franchise Equity Fund L.L.C. Franchise Mortgage LLC, ICII and Mr. Knyal are
parties to an Operating Agreement, dated April 1, 1996, pursuant to which such
parties organized Franchise Equity Fund L.L.C., a Delaware limited liability
company ("FEF LLC"), for the purpose of making equity investments in
franchisees of PepsiCo related businesses. Franchise Mortgage LLC owns a 99%
membership interest in, and is the manager of FEF LLC. ICII and Mr. Knyal own
0.67% and 0.33% membership interests, respectively, in FEF LLC.
In June 1996, FEF LLC, Mr. Knyal and certain other investors entered into an
agreement to organize five limited partnerships in New Jersey and Pennsylvania
(the "Summerwood Partnerships") for the purpose of acquiring and operating 68
Taco Bell and KFC units. FEF LLC made a loan of $2.0 million to the Summerwood
Partnerships in exchange for warrants to purchase a 40% limited partner
interest in each of the Summerwood Partnerships. In December 1996, FEF LLC
exercised the warrants in full, the $2.0 million loan was converted into
capital contributions and FEF LLC acquired a 40% limited partner interest in
each of the Summerwood Partnerships. Under certain circumstances, the general
partner of the Summerwood Partnerships may require FEF LLC to make additional
loans or capital contributions to the Summerwood Partnerships in the aggregate
amount of $2.0 million until the third anniversary of the acquisition. The
other investors have certain rights to purchase FEF LLC's limited partner
interest after the fifth anniversary of the acquisition, and FEF LLC has
certain rights to sell its limited partner interest to the other investors
after the seventh anniversary of the acquisition. In addition, pursuant to the
terms of the agreement, Mr. Knyal is required to personally guarantee any
obligations of the Summerwood Partnerships that the limited partners of such
partnerships are required to personally guarantee. In connection with the
acquisition, Franchise Mortgage LLC made 58 loans to the Summerwood
Partnerships in the initial aggregate amount of $40.6 million. The loans bear
interest at annual rates ranging from 9.19% to 10.8% and are due on dates
ranging from July 2003 to July 2011. At June 30, 1997, the outstanding balance
of such loans was $39.3 million.
70
<PAGE>
In November 1996, FEF LLC and certain other investors organized Restaurant
Management of Carolina, L.P., a Delaware limited partnership ("Restaurant
Management LP"), for the purpose of acquiring and operating 37 Taco Bell
units. FEF LLC made an initial capital contribution of $3.0 million
($2.0 million of which has been repaid to FEF LLC) to, and owns a 32.5%
limited partner interest in, Restaurant Management LP. Under certain
circumstances, the general partner may require FEF LLC to make additional
capital contributions to Restaurant Management LP in the aggregate amount of
$2.0 million until the third anniversary of the acquisition. The purchase
price for the units was funded in part through 27 loans from Franchise
Mortgage LLC in the initial aggregate amount of $23.2 million. The loans bear
interest at annual rates ranging from 9.19%% to 10.0% and are due on dates
ranging from June 1998 to December 2011. At June 30, 1997, the outstanding
balance of such loans was $22.9 million. The other investors have certain
rights to purchase FEF LLC's limited partner interest after the fifth
anniversary of the acquisition, and FEF LLC has certain rights to sell its
limited partner interest to the other investors after the seventh anniversary
of the acquisition. In addition, in March and August 1996, prior to the
acquisition, Franchise Mortgage LLC made 15 loans to certain affiliates of
Restaurant Management LP in the initial aggregate amount of $9.9 million. The
loans bear interest at annual rates ranging from 10.25% to 10.45%. At June 30,
1997, the outstanding balance of such loans was $9.6 million.
In December 1996, FEF LLC and certain other investors organized Family Eats
Limited Partnership, a Delaware limited partnership ("Family Eats LP"), for
the purpose of acquiring and operating 19 Taco Bell units. FEF LLC made a
capital contribution of $1.45 million to, and owns a 49% limited partner
interest in, Family Eats LP. Under certain circumstances, the general partner
may require FEF LLC to make additional capital contributions to Family Eats LP
in the aggregate amount of $1.55 million until the third anniversary of the
acquisition. The purchase price for the units was funded in part through 18
loans from Franchise Mortgage LLC in the initial aggregate amount of
$10.1 million. The loans bear interest at annual rates ranging from 9.69% to
10.25% and are due on dates ranging from July 1998 to October 2012. At June
30, 1997, the outstanding balance of such loans was $10.0 million. The other
investors have certain rights to purchase FEF LLC's limited partner interest
after the fifth anniversary of the acquisition, and FEF LLC has certain rights
to sell its limited partner interest to the other investors after the seventh
anniversary of the acquisition.
CVB, L.L.C. Franchise Mortgage LLC, ICII and Mr. Knyal are parties to an
Operating Agreement, dated February 6, 1997, pursuant to which such parties
organized CVB, L.L.C., a Delaware limited liability company ("CVB LLC"), for
the purpose of making equity investments in franchisees of Church's Chicken
units. Franchise Mortgage LLC owns a 99% membership interest in, and is the
manager of, CVB LLC. ICII and Knyal own 0.67% and 0.33% membership interests,
respectively, in CVB LLC.
In April 1997, CVB LLC and another investor organized Atlanta Franchise
Development Company, LLC, a Delaware limited liability company ("Atlanta
Franchise LLC"), for the purpose of acquiring and operating 100 Church's
Chicken units. CVB LLC made a nominal capital contribution to, and owns a 40%
membership interest in, Atlanta Franchise LLC. The purchase price for the
units was funded in part through 72 loans from Franchise Mortgage LLC in the
initial aggregate amount of $25.1 million. The loans bear interest at an
annual rate of 11.72% and are due in April 2012. At June 30, 1997, the
outstanding balance of such loans was $24.7 million. The other investor has
certain rights to purchase CVB LLC's membership interest after the fifth
anniversary of the acquisition, and CVB LLC has certain rights to sell its
membership interest to Atlanta Franchise LLC after the seventh anniversary of
the acquisition.
HNN Equity, L.L.C. Franchise Mortgage LLC and ICII are parties to an
Operating Agreement, dated March 27, 1997, pursuant to which such parties
organized HNN Equity, L.L.C., a Delaware limited liability company ("HNN
Equity LLC"), for the purpose of making an equity investment in Hot N Now,
L.L.C., a Delaware limited liability company ("Hot 'N Now LLC"). Franchise
Mortgage LLC and ICII each own a 50% membership interest in, and share joint
management of, HNN Equity LLC. In April 1997, HNN Equity LLC and Davis/HNN,
L.L.C. ("Davis/HNN LLC"), a limited liability company principally owned by
Ronald V. Davis, a director of the Company, organized Hot 'N Now LLC under the
laws of the state of Delaware for the purpose of acquiring all franchisor and
tradename rights to a QSR concept named "Hot 'N Now" as well as acquiring and
operating 36 Not 'N Now units. HNN Equity LLC owns a 40% membership interest
in Hot 'N Now LLC.
71
<PAGE>
Davis/HNN LLC owns a 60% membership interest in, and is the manager of, Hot 'N
Now LLC. The purchase price for the Units was $2.0 million and was funded
through a capital contribution of $1.5 million by Davis/HNN LLC and a loan of
$600,000 from Davis/HNN LLC. The loan bears interest at an annual rate of 8%
and is payable out of distributable cash from the operations of Hot 'N Now
LLC. Mr. Davis is the Chief Executive Officer of Hot 'N Now LLC and Davis/HNN
LLC is entitled to an annual base fee of $60,000 per year in its capacity as
manager of Hot 'N Now LLC. The manager may require the members to make
additional capital contributions to Hot 'N Now LLC to satisfy the obligations
of Hot 'N Now LLC to make rent payments under real estate leases for 19 units.
Such obligations are also guaranteed by ICII.
PRG Equity, L.L.C. On April 14, 1997 Franchise Mortgage LLC organized PRG
Equity, L.L.C., a Delaware limited liability company ("PRG Equity LLC"), for
the purpose of making an equity investment in Pate Restaurant Enterprises,
Ltd., a Florida limited partnership which owns and operates seven Hardee's
units ("Pate Restaurant LP"). Franchise Mortgage LLC owns all of the
membership interests in and manages PRG Equity LLC. In April 1997, Franchise
Mortgage LLC made seven loans to Pate Restaurant LP in the initial aggregate
amount of $3.5 million. In connection with such loans, PRG Equity LLC acquired
a 40% limited partner interest in Pate Restaurant LP. The loans bear interest
at annual rates ranging from 9.94% to 10.79% and are due on dates ranging from
November 1998 to May 2012. At June 30, 1997, the outstanding balance of such
loans was $3.4 million. The other investors in Pate Restaurant LP have certain
rights to purchase PRG Equity LLC's limited partner interest after the seventh
anniversary of the acquisition, and PRG Equity LLC has certain rights to sell
its limited partner interest to the other investors after the seventh
anniversary of the acquisition.
See "Risk Factors--Concentration on Restaurant, Retail Energy and Golf
Sectors May Expose the Company to Concept Failures, Industry Cycles,
Environmental Liabilities and Other Industry Specific Risks."
The Company is currently negotiating with a major investment bank to form a
joint venture pursuant to which all loan and lease activities of the Company's
Golf Finance Group would be exclusively conducted by a new entity which would
be 50% owned and managed by each of the Company and the investment bank. See
"Prospectus Summary--Recent Developments."
Certain Loans
On July 15, 1997 the Company loaned Kevin T. Burke $170,000 for the purposes
of assisting Mr. Burke to buy a home. The loan is evidenced by a promissory
note executed by Mr. Burke in favor of the Company that bears interest at an
annual rate of 8% and is payable in one installment on April 15, 1998.
In connection with the purchase by Franchise Mortgage LLC of certain of the
assets and liabilities of the Division from Greenwich in June 1995, Franchise
Mortgage LLC assumed as a receivable a $410,000 unsecured non-interest bearing
note made by Mr. Knyal in favor of Greenwich. The note was restructured in
August 1997 to be payable in five annual installments of $82,000 commencing
January 1, 1998 out of that bonus due to Mr. Knyal under his new employment
agreement. See "Management--Executive Compensation--Employment Agreements."
72
<PAGE>
PRINCIPAL AND SELLING STOCKHOLDERS
The following table sets forth certain information regarding the beneficial
ownership of the Company's Common Stock as of October 10, 1997, giving pro
forma effect to the Reorganization, and pro forma as adjusted to reflect the
sale of 5,937,500 shares by the Company and 4,062,500 shares by the Selling
Stockholders, by (i) each director of the Company, (ii) each of the Named
Executive Officers, (iii) each person known to the Company to be beneficial
owner of more than 5% of the Common Stock and (iv) all directors and executive
officers of the Company as a group.
<TABLE>
<CAPTION>
COMMON STOCK OWNED
PRIOR TO COMMON STOCK TO BE
OFFERING(1) OWNED AFTER THE OFFERING
------------------ ---------------------------
NUMBER OF NUMBER OF SHARES NUMBER OF
SHARES PERCENT BEING OFFERED SHARES PERCENT
---------- ------- ---------------- --------------- -----------
<S> <C> <C> <C> <C> <C>
Imperial Credit
Industries, Inc.(2).... 14,591,667 66.7% 3,125,000 11,466,667 41.2%
FLRT, Inc.(3)(4)........ 7,295,833 33.3 937,500 6,358,333 22.9
Wayne L. Knyal(4)....... 6,201,458 28.3 796,875 5,404,583 19.4
Thomas J.
Shaughnessy(3)......... -- -- -- --
John W. Rinaldi(3)...... -- -- -- --
Thomas Kaplan(3)........ -- -- -- --
Raedelle Walker(3)...... -- -- -- --
H. Wayne Snavely(2)..... -- -- -- --
G. Louis Graziadio,
III(2)................. -- -- -- --
Perry A. Lerner(2)...... -- -- -- --
Michael L. Matkins(3)... -- -- -- --
Ronald V. Davis(3)...... -- -- -- --
John E. Martin(3)....... -- -- -- --
Richard J. Loughlin(3).. -- -- -- --
All Directors and
Officers as a Group
(12 persons)(4)........ 6,201,458 28.3% 796,875 5,404,583 19.4%
</TABLE>
- --------
(1) The persons named in the table have sole voting and investment power with
respect to all shares of Common Stock shown as beneficially owned.
(2) Imperial Credit Industries, Inc. and each of such persons may be reached
at 23550 Hawthorne Boulevard, Building One, Suite 110, Torrance,
California 90505.
(3) FLRT, Inc. and each of such persons may be reached through the Company at
2049 Century Park East, Suite 350, Los Angeles, California 90067.
(4) Wayne L. Knyal is deemed to beneficially own 85% of the shares of the
Company's Common Stock held by FLRT, Inc.
73
<PAGE>
DESCRIPTION OF CAPITAL STOCK
The authorized capital stock of the Company consists of 100,000,000 shares
of Common Stock and 10,000,000 shares of Preferred Stock. After giving effect
to this Offering, there will be 27,825,000 shares of Common Stock outstanding
and no shares of Preferred Stock outstanding.
COMMON STOCK
Holders of Common Stock are entitled to one vote per share on matters to be
voted upon by the stockholders. There are no cumulative voting rights. Holders
of Common Stock are entitled to receive ratable dividends when, as and if
declared by the Board of Directors out of funds legally available therefor.
Upon the liquidation, dissolution or winding up of the Company, holders of
Common Stock share ratably in the assets of the Company available for
distribution to its stockholders, subject to the preferential rights of any
then-outstanding shares of Preferred Stock. No shares of Preferred Stock will
be outstanding immediately following the consummation of this Offering.
Holders of Common Stock have no preemptive, subscription, redemption or
conversion rights. All shares of Common Stock outstanding upon the effective
date of this Prospectus, and the shares offered hereby will, upon issuance and
sale, be fully paid and nonassessable.
PREFERRED STOCK
The Board of Directors has the authority, without further action by the
stockholders of the Company, to issue up to 10,000,000 shares of Preferred
Stock in one or more series, and to fix the designations, rights, preferences,
privileges, qualifications and restrictions thereof including dividend rights,
conversion rights, voting rights, rights and terms of redemption, liquidation
preferences and sinking fund terms, any or all of which may be greater than
the rights of the Common Stock. The Board of Directors, without stockholder
approval, can issue Preferred Stock with voting, conversion and other rights
which could adversely affect the voting power and other rights of the holders
of Common Stock. Preferred Stock could thus be issued quickly with terms
calculated to delay or prevent a change in control of the Company or to make
removal of management more difficult. In certain circumstances, such issuance
could have the effect of decreasing the market price of the Common Stock. The
issuance of Preferred Stock may have the effect of delaying, deterring or
preventing a change in control of the Company without any further action by
the stockholders including, but not limited to, a tender offer to purchase
Common Stock at a premium over then current market prices. The Company has no
present plan to issue any shares of Preferred Stock.
CERTAIN PROVISIONS OF THE DELAWARE GENERAL CORPORATION LAW
Generally, Section 203 of the DGCL prohibits a publicly held Delaware
corporation from engaging in a broad range of "business combinations" with an
"interested stockholder" (defined generally as a person owning 15% of more of
a corporation's outstanding voting stock) for three years following the date
such person became an interested stockholder unless (i) before the person
becomes an interested stockholder, the transaction resulting in such person
becoming an interested stockholder or the business combination is approved by
the board of directors of the corporation, (ii) upon consummation of the
transaction that resulted in the stockholder becoming an interested
stockholder, the interested stockholder owns at least 85% of the outstanding
voting stock of the corporation (excluding shares owned by directors who are
also officers of the corporation or shares held by employee stock plans that
do not provide employees with the right to determine confidentially whether
shares held subject to the plan will be tendered in a tender offer or exchange
offer), or (iii) on or after such date on which such person became an
interested stockholder the business combination is approved by the board of
directors and authorized at an annual or special meeting, and not by written
consent, by the affirmative vote of at least 66 2/3% of the outstanding voting
stock excluding shares owned by the interested stockholders. The restrictions
of Section 203 do not apply, among other reasons, if a corporation, by action
of its stockholders, adopts an amendment to its certificate of incorporation
or bylaws expressly electing not to be governed by Section 203, provided that,
in addition to any other vote required by law, such amendment to the
certificate of incorporation or bylaws must be approved by the affirmative
vote of a majority of the shares entitled to vote. Moreover, an amendment so
adopted is not effective until twelve months after its adoption and does not
apply to any business combination between the corporation and any person who
became an interested stockholder of such corporation on or prior to such
adoption. The Certificate of Incorporation and Bylaws do not currently contain
any provisions electing not to be governed by Section 203 of the DGCL.
74
<PAGE>
Section 203 of the DGCL may discourage persons from making a tender offer
for or acquisitions of substantial amounts of the Common Stock. This could
have the effect of inhibiting changes in management and may also prevent
temporary fluctuations in the Common Stock that often result from takeover
attempts.
Section 211 of the DGCL allows a corporation to designate in its certificate
of incorporation or bylaws who may call a special meeting of the stockholders.
The Certificate of Incorporation will designate that only members of the
Company's Board of Directors may call a special meeting of the stockholders.
Section 228 of the DGCL allows any action that is required to be or may be
taken at a special or annual meeting of the stockholders of a corporation to
be taken without a meeting with the written consent of holders of outstanding
stock having not less than the minimum number of votes that would be necessary
to authorize or take such action at a meeting at which all shares entitled to
vote thereon were present and voted, provided that the certificate of
incorporation of such corporation does not contain a provision to the
contrary. The Certificate of Incorporation will contain such a provision, and
therefore stockholders holding a majority of the voting power of the Common
Stock will not be able to approve corporate actions requiring stockholder
approval without holding a meeting of stockholders.
REGISTRATION RIGHTS
The Company has entered into the ICII Registration Rights Agreement pursuant
to which the Company has agreed to file one or more registration statements
under the Securities Act in the future for shares of the Company held by ICII,
subject to certain conditions set forth therein. Pursuant to the ICII
Registration Rights Agreement, the Company will use its reasonable efforts to
cause such registration statements to be kept continuously effective for the
public sale from time to time of the shares of the Company held by ICII. Also,
under the ICII Registration Rights Agreement, FLRT, Inc. may piggyback its
shares onto any registration statement concerning shares of the Company's
Common Stock held by ICII; provided however that for a period of three years
following the date of this Prospectus, FLRT, Inc. is limited in the amount of
shares of the Company's Common Stock it can sell to that amount authorized
pursuant to Rule 144. Thereafter, or in the event that Mr. Knyal's employment
is terminated by the Company without cause or by Mr. Knyal for good reason (as
defined in his employment agreement), FLRT, Inc. shall have registration
rights similar to those granted to ICII under the ICII Registration Rights
Agreement without any volume limitations.
TRANSFER AGENT AND REGISTRAR
The Transfer Agent and Registrar for the Common Stock is U.S. Stock Transfer
Corp., Glendale, California.
75
<PAGE>
SHARES ELIGIBLE FOR FUTURE SALE
After this Offering, the Company will have outstanding 27,825,000 shares of
Common Stock. Of the outstanding shares, the 10,000,000 shares to be sold in
this Offering will be freely tradeable without restriction or further
registration under the Securities Act unless purchased by "affiliates" of the
Company as that term is defined in Rule 144 under the Securities Act.
The remaining 17,825,000 shares of Common Stock outstanding upon completion
of this Offering (assuming no exercise of the Underwriters' over-allotment
option) are "restricted securities" as that term is defined in Rule 144, all
of which will be eligible for sale under Rule 144 upon completion of this
Offering, subject to the lock-up described below. As described below, Rule 144
permits resales of restricted securities subject to certain restrictions.
In general, under Rule 144 as currently in effect, a person (or persons
whose shares are aggregated) who beneficially owned shares for at least one
year, including any person who may be deemed an "affiliate" of the Company (as
the term "affiliate" is defined under the Securities Act), would be entitled
to sell within any three month period a number of such shares that does not
exceed the greater of 1% of the shares of the Company's Common Stock then
outstanding (278,250 shares immediately after this Offering) or the average
weekly trading volume in the Company's Common Stock during the four calendar
weeks preceding the date on which notice of the sale is filed with the
Commission. A person who is not deemed to have been an "affiliate" of the
Company any time during the three months immediately preceding a sale and who
has beneficially owned shares for at least two years would be entitled to sell
such shares under Rule 144 without regard to the volume limitation described
above.
The Company and the Selling Stockholders have agreed that they will not,
without the prior written consent of Montgomery Securities (which consent may
be withheld in its sole discretion) and subject to certain limited exceptions,
directly or indirectly, sell offer, contract or grant any option to sell, make
any short sale, pledge, transfer, establish an open "put equivalent position"
within the meaning of Rule 16a-1(h) under the Exchange Act, or otherwise
dispose of any shares of Common Stock, options or warrants to acquire Common
Stock, or securities exchangeable or exercisable for or convertible into
Common Stock currently owned either of record or beneficially by them or
announce the intention to do any of the foregoing, for a period commencing on
the date of this Prospectus and continuing to a date 180 days after such date.
NationsBanc Montgomery Securities, Inc. may, in its sole discretion and at any
time without notice, release all or any portion of the securities subject to
these lock up agreements. In addition, the Company has agreed that, for a
period of 180 days after the date of this Prospectus, it will not, without the
consent of Montgomery Securities, issue, offer, sell or grant options to
purchase or otherwise dispose of any equity securities or securities
convertible into or exchangeable for equity securities except for (i) the
issuance of shares of Common stock offered hereby and (ii) the grant of
options to purchase shares of Common Stock pursuant to the Stock Option Plan
and shares of Common Stock issued pursuant to the exercise of such options,
provided that such options shall not vest, or the Company shall obtain the
written consent of the grantee not to transfer such shares, until the end of
such 180-day period. See "Underwriting."
The Stock Option Plan authorizes the grant of options to purchase, and
awards of, an aggregate of up to 10% of the shares of the Company's Common
Stock to be outstanding after this Offering, including any shares issued
pursuant to the Underwriters' over-allotment option, but not less than
2,700,000 shares. Options to purchase 1,209,400 shares are expected to be
granted to employees, officers and directors of the Company on the effective
date of this Offering. The Company intends to file a Registration Statement on
Form S-8 covering the shares that have been reserved for issuance under the
Stock Option Plan, thus permitting the resale of such shares in the public
market.
The Company has entered into the ICII Registration Rights Agreement pursuant
to which the Company has agreed to file one or more registration statements
under the Securities Act in the future for shares of the Company held by ICII,
subject to certain conditions set forth therein. Pursuant to the ICII
Registration Rights Agreement, the Company will use its reasonable efforts to
cause such registration statements to be kept continuously effective for the
public sale from time to time of the shares of the Company held by ICII. Also,
under the ICII Registration Rights Agreement, FLRT, Inc. may piggyback its
shares onto any registration statement concerning shares of the Company's
Common Stock held by ICII; provided however that for a period of three years
following the date of this Prospectus, FLRT, Inc. is limited in the amount of
shares of the Company's Common Stock it can sell to that amount authorized
pursuant to Rule 144. Thereafter, or in the event that Mr. Knyal's employment
is terminated by the Company without cause or by Mr. Knyal for good reason (as
defined in his employment agreement), FLRT, Inc. shall have registration
rights similar to those granted to ICII under the ICII Registration Rights
Agreement without any volume limitations.
76
<PAGE>
UNDERWRITING
The Underwriters named below represented by NationsBanc Montgomery
Securities, Inc., Credit Suisse First Boston Corporation and PaineWebber
Incorporated (the "Representatives") have severally agreed, subject to the
terms and conditions set forth in the Underwriting Agreement, to purchase from
the Company and the Selling Stockholders the number of shares of Common Stock
indicated below opposite their respective names at the initial public offering
price less the underwriting discounts set forth on the cover page of this
Prospectus:
<TABLE>
<CAPTION>
UNDERWRITER NUMBER OF SHARES
----------- ----------------
<S> <C>
NationsBanc Montgomery Securities, Inc......................... 3,000,000
Credit Suisse First Boston Corporation......................... 3,000,000
PaineWebber Incorporated....................................... 665,000
BT Alex. Brown Incorporated.................................... 230,000
Bear, Stearns & Co. Inc. ...................................... 230,000
Goldman, Sachs & Co. .......................................... 230,000
Lehman Brothers Inc. .......................................... 230,000
Merrill Lynch, Pierce, Fenner & Smith Incorporated............. 230,000
Morgan Stanley & Co. Incorporated.............................. 230,000
CIBC Oppenheimer Corp. ........................................ 230,000
Prudential Securities Incorporated............................. 230,000
Smith Barney Inc. ............................................. 230,000
J.C. Bradford & Co. ........................................... 115,000
Cruttenden Roth Incorporated................................... 115,000
Dain Bosworth Incorporated..................................... 115,000
Friedman, Billings, Ramsey & Co., Inc. ........................ 115,000
Hampshire Securities Corporation............................... 115,000
Legg Mason Wood Walker, Incorporated........................... 115,000
Piper Jaffray Inc. ............................................ 115,000
Raymond James & Associates, Inc. .............................. 115,000
The Robinson-Humphrey Company, LLC............................. 115,000
Stephens Inc. ................................................. 115,000
H.C. Wainwright & Co., Inc. ................................... 115,000
----------
Total........................................................ 10,000,000
==========
</TABLE>
The Underwriting Agreement provides that the obligations of the Underwriters
are subject to certain conditions precedent and that the Underwriters are
committed to purchase all of such shares if any are purchased.
The Representatives have advised the Company and the Selling Stockholders
that the Underwriters propose initially to offer the shares of Common Stock to
the public on the terms set forth on the cover page of this Prospectus. The
Underwriters may allow to selected dealers a concession of not more than $0.72
per share, and the Underwriters may allow, and such dealers may reallow, a
concession of not more than $0.10 per share to certain other dealers. After
this Offering, the offering price and other selling terms may be changed by
the Representatives. The shares of Common Stock are offered subject to receipt
and acceptance by the Underwriters and to certain other conditions, including
the right to reject orders in whole or in part.
The Company and the Selling Stockholders have granted an option to the
Underwriters, exercisable during the 30-day period after the date of this
Prospectus, to purchase up to a maximum of 1,500,000 additional shares of
Common Stock to cover over-allotments, if any, at the offering price less the
underwriting discount set forth on the cover page of this Prospectus. To the
extent the Underwriters exercise this option, each of the Underwriters will be
committed, subject to certain conditions, to purchase such additional shares
in approximately the same proportion as set forth in the above table. The
Underwriters may purchase such shares only to cover over-allotments made in
connection with the Offering.
77
<PAGE>
The Underwriting Agreement provides that the Company and the Selling
Stockholders will indemnify the Underwriters against certain liabilities,
including liabilities under the Act, or will contribute to payments that the
Underwriters may be required to make in respect thereof.
The Company and the Selling Stockholders have agreed that they will not,
without the prior written consent of Montgomery Securities (which consent may
be withheld in its sole discretion) and subject to certain limited exceptions,
directly or indirectly, sell offer, contract or grant any option to sell, make
any short sale, pledge, transfer, establish an open "put equivalent position"
within the meaning of Rule 16a-1(h) under the Exchange Act, or otherwise
dispose of any shares of Common Stock, options or warrants to acquire Common
Stock, or securities exchangeable or exercisable for or convertible into
Common Stock currently owned either of record or beneficially by them or
announce the intention to do any of the foregoing, for a period commencing on
the date of this Prospectus and continuing to a date 180 days after such date.
NationsBanc Montgomery Securities, Inc. may, in its sole discretion and at any
time without notice, release all or any portion of the securities subject to
these lock up agreements. In addition, the Company has agreed that, for a
period of 180 days after the date of this Prospectus, it will not, without the
consent of NationsBanc Montgomery Securities, Inc., issue, offer, sell or
grant options to purchase or otherwise dispose of any equity securities or
securities convertible into or exchangeable for equity securities except for
(i) the issuance of shares of Common stock offered hereby and (ii) the grant
of options to purchase shares of Common Stock pursuant to the Stock Option
Plan and shares of Common Stock issued pursuant to the exercise of such
options, provided that such options shall not vest, or the Company shall
obtain the written consent of the grantee not to transfer such shares, until
the end of such 180-day period. See "Management--Stock Options" and "Shares
Eligible for Future Sale."
Prior to this Offering, there has been no public market for the Common
Stock. Consequently, the initial public offering price will be determined by
negotiations among the Company, the Selling Stockholders and the
Representatives. Among the factors to be considered in such negotiations are
the history of, and prospects for, the Company and the industry in which it
competes, an assessment of the Company management, its past and present
operations and financial performance, the prospects for further earnings of
the Company, the present state of the Company's development, the general
condition of the securities markets at the time of the Offering, the market
prices of and demand for publicly traded common stocks of comparable companies
in recent periods and other factors deemed relevant.
The Representatives have advised the Company that, pursuant to Regulation M
under the Securities Act, certain persons participating in this Offering may
engage in transactions, including stabilizing bids, syndicate covering
transactions or the imposition of penalty bids, which may have the effect of
stabilizing or maintaining the market price of the Common Stock at a level
above that which might otherwise prevail in the open market. A "stabilizing
bid" is a bid for or the purchase of the Common Stock on behalf of the
Underwriters for the purpose of fixing or maintaining the price of the Common
Stock. A "syndicate covering transaction" is the bid for or the purchase of
the Common Stock on behalf of the Underwriters to reduce a short position
incurred by the Underwriters in connection with this Offering. A "penalty bid"
is an arrangement permitting the Representatives to reclaim the selling
concession otherwise accruing to an Underwriter or syndicate member in
connection with this Offering if the Common Stock originally sold by such
Underwriter or syndicate member is purchased by the Representative in a
syndicate covering transaction and has therefore not been effectively placed
by such Underwriter or syndicate member. The Representatives have advised the
Company that such transactions may be effected on the Nasdaq National Market
or otherwise and, if commenced, may be discontinued at any time.
NationsBanc Montgomery Securities, Inc. and PaineWebber Incorporated have in
the past performed investment banking and advisory services for ICII and
certain of its other affiliates. Credit Suisse First Boston Corporation acted
as private placement agent for the Company's securitization transactions in
June and September 1997. In addition, Credit Suisse First Boston Corporation
makes available a $300 million repurchase facility to the Company. See
"Business--Financing--Warehouse Lines of Credit and Repurchase Facilities."
78
<PAGE>
The Representatives have informed the Company that the Underwriters do not
expect to make sales to accounts over which they exercise discretionary
authority in excess of 5% of the number of shares of Common Stock offered
hereby.
LEGAL MATTERS
Certain matters relating to this Offering are being passed upon for the
Company and the Selling Stockholders by Freshman, Marantz, Orlanski, Cooper &
Klein, a law corporation, Beverly Hills, California. Certain legal matters
will be passed upon for the Underwriters by Gibson, Dunn & Crutcher LLP, San
Francisco, California.
EXPERTS
The financial statements of Franchise Mortgage Acceptance Company LLC as of
June 30, 1997 and December 31, 1996, and 1995, and for the six-months ended
June 30, 1997, June 30, 1995 and December 31, 1995, and the years ended
December 31, 1996 and 1994, have been included herein in reliance upon the
report of KPMG Peat Marwick LLP, independent certified public accountants,
appearing elsewhere herein, and upon the authority of said firm as experts in
accounting and auditing.
79
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Independent Auditors' Report................................................ F-2
Balance Sheets.............................................................. F-3
Statements of Operations.................................................... F-4
Statements of Changes in Members' Equity.................................... F-5
Statements of Cash Flows.................................................... F-6
Notes to Financial Statements............................................... F-7
</TABLE>
Schedules are omitted because they are either inapplicable or the required
information is included in the financial statements or notes thereto.
F-1
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Managers
Franchise Mortgage Acceptance Company LLC:
We have audited the accompanying balance sheets of Franchise Mortgage
Acceptance Company LLC as of June 30, 1997, and December 31, 1996 and 1995,
and the related statements of operations, changes in members' equity and cash
flows for the six months ended June 30, 1997 and December 31, 1995, and the
year ended December 31, 1996, and the six months ended June 30, 1995, and the
year ended December 31, 1994 (Predecessor periods). 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 audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Franchise Mortgage
Acceptance Company LLC as of June 30, 1997, and December 31, 1996 and 1995,
and the results of its operations and its cash flows for the six-months ended
June 30, 1997 and December 31, 1995, and the year ended December 31, 1996, and
the six months ended June 30, 1995, and the year ended December 31, 1994
(Predecessor periods), in conformity with generally accepted accounting
principles.
KPMG PEAT MARWICK LLP
Los Angeles, California
August 25, 1997
F-2
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
PRO FORMA DECEMBER 31,
JUNE 30, 1997 JUNE 30, -----------------
(NOTE 3) 1997 1996 1995
------------- -------- -------- --------
(UNAUDITED)
<S> <C> <C> <C> <C>
ASSETS
Cash................................. $ 15 $ 15 $ -- $ --
Restricted cash...................... -- -- -- 526
Interest bearing deposits............ 2,667 2,667 2,594 --
Securities available for sale........ 2,581 2,581 39,349 --
Loans and leases held for sale....... 208,014 208,014 98,915 181,254
Retained interest in loan
securitizations..................... 7,002 7,002 6,908 --
Premises and equipment, net.......... 1,433 1,433 1,162 235
Goodwill............................. 4,571 4,571 4,332 4,226
Receivable from Southern Pacific
Thrift & Loan....................... -- -- -- 579
Receivable from Imperial Credit
Industries, Inc..................... -- -- -- 924
Accrued interest receivable.......... 1,137 1,137 560 1,108
Other assets......................... 5,536 5,536 6,356 196
-------- -------- -------- --------
Total assets..................... $232,956 $232,956 $160,176 $189,048
======== ======== ======== ========
LIABILITIES AND MEMBERS' EQUITY
Book overdraft....................... $ -- $ -- $ 171 $ 445
Payable to Imperial Credit
Industries, Inc..................... 12,997 9,997 17,728 --
Borrowings........................... 195,922 195,922 125,240 69,637
Bonds................................ -- -- -- 111,995
Deferred income taxes................ 7,018 -- -- --
Accrued interest payable............. 878 878 148 1,062
Other liabilities.................... 4,061 4,061 2,432 2,136
-------- -------- -------- --------
Total liabilities................ 220,876 210,858 145,719 185,275
-------- -------- -------- --------
Commitments and contingencies (Note
19)
Members' equity:
Members' capital................... -- 5,792 5,792 4,432
Preferred stock, $.001 par value;
10,000,000 shares authorized; none
issued and outstanding actual or
pro forma......................... -- -- -- --
Common stock, $.001 par value;
100,000,000 shares authorized; no
shares issued and outstanding
actual; 21,887,500 shares issued
and outstanding pro forma......... 22 -- -- --
Additional paid in capital......... 12,058 -- -- --
Retained earnings (accumulated
deficit).......................... -- 16,306 8,665 (659)
-------- -------- -------- --------
Total members' equity.............. 12,080 22,098 14,457 3,773
-------- -------- -------- --------
Total liabilities and members'
equity............................ $232,956 $232,956 $160,176 $189,048
======== ======== ======== ========
</TABLE>
See accompanying notes to financial statements.
F-3
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
STATEMENTS OF OPERATIONS
(IN THOUSANDS)
<TABLE>
<CAPTION>
PREDECESSOR
-----------------------
SIX MONTHS SIX MONTHS SIX MONTHS
ENDED SIX MONTHS YEAR ENDED ENDED ENDED YEAR ENDED
JUNE 30, ENDED JUNE DECEMBER 31, DECEMBER 31, JUNE 30, DECEMBER 31,
1997 30, 1996 1996 1995 1995 1994
---------- ----------- ------------ ------------ ---------- ------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
Revenue:
Gain on sale of
loans................ $19,808 $12,520 $18,671 $ -- $ -- $4,052
------- ------- ------- ------ ------- ------
Interest income....... 10,767 1,257 16,130 1,929 1,121 1,445
Interest expense...... 9,394 955 14,489 1,690 967 1,408
------- ------- ------- ------ ------- ------
Net interest
income............. 1,373 302 1,641 239 154 37
------- ------- ------- ------ ------- ------
Loan servicing
income............... 1,376 649 1,191 349 326 306
Other income.......... -- 63 63 -- -- 68
------- ------- ------- ------ ------- ------
Total other income.. 1,376 712 1,254 349 326 374
------- ------- ------- ------ ------- ------
Total revenues...... 22,557 13,534 21,566 588 480 4,463
------- ------- ------- ------ ------- ------
Expense:
Personnel and
commission........... 4,665 3,901 8,270 356 931 1,723
Professional
services............. 1,176 602 1,093 106 477 1,057
Travel................ 524 202 614 155 182 340
Business promotion.... 316 198 450 96 62 170
Occupancy............. 277 122 310 94 55 97
Goodwill
amortization......... 169 251 411 146 -- --
General and
administrative....... 1,467 495 1,094 294 684 1,804
------- ------- ------- ------ ------- ------
Total expense....... 8,594 5,771 12,242 1,247 2,391 5,191
------- ------- ------- ------ ------- ------
Net income (loss)... $13,963 $ 7,763 $ 9,324 $ (659) $(1,911) $ (728)
======= ======= ======= ====== ======= ======
Pro forma earnings data
(unaudited):
Net income as
reported............. $13,963 $ 7,763 $ 9,324
Pro forma income
taxes................ 5,935 3,366 3,873
------- ------- -------
Pro forma net income.. $ 8,028 $ 4,397 $ 5,451
======= ======= =======
Pro forma net income
per share............ $ 0.37 $ 0.20 $ 0.25
======= ======= =======
Supplemental pro forma
earnings data
(unaudited):
Net income as
reported............. $13,963
Establishment of
deferred tax
liability............ 7,018
-------
Supplemental pro forma
net income........... $ 6,945
=======
Supplemental pro forma
net income per
share................ $ 0.32
=======
</TABLE>
See accompanying notes to financial statements.
F-4
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
STATEMENTS OF CHANGES IN MEMBERS' EQUITY
FOR THE SIX MONTHS ENDED JUNE 30, 1997, DECEMBER 31, 1995
AND JUNE 30, 1995, AND THE YEARS ENDED DECEMBER 31, 1996 AND 1994
(IN THOUSANDS)
<TABLE>
<CAPTION>
ACCUMULATED TOTAL
MEMBERS' (DEFICIT) RETAINED MEMBERS'
PREDECESSOR CAPITAL EARNINGS EQUITY
- ----------- -------- ------------------ --------
<S> <C> <C> <C>
Balance, January 1, 1994................. $ -- $(2,069) $(2,069)
Net Loss................................. -- (728) (728)
------- ------- -------
Balance, December 31, 1994............... $ -- (2,797) (2,797)
Net Loss................................. -- (1,911) (1,911)
------- ------- -------
Balance, June 30, 1995................... $ -- $(4,708) $(4,708)
======= ======= =======
<CAPTION>
THE COMPANY
- -----------
<S> <C> <C> <C>
Members' contribution--ICII.............. $ 7,592 $ -- $ 7,592
Members' contribution--Knyal............. 645 -- 645
Return of capital--ICII.................. (3,805) -- (3,805)
Net loss................................. -- (659) (659)
------- ------- -------
Balance, December 31, 1995............... $ 4,432 $ (659) $ 3,773
Net income............................... -- 9,324 9,324
Members' Contribution--ICII.............. 1,360 -- 1,360
------- ------- -------
Balance, December 31, 1996............... $ 5,792 $ 8,665 $14,457
Tax Distribution--ICII................... -- (4,215) (4,215)
Tax Distribution--Knyal.................. -- (2,107) (2,107)
Net income............................... -- 13,963 13,963
------- ------- -------
Balance, June 30, 1997................... $ 5,792 $16,306 $22,098
======= ======= =======
</TABLE>
See accompanying notes to financial statements.
F-5
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
PREDECESSOR
----------------------
SIX
SIX MONTHS SIX MONTHS MONTHS
ENDED SIX MONTHS YEAR ENDED ENDED ENDED YEAR ENDED
JUNE 30, ENDED JUNE DECEMBER 31, DECEMBER 31, JUNE 30, DECEMBER 31,
1997 30, 1996 1996 1995 1995 1994
---------- ----------- ------------ ------------ -------- ------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
Cash flows from
operating activities:
Net income (loss)....... $ 13,963 $ 7,763 $ 9,324 $ (659) $ (1,911) $ (728)
Adjustments to reconcile
net income (loss) to
net cash provided
(used) by operating
activities:
Depreciation and
amortization........... 388 289 2,883 153 16 --
Loans originated........ (300,617) (208,361) (458,467) (130,314) -- --
Gain on sale of loans... (19,808) (12,520) (18,671) -- -- --
Loans sold to (purchased
from) affiliates....... 17,772 205,281 222,462 (196,631) -- --
Proceeds from loan sales
and securitizations.... 193,349 173,176 337,015 145,691 -- --
Decrease (increase) in
accrued interest
receivable............. (577) 952 548 (1,108) (524) (99)
Increase in securities
owned.................. -- -- -- -- (45,778) (5,107)
Gain on sale of
servicing rights....... -- -- -- (31) --
Net change in other
liabilities............ 2,359 (829) (618) 3,198 828 (197)
Net change in other
assets................. 931 (1,497) (7,027) (2,214) 1,044 341
--------- --------- --------- --------- -------- -------
Net cash provided (used)
by operating
activities............. (92,240) 164,254 87,449 (181,915) (46,325) (5,790)
--------- --------- --------- --------- -------- -------
Cash flows from
investing activities:
Purchases of premises
and equipment.......... (490) (638) (1,190) (162) 52 --
Increase in interest
bearing deposits....... (73) (2,525) (2,594) -- -- --
Purchase of securities
available for sale..... -- (9,691) (41,704) -- -- (15)
Sale of securities
available for sale..... 36,768 -- -- -- -- --
Purchase of other
investments............ (408) -- (4,383) -- -- --
Sale of servicing
rights................. -- -- -- 3,805 -- --
--------- --------- --------- --------- -------- -------
Net cash provided (used)
by investing
activities............. 35,797 (12,854) (49,871) 3,643 52 (15)
--------- --------- --------- --------- -------- -------
Cash flows from
financing activities:
Issuance of bonds....... -- -- -- 111,995 -- --
Repayment of bonds...... -- (111,995) (111,995) -- -- --
Net change in borrowings
from ICII.............. (7,731) 7,009 17,728 -- -- 3,500
Increase in borrowings.. 70,682 (46,402) 55,603 69,637 46,391 2,275
Member (distributions)
contributions.......... (6,322) 144 1,360 (3,805) -- --
--------- --------- --------- --------- -------- -------
Net cash provided (used)
by financing
activities............. 56,629 (151,244) (37,304) 177,827 46,391 5,775
--------- --------- --------- --------- -------- -------
Net change in cash...... 186 156 274 (445) 118 (30)
Cash (book overdraft) at
beginning of period.... (171) (445) (445) -- 102 132
--------- --------- --------- --------- -------- -------
Cash (book overdraft) at
end of period.......... $ 15 $ (289) $ (171) $ (445) $ 220 $ 102
========= ========= ========= ========= ======== =======
</TABLE>
See accompanying notes to financial statements.
F-6
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS
JUNE 30, 1997, DECEMBER 31, 1996 AND 1995
(1) ORGANIZATION
On June 30, 1995, Imperial Credit Industries, Inc. ("ICII") acquired from
Greenwich Capital Financial Products, Inc. (Greenwich) certain assets of
Greenwich's Franchise Mortgage Acceptance Company division (the FMAC
Division), including all of Greenwich's rights under certain servicing
contracts entered into by the FMAC Division (the Servicing Contracts) and a
$410,000 obligation owed by Wayne L. Knyal (Knyal) to Greenwich. The Servicing
Contracts pertain to the servicing of franchise loans that were previously
securitized by Greenwich through the FMAC Division and other franchise loans
owned by Greenwich and not yet securitized. Concurrent with the closing of the
transactions described above, ICII entered into an operating agreement with
Knyal, the former president of the FMAC Division, for the formation of a
California limited liability company named Franchise Mortgage Acceptance
Company LLC (the Company). In connection with the acquisition, the Company or
its affiliates assumed certain liabilities related to the Servicing Contracts
and Greenwich agreed to act as the Company's exclusive agent in connection
with the securitization of franchise loans for a period of 24 months.
The Company was formed to originate, securitize and service franchise loans.
Under the terms of the operating agreement, in exchange for a 66 2/3%
ownership interest in the Company, ICII was obligated to contribute to the
Company $1.3 million in cash and all of the assets purchased from Greenwich.
In exchange for a 33 1/3% ownership interest in the Company, Knyal caused his
wholly owned company, FLRT, Inc., to contribute to the Company all of its
rights under a servicing contract pertaining to franchise loans that were
previously securitized by FLRT, Inc.
On August 30, 1995, ICII completed the acquisition of certain net assets of
the FMAC Division for a net purchase price of $7.6 million which included $3.8
million in contingent consideration based on loan originations after the date
of acquisition up to a maximum principal amount of such loans equal to $250.0
million. The acquisition was recorded using the purchase method of accounting.
Under this method of accounting, the purchase price was allocated to the
respective assets acquired (primarily purchased servicing rights) with a fair
value of $3.2 million at the date of the purchase transaction. The excess of
the purchase price over the fair value of the net assets acquired was recorded
as goodwill of $4.4 million.
The Company has filed a registration statement relating to its initial
public offering of common stock. At the completion of such offering the
Company will no longer be treated as a partnership for income tax purposes and
its income will become fully taxable. See Notes 3, 4 and 14.
Immediately prior to the public offering, the Company will merge into
Franchise Mortgage Acceptance Company. Franchise Mortgage Acceptance Company
was incorporated in August, 1997; it has not commenced operations and has no
assets, liabilities, or contingent liabilities. For accounting purposes, the
merger will be effected at historical cost and the historical financial
statements of the Company will become those of Franchise Mortgage Acceptance
Company.
(2) BASIS OF PRESENTATION
The financial statements have been prepared in conformity with generally
accepted accounting principles. In preparing the financial statements,
management is required to make estimates and assumptions that affect the
reported amounts of assets and liabilities as of the dates of the balance
sheet and revenues and expenses for the periods presented. Significant balance
sheet accounts which could be materially affected by such estimates include
securities available for sale and retained interest in loan securitizations.
Actual results could differ significantly from those estimates.
The accompanying statements of operations and cash flows for the six months
ended June 30, 1995, and the year ended December 31, 1994, are those of the
Company's predecessor, the FMAC Division. Revenues and interest expense
appearing on such statements of operations result from assets and debt of the
FMAC Division
F-7
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
which were accounted for separately by Greenwich. Personnel and commission
expense appearing on such statements of operations apply to the employees of
the FMAC Division, and such expense was also accounted for separately by
Greenwich. All other expenses of the FMAC Division were either directly
assigned or allocated to the FMAC Division by Greenwich based on either actual
utilization or the number of FMAC Division employees. Management believes that
the method used to allocate the expenses of Greenwich to the FMAC Division was
reasonable and that the Company's expenses on a stand alone basis as if the
Company had operated during the predecessor period as an entity unaffiliated
with Greenwich are not materially different from those expenses presented.
(3) PRO FORMA INFORMATION
(a) Pro Forma Income Taxes (unaudited)
As discussed in Note 14, the Company has been treated as a partnership for
federal and state income tax purposes. Upon completion of the initial public
offering discussed in Note 1, the Company will no longer be treated as a
partnership for income tax purposes and its income will be subject to federal
and state income taxes. The accompanying statements of operations for the six
months ended June 30, 1997, and the year ended December 31, 1996, present
unaudited pro forma income taxes and net income reflecting the estimated
income tax expense of the Company as if it had been subject to normal federal
and state income taxes for such periods.
Unaudited pro forma income tax expense for the six months ended June 30,
1997, and the year ended December 31, 1996, included the following components:
<TABLE>
<CAPTION>
1997 1996
------- -------
(IN THOUSANDS)
<S> <C> <C>
Federal................... $ 4,310 $ 2,812
State..................... 1,625 1,061
------- -------
Total pro forma income
tax expense............ $ 5,935 $ 3,873
======= =======
</TABLE>
The differences between unaudited pro forma income tax expense at the
statutory federal income tax rate of 34% and the unaudited pro forma income
tax expense shown in the accompanying statements of operations for the six
months ended June 30, 1997, and the year ended December 31, 1996, are as
follows:
<TABLE>
<CAPTION>
1997 1996
------- -------
(IN THOUSANDS)
<S> <C> <C>
Pro forma income tax expense at statutory rate.......... $ 4,747 $ 3,170
State tax net of federal benefit........................ 1,073 700
Elimination of valuation allowance on net operating loss
carry forward.......................................... -- (215)
Other................................................... 115 218
------- -------
Total................................................. $ 5,935 $ 3,873
======= =======
</TABLE>
If the Company had not been treated as a partnership for tax purposes on
June 30, 1997, a deferred income tax liability of approximately $7,018,000
would have been recorded as a charge to earnings and a corresponding decrease
in retained earnings. The accompanying unaudited pro forma balance sheet as of
June 30, 1997, and the unaudited supplemental pro forma earnings data for the
six months ended June 30, 1997, reflect the effect on retained earnings and
net income of establishing on June 30, 1997, the deferred tax liability.
At June 30, 1997, the components of the unaudited pro forma deferred income
tax liability were as follows:
<TABLE>
<CAPTION>
JUNE 30, 1997
-------------
(IN THOUSANDS)
<S> <C>
Gain on sale of loans deferred for income tax purpose...... $7,134
Basis difference in retained interest in loan
securitizations........................................... (783)
Deferred loan fees......................................... 667
------
Total unaudited pro forma deferred income tax liability.. $7,018
======
</TABLE>
F-8
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(b) Pro Forma Balance Sheet Information (unaudited)
The pro forma information presented in the accompanying balance sheet as of
June 30, 1997 reflects (i) the distribution of $3.0 million by the Company to
members of its previously taxed and undistributed retained earnings, which
amount is expected to be distributed at the closing date of the proposed
initial public offering, subject to certain limitations (for purposes of the
pro forma presentation, the distribution funds were obtained through short-
term borrowings from ICII), (ii) an increase in the Company's deferred income
tax liability of $7,018,000 as if the Company was not treated as a partnership
for tax purposes on June 30, 1997 (Note 14), (iii) the reclassification of
Members' capital and retained earnings as paid-in capital and common stock and
(iv) 21,887,500 shares issued and outstanding.
(c) Pro Forma Earnings Per Share data (unaudited)
The pro forma and supplemental pro forma earnings per share data is based
upon 21,887,500 shares outstanding, such shares being those outstanding
immediately after termination of the Company's partnership status for income
tax purposes and prior to the initial public offering referred to in Note 1.
Stock options which are expected to be issued upon the completion of the
initial public offering referred to in Note 1 do not add incrementally to
shares outstanding because the option price per share is equal to the initial
public offering price.
(4) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
CASH AND CASH EQUIVALENTS
For purposes of the statement of cash flows, the Company considers all
highly liquid investments with maturities of three months or less at date of
acquisition to be cash equivalents. Restricted cash includes cash pledged as a
reserve account for the FLRT 1995-B securitization.
INVESTMENT SECURITIES
The Company classifies investments as held-to-maturity, trading, and/or
available for sale. Held-to-maturity investments are reported at amortized
cost, trading securities are reported at fair value, with unrealized gains and
losses included in operations, and available for sale securities are reported
at fair value with unrealized gains and losses included as a separate
component of Members' equity. Discount and premium on such securities are
amortized to income using the interest method over the life of the securities.
Realized gains and losses on securities available for sale are included in
earnings at the time of sale using the specific identification method for
determining the cost of securities sold.
LOANS AND LEASES HELD FOR SALE
Loans and leases held for sale are carried at the lower of aggregate cost or
market.
RETAINED INTEREST IN LOAN SECURITIZATIONS
The Company may create retained interest in loan securitizations as a result
of the sale of loans into securitization trusts. Retained interest in loan
securitizations is classified as available for sale and carried at estimated
fair value with the unrealized gain or loss thereon included as a separate
component of equity.
Each loan securitization has specific credit enhancement requirements in the
form of overcollateralization which must be met before the Company receives
cash flows due. As the securitized assets generate excess cash flows, they are
initially used to pay down the balance of the pass-through certificates until
such time as the ratio of securitized assets to pass-through certificates
reaches the overcollateralization requirement specified in each
securitization. This overcollateralization amount is carried on the balance
sheet as retained interest in loan securitizations. After the
overcollateralization requirement and the other requirements specified in the
pooling
F-9
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
and servicing agreement have been met, the Company begins to receive the
excess cash flows and a portion of the retained interest on a monthly basis.
Retained interest in loan securitizations are amortized using the interest
method. To the extent that actual future performance results are less than the
Company's original performance estimates, the Company's retained interest in
loan securitizations will be written down through a charge to operations in
that period.
LOAN SALES AND RELATED GAIN OR LOSS
Loans are sold through either securitizations or whole loan sales with
servicing retained by the Company. Securitizations typically require credit
enhancements in the form of cash reserves or overcollateralization that are
reflected as retained interest in loan securitizations on the balance sheet.
Sales are recognized when the transaction settles and the risks and rewards of
ownership are determined to have been passed to the purchaser.
Gain is recognized to the extent that the selling prices exceed the carrying
value of the loans sold based on the estimated relative fair values of the
assets transferred, assets obtained and liabilities incurred. The assets
obtained in a sale include, generally, retained interest in loan
securitizations, loan servicing assets, and call options. Liabilities incurred
in a sale include, generally, recourse obligations, put options, and servicing
liabilities. In the securitizations completed to date, the Company retained
call options giving it the right to repurchase loans sold when the outstanding
amount of such loans is 1% to 10% or less of the original amount sold,
depending on the terms of the related securitization. As these call options
are equivalent to a cleanup call, the Company has ascribed no value to them.
The Company has not established servicing assets or liabilities, although the
Company retained the servicing rights on the loans sold, because management
has determined that revenues from contractually specified servicing fees (30
basis points) and other ancillary sources are just adequate to compensate the
Company for its servicing responsibilities. Recourse obligations are included
in the retained interests through discounting. The securitizations completed
to date had no put option features.
In determining the estimated fair values of the retained interest in loan
securitizations, the Company estimates the cash flows therefrom and discounts
such cash flows at interest rates determined by management (ranging from 11%
to 19%) to be rates market participants would use in similar circumstances.
Quoted market prices are not available as no active market exists for retained
interest in loan securitizations. In estimating the cash flows, the Company
considers default and prepayment rates. To date, the default rate used by the
Company has been zero because the Company has incurred no credit losses.
Management does, however, continually review the credit loss assumption and
makes changes thereto based on portfolio trends and risks associated with new
products. Generally, the Company has used zero prepayment rates because a
prepayment penalty contained in lending documents has deterred borrower
prepayments significantly.
LOAN ORIGINATION FEES
Origination fees received on franchise loans held for sale, net of direct
costs related to the origination of the loans, are deferred as an adjustment
to the carrying value of loans held for sale. At the time of sale of the
related loans, such deferred fees are taken into income and included with the
gain or loss on sale of loans.
SERVICING FEES
Servicing fees are earned on the cash flow streams from various pools of
securitized loans serviced for others. Servicing fees are recognized as income
when received. At June 30, 1997, December 31, 1996 and 1995, the Company
serviced loans of $834.1 million, $593.7 million and $207.7 million,
respectively, for affiliates and others.
PREMISES AND EQUIPMENT, NET
Premises and equipment are stated at cost, less accumulated depreciation or
amortization. Depreciation on premises and equipment is recorded using the
straight-line method over the estimated useful lives of individual
F-10
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
assets (three to seven years). Leasehold improvements are amortized over the
terms of their related leases or the estimated useful lives of improvements,
whichever is shorter.
INCOME TAXES
Under current Federal and applicable state limited liability company laws
and regulations, limited liability companies are treated as partnerships for
tax reporting purposes and, accordingly, are not subject to income taxes.
Therefore, no provision for income taxes has been made in the Company's
financial statements. For tax purposes, income or losses are included in the
tax returns of the members. Upon completion of the proposed initial public
offering, the Company's LLC status will terminate and the Company's income
will be fully taxable. See Note 3.
GOODWILL
Goodwill is amortized on a straight-line basis over its estimated useful
life of 15 years. Goodwill is reviewed for possible impairment when events or
changed circumstances may affect the underlying basis of the asset.
HEDGING PROGRAM
The Company regularly securitizes and sells fixed-and variable-rate mortgage
loans. To offset the effects of interest rate fluctuations on the value of its
fixed-rate loans held for sale, the Company in certain cases will hedge its
interest rate risk related to loans held for sale by selling United States
Treasury future contracts. Unrealized and realized gains and losses on such
positions are deferred as an adjustment to the carrying value of loans and
leases held for sale and included in income as gain or loss on sale of loans
when the related loans are sold.
RECENT ACCOUNTING PRONOUNCEMENTS
The Company adopted on January 1, 1997, Financial Accounting Standards Board
("FASB") Statement of Financial Accounting Standards ("SFAS") No. 125,
"Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities" ("SFAS 125"), which establishes accounting for
transfers and servicing of financial assets and extinguishment of liabilities.
This statement specifies when financial assets and liabilities are to be
removed from an entity's financial statements, the accounting for servicing
assets and liabilities and the accounting for assets that can be contractually
prepaid in such a way that the holder would not recover substantially all of
its recorded investment. Under SFAS 125, an entity recognizes only assets it
controls and liabilities it has incurred, discontinues recognition of assets
only when control has been surrendered, and discontinues recognition of
liabilities only when they have been extinguished. SFAS 125 requires that the
selling entity continue to carry retained interests, including servicing
assets, relating to assets it no longer recognizes. Such retained interests
are based on the relative fair values of the retained interests of the subject
assets at the date of transfer. Transfers not meeting the criteria for sale
recognition are accounted for as a secured borrowing with a pledge of
collateral. SFAS 125 requires an entity to recognize its obligation to service
financial assets that are retained in a transfer of assets in the form of a
servicing asset or liability. The servicing asset or liability is amortized in
proportion to, and over the period of, net servicing income or loss. Servicing
assets and liabilities are assessed for impairment based on their fair value.
The implementation of SFAS 125 did not have a material impact on the Company's
financial condition or results of operations. Under the provisions of SFAS
125, securitization interests retained by the Company as a result of
securitization transactions will be held as either available for sale or
trading.
In February 1997, the FASB issued SFAS No. 128, "Earnings Per Share" ("SFAS
128"). SFAS 128 simplifies the standards for computing and presenting earnings
per share ("EPS") as previously prescribed by Accounting Principles Board
Opinion No. 15, "Earnings per Share." SFAS 128 replaces primary EPS with basic
EPS and fully diluted EPS with diluted EPS. Basic EPS excludes dilution and is
computed by dividing income available to common stockholders by the weighted
average number of common shares outstanding for the period. Diluted EPS
reflects the potential dilution that could occur if securities or other
contracts to issue common stock were exercised or converted into common stock
or resulted from issuance of common stock that then shared in
F-11
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
earnings. SFAS 128 is effective for financial statements issued for periods
ending after December 15, 1997, and earlier application is not permitted.
Management has determined that the implementation of SFAS 128 will not have a
material impact on the Company's financial condition or results of operations.
Also in February 1997, the FASB issued SFAS No. 129, "Disclosure of
Information about Capital Structure" ("SFAS 129"). SFAS 129 consolidates
existing reporting standards for disclosing information about an entity's
capital structure. SFAS 129 also supersedes specific requirements found in
previously issued accounting statements. SFAS 129 must be adopted for
financial statements for periods ending after December 15, 1997. The impact on
the Company of adopting SFAS 129 is not expected to be material.
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income"
("SFAS 130"). SFAS 130 establishes standards for reporting and display of
comprehensive income and its components (revenues, expenses, gains and losses)
in a full set of general-purpose financial statements. SFAS 130 requires that
all items that are required to be recognized under accounting standards as
components of comprehensive income be reported in a financial statement that
is displayed with the same prominence as other financial statements. SFAS 130
is effective for fiscal years beginning after December 15, 1997.
Reclassification of financial statements for earlier periods provided for
comparative purposes is required. Management is in the process of determining
what effect, if any, adoption will have on the Company's financial condition
and results of operations.
The FASB issued SFAS No. 131, "Disclosures About Segments of an Enterprise
and Related Information," ("SFAS 131") in June 1997. SFAS 131 establishes
standards for the way that public business enterprises report information
about operating segments in annual financial statements and requires that
those enterprises report selected information about operating segments in
interim financial reports issued to stockholders. It also establishes
standards for related disclosures about products and services, geographic
areas and major customers. SFAS 131 is effective for financial statements for
periods beginning after December 15, 1997. Management has not yet determined
what effect, if any, adoption will have on the Company's financial condition
and results of operations.
(5) SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Noncash transactions for the six months ended December 31, 1995, included
the contribution of all of the assets acquired by ICII from Greenwich
including $80,000 of premises and equipment, $11,000 of prepaid expenses and
approximately $3.1 million of servicing rights. In addition, servicing rights
totaling $645,000 were contributed by Knyal for his interest in the Company.
Cash paid for the six months ended December 31, 1995, for interest totaled
$1.4 million, including approximately $1.0 million paid to Southern Pacific
Thrift and Loan ("SPTL"), an affiliate of the Company. During 1996, ICII
contributed $1.4 million to the Company by decreasing the balances of the
outstanding payable to ICII by the amount of the contribution. Cash paid for
interest for the six months ended June 30, 1997 and the year ended December
31, 1996 was $6.2 million and $15.6 million, respectively, including
approximately $0 million and $10.0 million, respectively, paid to SPTL.
(6) SECURITIES AVAILABLE FOR SALE
On June 20, 1996, the Company purchased two interest-only strips related to
franchise loan securitizations completed by Greenwich Capital for a total
price of $2,947,292 to yield approximately 15%. The carrying values of these
securities was $2,581,183 and $2,778,110 at June 30, 1997 and December 31,
1996, respectively. For the year ended December 31, 1996, and the six months
ended June 30, 1997, discount accretion and cash received was $217,415 and
$386,597, respectively, and $204,389 and $401,316, respectively. As there is
no active market for these securities, management estimated their fair values
by discounting estimated cash flows from these securities at an interest rate
determined by management to be the rate market participants would use in
similar circumstances.
F-12
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
On August 18, 1996, the Company purchased securitization certificates that
had been issued by Greenwich Capital through the FMAC Division in 1991 for a
total price of $38,756,339, which included a premium of $1,479,929. The
certificates paid principal and interest and have final maturities in 2002 and
2003. Premium amortized and cash received during the year ended December 31,
1996, totaled $181,990 and $2,003,769, respectively. The carrying value of the
certificates was $36,570,580 at December 31, 1996, and they were sold during
1997.
(7) LOANS AND LEASES HELD FOR SALE
At June 30, 1997, December 31, 1996 and 1995, loans and leases held for sale
consisted of the following:
<TABLE>
<CAPTION>
1997 1996 1995
-------- ------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
Loans......................................... $188,825 $94,490 $174,879
Equipment loans and leases.................... 21,184 4,385 --
Premium on franchise loans.................... -- -- 5,946
Net deferred loan fees........................ (1,324) (750) (203)
Unearned lease income......................... (3,270) (497) --
Margin and deferred net losses on futures
contracts used to hedge loans held for sale.. 2,599 1,287 632
-------- ------- --------
Loans and leases held for sale.............. $208,014 $98,915 $181,254
======== ======= ========
</TABLE>
The Company's loans and leases are primarily comprised of loans to
experienced franchisees of nationally recognized restaurant concepts. A
substantial portion of its debtors' ability to honor their contracts is
dependent upon the cash flows generated by the franchise restaurant units
themselves. The loans and leases generally are collateralized by the business
property, and the real estate on which the franchises are located.
Loans and leases held for sale were pledged as collateral for the borrowings
and bonds of the Company.
As of June 30, 1997, there were two loans on nonaccrual totaling $1.2
million included in loans and leases held for sale. There were no restructured
or impaired loans. As of December 31, 1996, 1995 and 1994 there were no
nonaccrual, restructured or impaired loans.
(8) RETAINED INTEREST IN LOAN SECURITIZATIONS
Activity in retained interest in loan securitizations was as follows for the
six-months ended June 30, 1997, and the year ended December 31, 1996:
<TABLE>
<CAPTION>
1997 1996
------ ------
(IN
THOUSANDS)
<S> <C> <C>
Balance, beginning of period............................... $6,908 $ --
Additions.................................................. 326 6,744
Accretion.................................................. 501 503
Cash received.............................................. (733) (339)
------ ------
Balance, end of period..................................... $7,002 $6,908
====== ======
</TABLE>
F-13
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
The components of retained interest in loan securitizations were as follows
at the dates indicated:
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1997 1996
-------- ------------
(IN THOUSANDS)
<S> <C> <C>
Overcollateralization amounts........................ $5,283 $5,208
Cash reserve deposit--restricted..................... 1,259 1,566
Residual interests................................... 460 134
------ ------
$7,002 $6,908
====== ======
</TABLE>
(9) ACQUISITION
During April 1997, the Company acquired certain net assets of the Enterprise
Financial Group for a purchase price of $408,000. The acquisition was recorded
using the purchase method of accounting. Under this method of accounting the
purchase price was allocated to the respective assets acquired. The excess of
the purchase price over the fair value of the net assets acquired has been
recorded as goodwill of approximately $408,000.
(10) PREMISES AND EQUIPMENT, NET
Premises and equipment consisted of the following at June 30, 1997, December
31, 1996 and 1995:
<TABLE>
<CAPTION>
1997 1996 1995
------ ------ ----
(IN THOUSANDS)
<S> <C> <C> <C>
Furniture, fixtures and equipment.................... $1,374 $ 968 $242
Leasehold improvements............................... 59 78 --
Construction in progress............................. 270 240 --
Less accumulated depreciation and amortization..... (270) (124) (7)
------ ------ ----
Ending balance....................................... $1,433 $1,162 $235
====== ====== ====
</TABLE>
(11) HEDGING
As of June 30, 1997 and December 31, 1996, the Company had open positions of
$149.2 million and $94.1 million, respectively, related to United States
Treasury futures contracts used to hedge loans and leases held for sale. At
June 30, 1997 and December 31, 1996, the Company's unrealized and realized net
losses on future contracts was $0.9 million and $1.3 million, respectively.
See Note 7.
F-14
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(12) BORROWINGS
Borrowings consisted of the following at June 30, 1997, December 31, 1996,
and 1995 (dollars in thousands):
<TABLE>
<CAPTION>
JUNE 30, 1997 DECEMBER 31, 1996
---------------------- ----------------------
INTEREST COMMITMENT PRINCIPAL INTEREST COMMITMENT PRINCIPAL
EXPIRATION DATE INDEX RATE AMOUNT OUTSTANDING RATE AMOUNT OUTSTANDING
--------------- ----- -------- ---------- ----------- -------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
CS First
Boston..................... December 31, 1998 Libor plus 7.29% $ 300,000 $167,447 7.31% $ 300,000 $ 48,673
160 to 235
Banco basis points
Santander.................. June 1, 1998 Libor plus 7.29% 50,000 16,465 7.63% 50,000 16,181
160
Greenwich basis points
Capital
Financial Products, Inc.... 30 days on demand Libor plus -- -- -- 7.36% Not 35,158
125 basis specified
Southern Pacific points
Thrift & Loan.............. Not specified Coupon less -- -- -- 9.17% 25,228 25,228
approximately
50 basis
points
Sanwa Bank................. September 30, 1997 Eurodollars 7.50% 15,000 12,010 -- -- --
plus 200
basis points
Imperial Credit
Industries, Inc............ Not Specified Fixed 12.00% Not 9,997 12.00% Not 17,728
specified specified
--------- -------- --------- --------
$ 365,000 $205,919 $ 375,228 $142,968
========= ======== ========= ========
<CAPTION>
DECEMBER 31, 1995
----------------------
INTEREST COMMITMENT PRINCIPAL
RATE AMOUNT OUTSTANDING
-------- ---------- -----------
<S> <C> <C> <C>
CS First
Boston..................... -- $ -- $ --
Banco
Santander.................. 8.00% 25,000 12,615
Greenwich Capital
Financial Products, Inc.... 7.25% Not 10,054
Southern Pacific specified
Thrift & Loan.............. 9.17% 46,968 46,968
Sanwa Bank................. -- -- --
Imperial Credit
Industries, Inc............ 12.00% -- --
---------- -----------
$ 71,968 $69,637
========== ===========
</TABLE>
The proceeds of the loan from Greenwich Capital Financial Products, Inc. at
December 31, 1996, were used to purchase asset backed securities totaling
$39.3 million which are included in securities available for sale in the
accompanying balance sheets. The above borrowings are collateralized by
franchise loans held for sale and interest bearing deposits.
F-15
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(13) BONDS
In December 1995, the Company, through a special purpose entity ("SPE"),
issued pass-through certificates (the "Bonds") secured by $105.2 million of
franchise loans. The Bonds consisted of three separate classes, Class A, Class
B and Class C, with principal balances at December 31, 1995 of approximately
$92.6 million, $4.2 million and $4.2 million, respectively. The Class C bonds
were subordinate to Class B, and both Class B and C are subordinate to Class
A. The Bonds had a weighted average loan rate of 9.63%, a pass-through rate of
8.59%, and a stated maturity of 13 years. The premium associated with the
Bonds of $11.0 million was amortized as an adjustment to interest expense over
the anticipated life of the Bonds. Due to the Company's retained interest in
the SPE and the disproportionate payments on the pass-through certificates,
the Company accounted for this transaction as a financing.
On March 28, 1996, the Company sold its interest in the SPE to Imperial
Credit Mortgage Holdings, Inc. an affiliate, receiving proceeds from the sale
of $2.8 million. As a result of the sale, the Company removed from its balance
sheet the loans and related bonds of $111.2 million and $112.0 million,
respectively, resulting in a net gain of $3.6 million.
(14) INCOME TAXES
The Company has qualified to be treated as a partnership for both federal
and state income tax purposes, and, as a result, is not subject to Federal and
state income taxes. Therefore, no asset or liability for income taxes has been
included in the historical financial statements. The Members are liable for
individual Federal and state income taxes on their allocated portions of the
Company's taxable income.
Upon completion of the public offering discussed in Note 1, the Company will
not be treated as a partnership for federal and state income tax purposes, and
its income will become fully taxable. This will result in the establishment of
a deferred income tax liability using normal federal and state income tax
rates, causing a one-time non-cash charge against earnings for additional
income tax expense equal to the amount of the deferred tax liability. As of
June 30, 1997, the deferred income tax liability which would have been
recorded had the Company not been treated as a partnership for tax purposes on
that date was approximately $7,018,000. For further information on this
deferred income tax liability and income taxes, see Note 3.
(15) PROFIT SHARING AND 401(K) PLANS
The Company's employees participate in a 401(k) plan sponsored by ICII.
Under the plan, employees may elect to enroll at the beginning of any month in
which the employee has been employed for at least six months. Employees may
contribute up to 14% of their salaries. The Company will match 50% of the
employee's contribution up to 4% of the employee's compensation. The Company
may also make a discretionary contribution on an annual basis to be allocated
to participants who have contributed in excess of 4% of their compensation.
The allocation is based upon a formula set by the plan and requires a five-
year vesting period. All forfeitures are allocated to the remaining
participants in the plan. Distribution of vested benefits to a terminated
participant in the 401(k) is made in accordance with the contribution
allocation form signed by the employee. Distributions are made, by election of
the participant, in either certificates of deposit, ICII common stock and
stock or bond mutual funds or a combination thereof.
The Company contributed $105,000, $88,000 and $13,000 to the 401(k) plan in
for the six months ending June 30, 1997, the year ended December 31, 1996 and
the six months ended December 31, 1995, respectively.
F-16
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(16) TRANSACTIONS WITH AFFILIATES
In the ordinary course of business, the Company has conducted transactions
with affiliated companies. In the opinion of management all such transactions
are conducted at "arm's length" in accordance with the Company's policies.
At December 31, 1995, the Company had a net receivable of principal and
interest on franchise loans from SPTL of $579,000. In July 1995, the Company
sold approximately $3.8 million of franchise loan servicing rights to SPTL,
resulting in a gain of $31,000. The Company also had a receivable from ICII, a
member, of $924,000 bearing interest at 10.4% as of December 31, 1995 and a
payable of $526,000 relating to ICII's residual interest in the Franchise Loan
Receivable Trust 1995-B (FLRT 1995-B).
The Company provides subservicing on a contractual basis for servicing
rights owned by SPTL. At June 30, 1997, and December 31, 1996 and 1995, there
were approximately $151 million, $183 million and $262 million of loans
outstanding underlying this subservicing arrangement. The Company receives
approximately 13 basis points for providing such services.
The Company purchased $55.3 million in franchise loans at a $6.0 million
premium from SPTL on December 29, 1995. These franchise loans were purchased
by SPTL from Greenwich on November 30, 1995.
The Company purchased $15.5 million in franchise loans at par value from
SPTL on June 26, 1997. These franchise loans were purchased by SPTL from the
Company in 1996 and 1997.
SPTL has provided warehouse facilities for the Company under which the loans
are closed under SPTL's name with the intent to resell the franchise loans to
the Company for inclusion into securitizations. The rate charged is equivalent
to the rate earned on the franchise loans less approximately 50 basis points,
or 9.17%. As of June 30, 1997, December 31, 1996 and December 31, 1995, the
Company had an outstanding balance of $0, $25.2 million and $47.0 million,
respectively, with respect to this facility. During the six months ended
June 30, 1997, the year ended December 31, 1996 and the six months ended
December 31, 1995, the Company paid SPTL $0 million, $10.3 million and
$1.2 million in interest expense associated with this facility. At June 30,
1997, loans originated by the Company for SPTL totaled approximately $104.3
million.
At June 30, 1997 and December 31, 1996, the Company had borrowings from ICII
outstanding of $10.0 million and $17.7 million, respectively. The Company pays
interest at 12% on the outstanding balance. The Company pays to ICII monthly
15 basis points on the Company's non-affiliate borrowing commitments in
consideration for ICII's guaranty of such borrowings.
(17) OTHER INVESTMENTS
At June 30, 1997, and December 31, 1996, the Company had approximately $4.4
million of equity investments included in other assets. These investments
represent interests in limited liability companies ("LLCs") or limited
partnerships (collectively, the "investees") which were formed to own and
operate restaurant franchise concepts, and are owned through investor LLCs,
the members of which consist of the Company, the Company's chief executive
officer, and ICII. Member ownership percentages in the investor LLCs range
from 50% to 100% for the Company, from 0% to 0.33% for the chief executive
officer, and from 0.67% to 50% for ICII. The Company consolidates all investor
LLCs in which it has a greater than 50% ownership interest because the terms
of the operating agreements vest control with the Company. The investor LLC in
which the Company has a 50% ownership interest is accounted for under the
equity method because the operating agreement provides for joint and equal
management by the Company and the other 50% owner.
The investor LLC's ownership interests in the investees range from 32.5% to
49.0%. A director of the Company owns 60% of one investee and the investor LLC
owns 40%; such investor LLC is owned 50% by the Company and 50% by ICII.
Accordingly, the Company's ownership interests in the investees (through the
F-17
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
investor LLCs) range from 20% to 48.5%. These investments are accounted for by
the Company under the equity method as the terms of the investment agreements
do not place the investor LLCs or the Company in a position of control over
the investees. Management has determined that the Company's equity in the net
income or loss of the investees is not material at this time.
The June 30, 1997, unpaid balances of loans to the investees made by the
Company total approximately $100.4 million of which $80.3 million has been
securitized and sold and $20.1 million is included in loans held for sale. At
June 30, 1997, none of these loans was past due.
Under the terms of the partnership and investment agreements, the investor
LLCs are committed under certain circumstances to make additional loans and
capital contributions of approximately $5.6 million.
(18) FAIR VALUE OF FINANCIAL INSTRUMENTS
Financial instruments include interest bearing deposits, securities
available for sale, loans and leases held for sale, futures contracts used to
hedge loans held for sale, retained interest in loan securitizations,
receivables from and payables to affiliates, borrowings and bonds. Fair value
estimates are subjective in nature and involve uncertainties and matters of
judgment and therefore cannot be determined with precision. Changes in
assumptions could significantly affect the estimates. In addition, the fair
value estimates presented do not include the value of anticipated future
business and the value of assets and liabilities that are not considered
financial instruments.
The carrying values of interest-bearing deposits and receivables from and
payables to affiliates and members approximate fair value due to their short-
term nature. The fair value of securities available for sale was based on
discounted cash flow. The fair value of loans and leases held for sale is
estimated by discounting expected future cash flows at an estimated market
rate of interest. A market rate of interest is estimated based on the
AAA Corporate Bond Rate, adjusted for credit risk and the Company's cost to
administer such loans. The fair value of retained interest in loan
securitizations was estimated by discounting future cash flows using rates
that an unaffiliated third-party purchaser would require on instruments with
similar terms and remaining maturities. The fair values of borrowings and
bonds was estimated by discounting cash flows at interest rates for debt
having similar credit ratings and maturities.
The estimated fair values of the Company's financial instruments are as
follows (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
------------------- ------------------- -------------------
CARRYING ESTIMATED CARRYING ESTIMATED CARRYING ESTIMATED
AMOUNT FAIR VALUE AMOUNT FAIR VALUE AMOUNT FAIR VALUE
-------- ---------- -------- ---------- -------- ----------
<S> <C> <C> <C> <C> <C> <C>
Assets:
Interest-bearing
deposits............. $ 2,667 $ 2,667 $ 2,594 $ 2,594 $ -- $ --
Loans and leases held
for sale............. 208,014 208,014 98,915 102,872 181,254 185,165
Retained interest in
loan
securitizations...... 7,002 7,002 6,908 6,908 -- --
Securities available
for sale............. 2,581 2,581 39,349 39,349 -- --
Receivable due from
affiliate............ -- -- -- -- 579 579
Receivable due from
member............... -- -- -- -- 924 924
Liabilities:
Payable due to
Imperial Credit
Industries, Inc...... $ 9,997 $ 9,997 $ 17,728 $ 17,728 $ -- $ --
Borrowings............ 195,922 195,922 125,240 125,240 69,637 69,637
Bonds................. -- -- -- -- 111,995 111,995
</TABLE>
F-18
<PAGE>
FRANCHISE MORTGAGE ACCEPTANCE COMPANY LLC
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
(19) COMMITMENTS AND CONTINGENCIES
Leases
Minimum rental commitments under noncancelable operating leases at June 30,
1997, were as follows (in thousands):
<TABLE>
<S> <C>
Six months ended December 31, 1997................................. $ 406
Year ended December 31,:
1998............................................................. 713
1999............................................................. 724
2000............................................................. 706
2001............................................................. 639
------
Thereafter....................................................... 196
------
Total............................................................ $3,384
======
</TABLE>
Rent expense for the six months ending June 30, 1997, the year ended
December 31, 1996 and the six months ending December 31, 1995 was $241,000,
$292,000 and $94,000, respectively.
Litigation
The Company is involved in litigation arising from the normal course of
business. The Company is currently involved in a dispute with a vendor
regarding the value of services rendered. Management does not believe that an
adverse settlement, if any, would have a material impact on the Company's
financial condition or results of operations.
The predecessor entity to the Company, and an officer of such entity and of
the Company, among others, are named as defendants in De Wald et al. vs. Knyal
et al. filed on November 15, 1996 in the Los Angeles Superior Court. The
complaint seeks an accounting, monetary and punitive damages for alleged
breach of contract, breach of fiduciary duty, breach of implied covenant of
good faith and fair dealing and fraud arising from an alleged business
relationship. The Company has not been named as a defendant in this lawsuit.
Financial Guarantees
The Company, among other subsidiaries of ICII, has jointly and severally and
fully and unconditionally guaranteed ICII's $200 million 9.875% senior notes
due January 15, 2007 and ICII's $70 liquidation amount of remarketed par
securities. Such guarantees will terminate upon the deconsolidation of the
Company in the financial statements of ICII, effective upon the closing of the
Company's initial public offering.
Loan Servicing
Related fiduciary funds held in trust for investors in non-interest bearing
accounts at unaffiliated financial institutions totalled $24,000 as of June
30, 1997. These funds are segregated in special bank accounts and are held as
deposits in such financial institutions.
Loan Commitments
As of June 30, 1997, the Company had open short-term lending commitments
amounting to approximately $76.2 million in process subject to credit
approval. There is no exposure to credit loss in this type of commitment until
the loans are funded. Interest rate risk is mitigated by the use of hedging
strategies applied to each loan at the time of funding.
Equity Investments
As of June 30, 1997 the Company was obligated to make up to an additional
$5.6 million in loans and equity investments under existing arrangements. See
Note 17.
F-19
<PAGE>
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
No dealer, salesman or any other person has been authorized to give any
information or to make any representations other than those contained in this
Prospectus in connection with the offer made in this Prospectus and, if given
or made, such information or representations must not be relied upon as having
been authorized by the Company, any of the Underwriters or the Selling
Stockholders. This Prospectus does not constitute an offer to sell or a
solicitation of, any offer to buy any shares of Common Stock other than the
Shares of Common Stock to which it relates or an offer to, or a solicitation
of, any person in any jurisdiction where such an offer or solicitation would
be unlawful. Neither the delivery of this Prospectus nor any sale made
hereunder shall, under any circumstances, create any implication that the
information contained herein is correct as of any time subsequent to the date
hereof.
-------------------
TABLE OF CONTENTS
-------------------
<TABLE>
<CAPTION>
Page
----
<S> <C>
Available Information.................................................... 2
Prospectus Summary....................................................... 3
Risk Factors............................................................. 10
The Reorganization....................................................... 28
Use of Proceeds.......................................................... 29
LLC Distributions........................................................ 29
Dividend Policy.......................................................... 29
Dilution................................................................. 30
Capitalization........................................................... 31
Selected Financial Data.................................................. 32
Management's Discussion and Analysis of Financial Condition and Results
of Operations........................................................... 34
Business................................................................. 42
Management............................................................... 60
Certain Transactions..................................................... 68
Principal and Selling Stockholders....................................... 73
Description of Capital Stock............................................. 74
Shares Eligible for Future Sale.......................................... 76
Underwriting............................................................. 77
Legal Matters............................................................ 79
Experts.................................................................. 79
Index to Financial Statements............................................ F-1
</TABLE>
Until December 13, 1997 (25 days after the date of this Prospectus) all
dealers effecting transactions in the registered securities, whether or not
participating in this distribution, may be required to deliver a Prospectus.
This is in addition to the obligation of dealers to deliver a Prospectus when
acting as Underwriters and with respect to their unsold allotments or
subscriptions.
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
10,000,000 SHARES
[LOGO OF FRANCHISE MORTGAGE ACCEPTANCE COMPANY]
COMMON STOCK
----------------
PROSPECTUS
----------------
NATIONSBANC MONTGOMERY SECURITIES, INC.
CREDIT SUISSE FIRST BOSTON
PAINEWEBBER INCORPORATED
November 18, 1997
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
