<PAGE> 1
REGISTRATION NO. 333-57323
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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AMENDMENT NO. 3
TO
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
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CYGNET FINANCIAL CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<S> <C> <C>
DELAWARE 6141 86-0917503
(STATE OF INCORPORATION) (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
CLASSIFICATION CODE NUMBER) IDENTIFICATION NO.)
</TABLE>
2525 EAST CAMELBACK ROAD, SUITE 1150
PHOENIX, ARIZONA 85016
(602) 852-6600
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF
REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
------------------------
STEVEN P. JOHNSON, ESQ.
SENIOR VICE PRESIDENT AND GENERAL COUNSEL
CYGNET FINANCIAL CORPORATION
2525 EAST CAMELBACK ROAD, SUITE 1150
PHOENIX, ARIZONA 85016
(602) 852-6600
(NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE,
OF AGENT FOR SERVICE)
------------------------
COPIES TO:
STEVEN D. PIDGEON, ESQ.
RICHARD B. STAGG, ESQ.
ROSARIO A. RODRIGUEZ, ESQ.
SNELL & WILMER L.L.P.
ONE ARIZONA CENTER
PHOENIX, ARIZONA 85004-0001
(602) 382-6000
------------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: From time
to time after the effective date of this Registration Statement.
If any of the securities being registered on this form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, check the following box. [X]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [ ] __________
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ] __________
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. [ ]
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CALCULATION OF REGISTRATION FEE
<TABLE>
<CAPTION>
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TITLE OF EACH CLASS OF PROPOSED MAXIMUM AMOUNT OF
SECURITIES TO BE REGISTERED AMOUNT AGGREGATE OFFERING PRICE REGISTRATION FEE
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<S> <C> <C> <C>
Rights...................................... 4,750,000 $0.00(1) $0.00(1)
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Common Stock, $.001 par value............... 5,678,572(2) $39,750,004 $11,726(3)
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Total............................. $39,750,004 $11,726(3)
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</TABLE>
(1) Pursuant to Rule 457(g), no registration fee is payable because a fee is
paid for registration of the shares of Common Stock offered pursuant to the
Rights.
(2) Includes 714,286 shares of Common Stock that may be purchased by Ernest C.
Garcia, II pursuant to the Additional Purchase Right (as defined herein) and
214,286 shares of Common Stock that may be purchased by certain directors
and officers of the registrant pursuant to the D&O Purchase Right (as
defined herein).
(3) Previously paid.
------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OR UNTIL THIS REGISTRATION STATEMENT SHALL BECOME EFFECTIVE
ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a), MAY
DETERMINE.
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<PAGE> 2
SUBJECT TO COMPLETION DATED AUGUST 4, 1998
[CYGNET FINANCE LOGO]
CYGNET FINANCIAL CORPORATION
5,678,572 SHARES OF COMMON STOCK
AND
4,750,000 COMMON STOCK PURCHASE RIGHTS
This Prospectus relates to a rights offering (the "Rights Offering"), which
includes (a) a distribution of transferable rights ("Rights") to subscribe for
shares of Common Stock, $.001 par value (the "Common Stock") of Cygnet Financial
Corporation ("Cygnet") to holders of Common Stock, par value $.001 per share
("UDC Common Stock") of Ugly Duckling Corporation ("UDC"), (b) the sale of
shares of Common Stock upon exercise of the Rights (the "Offered Shares"), (c)
the sale of shares of Common Stock pursuant to the Over-Subscription Privilege
(as defined herein), (d) the sale of shares of Common Stock to the Standby
Purchaser (as defined herein) pursuant to the terms of the Standby Purchase
Agreement (as defined herein), and (e) the sale of shares of Common Stock
pursuant to the Additional Purchase Right (as defined herein) and the D&O
Purchase Right (as defined herein). The holders of UDC Common Stock receiving
Rights (and their transferees) are referred to herein as "Rights Offering
Participants."
The Rights Offering is being effected as part of a plan to separate UDC and
its existing subsidiaries into two publicly-held companies (the "Split-up").
Pursuant to the Split-up, Cygnet, a newly-formed Delaware corporation and
wholly-owned subsidiary of UDC, and its subsidiaries will acquire UDC's bulk
purchasing and certain servicing operations, its third party dealer financing
operations (excluding the branch office network operations that UDC closed in
the first quarter of 1998), and substantially all of the assets and certain
liabilities acquired pursuant to the transactions between UDC and First
Merchants Acceptance Corporation and Reliance Acceptance Group, Inc. Cygnet may
also effect certain additional transactions prior to the Split-up as generally
described herein. See "Business -- Recent Developments." In exchange for these
assets, Cygnet will issue $40 million of its Preferred Stock (as defined herein)
and make a cash or equivalent payment as described herein, which Cygnet
estimates will range from $10 million to $20 million. The sum of the Preferred
Stock and the cash payment will be equivalent to the greater of the appraised
value or book value of the assets transferred (in each case net of assumed
liabilities) determined as of the closing of the transaction. The proceeds of
the Rights Offering will be used primarily to provide funds to Cygnet for
capital expenditures and working capital and to fund the cash portion of the
consideration as described herein.
After consummation of the Split-up, Cygnet and UDC will be owned, operated,
and managed as separate public companies with separate management. Cygnet will
operate substantially all of the third party dealer finance operations currently
conducted by UDC, including its bulk purchasing and certain servicing operations
and its collateralized dealer finance program. UDC will retain and continue to
operate its "buy here-pay here" dealerships and to service the finance
receivables generated by those dealerships.
Pursuant to the Rights Offering, each holder of record of UDC Common Stock
on August 17, 1998 (the "Record Date") will receive one (1) Right for every four
(4) shares of UDC Common Stock held on the Record Date. Each Right represents
the right to subscribe for one share of Common Stock (the "Primary
Subscription") at an exercise price of $7.00 (the "Subscription Price"). The
Rights will be exercisable for a limited period (the "Rights Offering Period")
beginning on the date of such distribution (the "Commencement Date") and ending
at 5:00 p.m. (Minnesota time) on the date that is 20 days following the
Commencement Date or such other later date to which the Rights Offering is
extended (the "Expiration Date"). The Rights will trade only during the Rights
Offering Period. Holders of Rights who exercise all of their Rights may
subscribe at the Subscription Price for additional shares of Common Stock out of
the pool of shares underlying unexercised Rights on the Expiration Date, if any,
equal to the number of shares of Common Stock purchased through Rights exercised
during the Rights Offering Period (the "Over-Subscription Privilege"), subject
to allocation as described herein. See "The Rights Offering."
The issuance of Common Stock following the Rights Offering and the transfer
of assets from UDC to Cygnet are contingent upon, among other things, the
approval of the Split-up by the stockholders of UDC and the purchase of at least
75% of the Offered Shares (the "Required Purchase Amount"). Ernest C. Garcia,
II, Cygnet's Chairman of the Board, Chief Executive Officer, and President, and
the holder of approximately 25.2% of the outstanding shares of UDC Common Stock,
has agreed to purchase his full pro rata share of the Offered Shares. In
addition, as Standby Purchaser (as described herein), Mr. Garcia has agreed,
subject to certain conditions, to purchase, through the exercise of his
Over-Subscription Privilege and his Standby Purchase Obligation (as defined
herein), the number of shares of Common Stock required to meet the Required
Purchase Amount. If the Rights Offering is not consummated, all funds tendered
for shares of Common Stock will be returned promptly, without interest,
following the termination of the Rights Offering.
To provide additional capital, Mr. Garcia may, at his election, purchase up
to an additional 714,286 shares of Common Stock at the Subscription Price, for
an aggregate price of approximately $5 million, over and above the Required
Purchase Amount, and directors and officers of Cygnet (other than Mr. Garcia)
will have the opportunity to purchase up to 214,286 shares of Common Stock at
the Subscription Price, for an aggregate price of approximately $1.5 million,
over and above any shares of Common Stock that such directors and officers have
the right to acquire through the Rights Offering.
Prior to this Rights Offering, there has been no public market for the
Rights or the Common Stock. The Rights and the Common Stock have been approved
for listing on the Nasdaq National Market under the symbols "CGNTR" and "CGNT,"
respectively, subject to notice of issuance.
The Information Agent for the Rights Offering is Corporate Investor
Communications, Inc. ("CIC"). Questions concerning the Rights Offering may be
addressed to CIC at 1-888-673-4478.
SEE "RISK FACTORS" AT PAGE 13 OF THIS PROSPECTUS FOR A DISCUSSION OF
CERTAIN FACTORS THAT SHOULD BE CONSIDERED BY PROSPECTIVE PURCHASERS OF THE
SECURITIES OFFERED HEREBY.
------------------------
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.
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<TABLE>
<CAPTION>
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PURCHASE PRICE COMMISSION PROCEEDS(1)
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<S> <C> <C> <C>
Per Share...................... $7.00 none $7.00
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Total................... $39,750,004(2) none $39,750,004(2)
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</TABLE>
(1) Before deducting expenses payable by Cygnet estimated at $1,275,000
relating to the Rights Offering.
(2) Assumes full exercise of all Rights, the Additional Purchase Right, and
the D&O Purchase Right, and the corresponding sale of all 5,678,572
shares of Common Stock offered hereby at the Subscription Price.
------------------------
THE DATE OF THIS PROSPECTUS IS AUGUST , 1998
<PAGE> 3
THERE MAY BE CERTAIN TAX CONSEQUENCES TO YOU IF THE RIGHTS OFFERING DESCRIBED
HEREIN IS EFFECTED. TO AVOID THE POSSIBILITY OF THE RECOGNITION OF ORDINARY
INCOME AND THE CREATION OF A POTENTIALLY DEFERRED OR NONDEDUCTIBLE CAPITAL LOSS,
IT WILL, IN MANY INSTANCES, BE IN THE INTERESTS OF RIGHTS OFFERING PARTICIPANTS
TO EITHER EXERCISE OR SELL THE RIGHTS, RATHER THAN TO ALLOW THE RIGHTS TO LAPSE.
PLEASE READ THE ENCLOSED MATERIALS CONCERNING THE RIGHTS OFFERING CAREFULLY.
<PAGE> 4
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by the detailed
information and combined financial statements, including the notes thereto,
appearing elsewhere in this Prospectus. Investors should carefully consider the
information set forth under the heading "Risk Factors." Unless the context
otherwise requires, the term "Company" as used herein means Cygnet Financial
Corporation and all of its subsidiaries, including the assets and operations of
those entities both before and after the separation of such assets and
operations from UDC.
THE COMPANY
General. Assuming successful completion of the Rights Offering and
consummation of the Split-up, the Company will engage in the business of
providing various financial services primarily to the sub-prime segment of the
automobile financing industry, which focuses on selling and financing the sale
of new and used cars to persons who have limited credit histories, low incomes,
or past credit problems ("Sub-Prime Borrowers"). The Company will (i) engage in
the bulk purchase and servicing of pools of finance receivables generated from
the sale of new and used automobiles by independent third party dealers ("Third
Party Dealers"), including pools of charged-off receivables, deficient loans, or
other receivables; (ii) service pools of various types of finance receivables;
(iii) operate a collateralized dealer financing program (the "Cygnet Dealer
Program"), pursuant to which it will provide qualified Third Party Dealers with
warehouse purchase facilities and revolving lines of credit primarily secured by
the dealers' finance receivable portfolios; and (iv) pursue other opportunities
in the financial services market.
On the effective date of the Split-up (the "Effective Date"), the Company
will acquire the bulk purchasing and certain servicing operations and related
assets from UDC and substantially all of UDC's servicing and other rights and
certain obligations pursuant to transactions with First Merchants Acceptance
Corporation ("FMAC") and Reliance Acceptance Group, Inc. ("Reliance"). The
Company intends to consider the bulk purchase and servicing of other portfolios
of finance receivables, including instances in which the holders of the
portfolios are experiencing financial difficulties. For a description of the
Company's bulk purchase and servicing operations and the Company's rights and
obligations with respect to the FMAC and Reliance transactions, see
"Business -- Bulk Purchasing and Servicing Operations." The Company also may
enter into other transactions and acquire other assets prior to the Effective
Date similar to those described above.
The Company also will acquire the operations and related assets associated
with the Cygnet Dealer Program, which provides qualified Third Party Dealers
with warehouse purchase facilities and revolving lines of credit primarily
secured by the dealers' finance receivable portfolios. Unlike other typical
financing programs available to dealers, the Cygnet Dealer Program permits
participating dealers to retain servicing rights with respect to their finance
receivable portfolios, which enables dealers to generate servicing income and
maintain relationships with their customers, which dealers believe is a key
factor in generating referrals for additional sales and improving the chances of
repeat business. For a description of the Cygnet Dealer Program, see
"Business -- Cygnet Dealer Program."
In late 1997, UDC, which operates a chain of "buy here-pay here" used car
dealerships in the United States, began a strategic evaluation of its
operations, ultimately determining to separate its dealership operations from
its non-dealership operations pursuant to the Split-up. Cygnet is a Delaware
corporation formed in June 1998 to acquire and operate the non-dealership
operations of UDC and will, upon successful completion of the Rights Offering
and consummation of the Split-up, be a separately-traded public company. The
Company's principal executive offices will be located at 2525 East Camelback
Road, Suite 1150, Phoenix, Arizona 85016 and its telephone number will be (602)
852-6600.
Recent Developments. The Company and UDC have recently concluded or
currently are in the process of evaluating a number of transactions (and may
identify and pursue other transactions in the ordinary course
3
<PAGE> 5
of business) that, if concluded prior to the Split-up, would be assigned to, or
concluded directly by, the Company ("Interim Transactions"). Interim
Transactions under consideration include (i) the acquisition of and/or a
management arrangement with an operating insurance agency, which offers
insurance-related products and services designed to reduce the risk of loss to
holders of portfolios of automobile and residential mortgage loans, for a price
estimated by the Company of approximately $4.0 million, (ii) the acquisition of
a pool of charged-off automobile financial receivables for a price estimated by
the Company of approximately $400,000, (iii) the purchase of a bank's interest
in a credit facility secured by a pool of receivables and by a residual interest
in a securitized pool of receivables for approximately $7.8 million, and (iv) a
loan from the Company of $2 million to a company in exchange for servicing
rights, warrants, and certain additional investment rights. Interim Transactions
recently concluded include (i) a servicing arrangement relating to a $50 million
portfolio of automobile finance receivables, and (ii) the assumption of special
servicing arrangements relating to six pools of automobile finance receivables,
and the purchase of five pools of charged off receivables for approximately
$600,000. For a more detailed description of transactions currently under
consideration or recently concluded by the Company, see "Business -- Recent
Developments." The Company does not believe any of the Interim Transactions
recently concluded or currently under consideration are material to its
financial condition or results of operations, individually or in the aggregate,
or that any of such transactions would constitute the acquisition of a business
for which separate financial statements would be required to be publicly
disclosed by the Company. In addition, none of the Interim Transactions
described above require approval by the shareholders of the Company or UDC, nor
are any of such transactions with an affiliate of the Company or UDC. Interim
Transactions under consideration are subject to a number of contingencies, which
may include the negotiation and preparation of definitive agreements, the
completion of due diligence, and the receipt of required consents from any third
parties. As a result, there can be no assurance that these transactions will be
consummated or that if consummated will be profitable.
In addition to the transactions described above, the Company may purchase
or enter into servicing agreements with respect to portfolios of loan
receivables, may purchase debt secured by portfolios of receivables, may
purchase servicing or other assets, and may enter into other similar
transactions prior to the Effective Date. To effect any Interim Transactions,
the Company may borrow money from a third party lender ("Third Party Loans") or
from UDC ("Interim Company Loans"). Third Party Loans made to the Company prior
to the Effective Date may be guaranteed by UDC. UDC will seek to have any such
guarantee released as of the Effective Date with the Company likely providing a
replacement guarantee. Interim Company Loans may become due and payable on the
Effective Date. With respect to any Interim Transactions effected or operations
conducted prior to the Effective Date, on the business day immediately preceding
the Effective Date, the Company will distribute to UDC all earnings accrued to
such date. In addition, the Company will pay to UDC the excess, if any, of the
aggregate appraised value of the assets and rights and related liabilities
acquired by the Company in Interim Transactions (the "Interim Assets") as of the
Effective Date over the aggregate book value of the Interim Assets (the "Interim
Consideration"). UDC and the Company may agree to other terms with respect to
how Interim Transactions will be structured or treated. The purpose for the
payment by the Company of the Interim Consideration is to place both parties in
substantially the same economic situation each would be in if the Interim
Transactions were effected by UDC rather than the Company prior to the Effective
Date and the resulting assets and liabilities were transferred to the Company on
the Effective Date.
THE RIGHTS OFFERING
General. The Rights Offering is being made as part of a plan pursuant to
which UDC and its existing subsidiaries will be separated into two publicly-held
companies (the "Split-up"). Pursuant to the Split-up, Cygnet, a newly-formed
Delaware corporation and wholly-owned subsidiary of UDC, and its subsidiaries,
will acquire UDC's bulk purchasing and certain servicing operations, its
third-party dealer financing operations (excluding the branch office network
operations that UDC closed in the first quarter of 1998), and substantially all
of UDC's assets and certain liabilities acquired pursuant to the FMAC and
Reliance transactions. In exchange for such assets, Cygnet will issue $40
million of its Preferred Stock (as defined below) and make a cash payment or
equivalent as described herein. The sum of the Preferred Stock and the
4
<PAGE> 6
cash or equivalent payment will be equal to the greater of the appraised value
or book value of the assets transferred (in each case net of assumed
liabilities) determined as of the Effective Date. The Company does not
anticipate that the appraised value of the assets transferred will be materially
different than their book value.
Description of Rights. In connection with the Split-up, Cygnet will issue
transferable rights ("Rights") to subscribe for shares of its Common Stock, par
value $.001 per share (the "Common Stock"), to UDC's stockholders of record as
of the Record Date pro rata in accordance with the ownership of UDC Common Stock
as of the Record Date. Each holder of record of UDC Common Stock on the Record
Date will receive one (1) Right for every four (4) shares of UDC Common Stock.
Each Right entitles the holder to purchase one (1) share of Common Stock (the
"Primary Subscription") at an exercise price of $7.00 (the "Subscription
Price"). The Rights are exercisable and transferable for a limited period (the
"Rights Offering Period") beginning on the date of such distribution (the
"Commencement Date") and ending at 5:00 p.m., Minnesota time, on the date that
is 20 days following the Commencement Date or such other later date to which the
Rights Offering is extended in the Company's sole discretion (the "Expiration
Date"). The Company may determine to extend the Rights Offering Period if the
Company believes a longer offering period is advisable in order to allow a more
diversified pool of holders to exercise the Rights or for any other reason. The
Company determined the Subscription Price based primarily upon two factors; (i)
the amount of cash the Company believes is necessary to satisfy its short-term
business plan and (ii) the number of shares of Common Stock that the Company
wanted to issue. The Company established a goal to issue between five and six
million shares of Common Stock, which resulted in the ratio of one Right for
every four shares of UDC Common Stock. In determining the amount of capital
required, the Company considered the potential for additional bulk purchasing
opportunities, the expected growth of the Cygnet Dealer Program, and the
development of corporate infrastructure to position the Company for acquisition
opportunities as well as the Company's ability to leverage the capital raised to
address these opportunities. The proceeds of the Rights Offering will be used
primarily to provide funds to the Company for capital expenditures and working
capital and to fund the cash portion of the consideration described herein.
Required Purchase Amount. The issuance of Common Stock following the
Rights Offering is contingent upon, among other things, approval of the Split-up
by the stockholders of UDC and the purchase of at least 75% of the Offered
Shares (the "Required Purchase Amount"). Mr. Garcia, Cygnet's Chairman of the
Board, Chief Executive Officer, and President, and the holder of approximately
25.2% of the outstanding shares of UDC Common Stock, has agreed to purchase his
full pro rata share of the Common Stock offered pursuant to the Rights Offering.
In addition, Mr. Garcia has agreed to purchase, subject to certain conditions,
through the exercise of his Over-Subscription Privilege (as described below),
and his Standby Purchase Obligation (as described below), the number of shares
of Common Stock required to meet the Required Purchase Amount.
Assets to be Transferred. If the Rights Offering is successfully
completed, on the Effective Date of the Split-up, UDC and its subsidiaries will
transfer to the Company certain assets and liabilities. In general, the Company
will acquire substantially all of UDC's assets and related liabilities required
to operate UDC's non-dealership operations, other than those assets and
liabilities related to UDC's branch office network, which UDC closed in the
first quarter of 1998. The transfer will include (i) UDC's bulk purchase and
certain servicing operations with respect to finance receivables originated by
Third Party Dealers, (ii) the assets and related liabilities of Cygnet Dealer
Finance, Inc., currently a wholly-owned subsidiary of UDC, through which the
Company will provide qualified Third Party Dealers with warehouse purchase
facilities and revolving lines of credit primarily secured by the dealers'
finance receivable portfolios under the Cygnet Dealer Program; (iii)
substantially all of UDC's rights and certain obligations pursuant to certain
transactions with FMAC, including the servicing platform and certain other
rights and residual interests, and the assumption by the Company of certain
funding obligations and guarantees of UDC in connection with the FMAC
transaction, but excluding certain rights and liabilities retained by UDC as
described under "Business -- Bulk Purchasing and Servicing Operations --
Transactions Regarding First Merchants Acceptance Corporation;" and (iv)
substantially all of UDC's rights and certain obligations pursuant to certain
transactions with Reliance, including the servicing platform and certain
servicing and transition servicing arrangements, as described
5
<PAGE> 7
under "Business -- Bulk Purchasing and Servicing Operations -- Transactions
Regarding Reliance Acceptance Group." The Transferred Assets will not include
cash received by UDC prior to the Effective Date. UDC also may enter into other
transactions and acquire other assets prior to the Effective Date similar to
those described above and may transfer to the Company the assets and related
liabilities so acquired. All transferred assets and related liabilities are
collectively referred to herein as the "Split-up Businesses" or the "Transferred
Assets." As of June 30, 1998, the Transferred Assets had a net book value of
approximately $54.7 million and a net appraised value of approximately $54.9
million. The Company will record the Transferred Assets at their historical
basis, as if they had been acquired in a transaction accounted for as a "pooling
of interests." The Company anticipates that the net book value of the
Transferred Assets will increase prior to the transfer contemplated herein as
additional finance receivables are acquired under warehouse purchase facilities
or additional advances are made under revolving lines of credit through the
Cygnet Dealer Program.
Consideration for Transferred Assets. As consideration for the Transferred
Assets, Cygnet will issue to UDC 40,000 shares of Cumulative Convertible
Preferred Stock, Series A, $.001 par value per share (the "Preferred Stock"),
with an aggregate liquidation preference of $40 million, and make a cash or
equivalent payment equal to the difference between the greater of the appraised
value or book value of the Transferred Assets (in each case net of assumed
liabilities) determined as of the Effective Date and the $40 million of
Preferred Stock (the "Cash Payment"), which the Company currently estimates will
range from $10 million to $20 million. The Company also may be required to repay
to UDC any Interim Company Loans, would pay to UDC any Interim Consideration,
and would distribute to UDC any earnings accrued prior to the Effective Date.
UDC also may require the release of any guarantee of Third Party Loans to the
Company. Alternatively, UDC and the Company may agree as to other treatment of
the Interim Transactions.
Holders of the Preferred Stock, in preference to the Common Stock, will be
entitled to receive cumulative cash dividends, from the Effective Date through
the first anniversary of such date, at the initial annual rate of 7% of the Base
Liquidation Amount (as defined below), and escalating 1% per annum on each
anniversary thereafter to a maximum rate of 11% per annum on the aggregate Base
Liquidation Amount, in each case payable quarterly in arrears on the first day
of March, June, September, and December of each year, beginning December 1,
1998, when and as declared by the Board of Directors of Cygnet out of funds
legally available for such payment. Holders of the Preferred Stock, in
preference to the holders of Common Stock, will be entitled to receive, in the
event of dissolution or liquidation of Cygnet, $1,000 per share (the "Base
Liquidation Amount") plus accrued and unpaid dividends thereon (the "Liquidation
Preference Amount").
The Preferred Stock will be redeemable at Cygnet's option at any time in
whole or in part at a redemption price equal to the Liquidation Preference
Amount as of the redemption date; provided, however, that no such redemption
will be authorized unless, in the reasonable judgment of the Company and UDC,
the redemption proceeds would be treated for federal income tax purposes as
proceeds from a sale of such stock and not as dividends paid with respect to
such stock. As a consequence, redemption of the Preferred Stock may be limited
and may be confined to a single redemption of all outstanding Preferred Stock.
The Company will be authorized to redeem shares of Common Stock held by holders
of the Preferred Stock to the extent necessary to assure that the proceeds from
a redemption of Preferred Stock will be treated as proceeds from a sale of such
stock and not as dividends paid with respect to such stock. The Preferred Stock
will be convertible at the option of UDC in whole or in part at any time after
the third anniversary following the date of issuance or prior thereto if an
amount equal to six quarterly dividend payments on the Preferred Stock has
accrued and is unpaid until payment in full thereof as described herein. In such
case, the Preferred Stock may be converted into that number of shares of Common
Stock determined by dividing the Liquidation Preference Amount of the shares of
Preferred Stock to be converted by the lower of (a) the Subscription Price or
(b) 80% of the average Market Price (as defined below) of the Common Stock for
the ten consecutive trading days ending two business days prior to the date
notice of conversion is given. For purposes of the conversion of the Preferred
Stock, "Market Price" means (i) if the Common Stock is quoted on the Nasdaq
National Market or the Nasdaq SmallCap Market or on a national securities
exchange, the daily per share closing price of the Common Stock as quoted on the
Nasdaq National Market or the Nasdaq SmallCap Market or on the principal stock
exchange on which it is listed on the trading day in question, as the case may
be, whichever is the higher, or (ii) if the Common Stock is traded in the
over-the-counter market and not quoted on the
6
<PAGE> 8
Nasdaq National Market or the Nasdaq SmallCap Market or on any national
securities exchange, the closing bid price of the Common Stock on the trading
day in question, as reported by Nasdaq or an equivalent generally accepted
reporting service.
The Preferred Stock and the Common Stock into which it is convertible are
not registered under the Securities Act of 1933, as amended (the "Securities
Act"), and may not be sold by UDC unless such securities are registered or
unless an exemption from registration is available. Upon request by UDC, Cygnet
will register the resale of the Common Stock issued upon conversion of the
Preferred Stock under the Securities Act at the expense of Cygnet. The Preferred
Stock will not have any pre-emptive or other subscription rights.
Over-Subscription Privilege. Any Rights Offering Participant who exercises
all of his Rights may subscribe at the Subscription Price for additional shares
of Common Stock out of the pool of shares underlying unexercised Rights on the
Expiration Date, if any (the "Unexercised Pool"), equal to the number of shares
of Common Stock such Rights Offering Participant purchased during the Rights
Offering Period (the "Over-Subscription Privilege"), subject to allocation as
described herein. Mr. Garcia, as the Standby Purchaser, may exercise his
Over-Subscription Privilege in partial satisfaction of his obligations under the
Standby Purchase Agreement as described below.
Subscription Price. The exercise price of the Rights ("Subscription
Price") is $7.00 per share. Upon exercise of a Right and the payment of the
Subscription Price, the holder thereof will be entitled to receive one share of
Common Stock following the Split-up. The Subscription Price will not necessarily
bear any relationship to the trading price of the Common Stock after completion
of the Rights Offering.
Fractional Shares. Only Rights to purchase whole shares of Common Stock
will be issued in the Rights Offering. If the number of shares of UDC Common
Stock held by a Rights Offering Participant on the Record Date is not divisible
by four, the number of Rights to be issued to such stockholder will be rounded
upward to the nearest whole Right. For further information, see "The Rights
Offering -- No Fractional Shares."
Directors and Executive Officers. If the Split-up is successfully
concluded, Mr. Garcia will remain Chairman of the Board, Chief Executive
Officer, and President of Cygnet. Mr. Garcia currently is Chairman of the Board
and Chief Executive Officer of UDC and will remain as Chairman of the Board of
UDC following the Split-up. In addition, certain existing UDC directors,
officers, and employees have or will become directors and officers of the
Company. See "Management."
Standby Purchaser Obligation. The Standby Purchaser is Ernest C. Garcia,
II, Cygnet's Chairman of the Board, Chief Executive Officer, and President, and
the holder of approximately 25.2% of the outstanding shares of UDC Common Stock.
In accordance with the Rights Exercise and Standby Purchase Agreement between
the Company and Mr. Garcia (the "Standby Purchase Agreement"), subject to
certain conditions, Mr. Garcia, as the Standby Purchaser, will purchase
additional shares of Common Stock at the Subscription Price up to the Required
Purchase Amount (the "Standby Purchase Obligation"). In consideration for the
obligations incurred by Mr. Garcia under the Standby Purchase Agreement, on the
Effective Date, Cygnet will grant to Mr. Garcia warrants (the "Standby
Warrants") entitling Mr. Garcia to purchase up to 500,000 additional shares of
Common Stock at an exercise price equal to 120% of the Subscription Price, or
$8.40 per share (the "Warrant Exercise Price") at any time within five years
following the Effective Date. Neither the Standby Warrants nor the underlying
Common Stock into which they are exercisable are registered under the Securities
Act and such securities may not be sold by Mr. Garcia unless such securities are
registered or unless an exemption from registration is available. The Company
has agreed to register at its expense the resale of the Common Stock issued upon
exercise of the Standby Warrants at the request of Mr. Garcia at any time after
one year following the Effective Date. Mr. Garcia's rights and obligations in
connection with the Rights Offering may be exercised through his affiliates.
Additional Purchase Right. In addition to his Rights, the
Over-Subscription Privilege, and his Standby Purchase Obligation, Mr. Garcia
also will have the right (the "Additional Purchase Right"), at his election, to
purchase up to an additional 714,286 shares of Common Stock at the Subscription
Price, or an aggregate of approximately $5 million, over and above the Required
Purchase Amount. Such Additional Purchase Right will be contingent on a
successful Rights Offering and must be exercised on or prior to the Effective
Date.
7
<PAGE> 9
D&O Purchase Right. In addition, directors and officers of the Company
(excluding Mr. Garcia) will have the right (the "D&O Purchase Right"), at their
election, to purchase in the aggregate up to 214,286 additional shares of Common
Stock at the Subscription Price over and above the number of shares of Common
Stock they could acquire pursuant to any Rights they may have. Such D&O Purchase
Right will be contingent on a successful Rights Offering and must be exercised
on or prior to the Effective Date.
Additional Capital. The Company has secured a subordinated loan of $5
million from a third-party lender for a three year term. The loan bears interest
at 12% per annum and is payable quarterly with the principal to be paid in full
on the third anniversary of the Effective Date. In consideration for providing
such financing, Cygnet will issue warrants to purchase up to 115,000 shares of
Common Stock with an exercise price of $8.40 per share, subject to a call
feature by the Company if the closing price of the Common Stock equals or
exceeds $13.44 per share for a period of 20 consecutive trading days. The loan
is guaranteed by UDC. On the Effective Date, UDC's guarantee will be released
and replaced with a guarantee of the Company.
Trading Market. The Rights and the Common Stock have been approved for
listing on the Nasdaq National Market under the symbols "CGNTR" and "CGNT,"
respectively, subject to notice of issuance. There is no assurance, however,
that a trading market in the Rights or the Common Stock will develop or, if
developed, can be maintained. Upon the Expiration Date, subject to certain
guaranteed delivery procedures, any unexercised Rights will lapse, and become
null and void.
Tax Consequences to Rights Offering Participants. In the opinion of Snell
& Wilmer L.L.P., Rights Offering Participants who receive Rights in the original
distribution will generally recognize dividend income (taxable as ordinary
income) in an amount equal to the fair market value, if any, of the Rights as of
the date of their distribution. In the opinion of Willamette Management
Associates, an independent appraisal firm engaged by UDC in connection with the
Rights Offering and the Split-up (the "Appraiser") dated July 21, 1998, the fair
market value of the Rights as of the date of their distribution should be zero.
However, the Appraiser's opinion is not binding on the Internal Revenue Service.
For example, the Internal Revenue Service may assert that the price at which the
Rights trade during the 20-day trading period of the Rights is indicative of the
fair market value of the Rights on the date of their distribution. Accordingly,
there can be no assurance as to the precise amount of dividend income, if any, a
Rights Offering Participant will recognize upon the receipt of the Rights. If
the Rights are trading for value on the date of their distribution, UDC may, in
its discretion, report to Rights Offering Participants who receive Rights in the
original distribution the receipt of dividend income in an amount equal to the
average of the high and low trading prices of the Rights on such date.
To avoid the possibility of the recognition of ordinary income and the
creation of a potentially deferred or nondeductible capital loss, it will, in
many instances, be in the interests of Rights Offering Participants who receive
Rights in the original distribution to either exercise or sell the Rights,
rather than to allow the Rights to lapse. See "Federal Income Tax Consequences."
Exercise. The Rights are exercisable from the Commencement Date until 5:00
p.m., Minnesota time, on the Expiration Date.
Information Agent. The Information Agent for the Rights Offering is
Corporate Investor Communications, Inc. ("CIC"). Questions concerning the Rights
Offering may be addressed to CIC at 1-888-673-4478.
USE OF PROCEEDS FROM THE RIGHTS OFFERING
The Company intends to use a portion of the proceeds of the Rights Offering
to make the Cash Payment to UDC as part of the consideration for the Transferred
Assets. The remaining proceeds of the Rights Offering will be used by the
Company for capital expenditures and as working capital.
EFFECT OF RIGHTS OFFERING
Cygnet currently is a wholly-owned subsidiary of UDC. Following the
transactions described in this Prospectus, Cygnet and UDC will be owned,
operated, and managed as separate public companies. Assuming
8
<PAGE> 10
all holders of the Rights elect to purchase shares of Common Stock pursuant to
the Rights Offering, and the Cygnet directors and officers exercise their D&O
Purchase Right in full, Mr. Garcia will own approximately 23.6% of the
outstanding shares of Common Stock (or 33.2% if he fully exercises the
Additional Purchase Right) and UDC will own 100% of the outstanding Preferred
Stock of Cygnet. If the Preferred Stock were converted to Common Stock at the
Subscription Price of $7.00 per share, UDC would obtain 5,714,286 shares, or
approximately 61.6% of the then outstanding shares of Common Stock, assuming the
sale by Cygnet pursuant to the Rights Offering of 3,562,500 shares of Common
Stock (the Required Purchase Amount) and that no additional shares of Common
Stock are issued either on the Effective Date of the Split-up or thereafter. If
the Preferred Stock were converted to Common Stock at the Subscription Price,
and assuming the sale by Cygnet of 4,750,000 shares of Common Stock pursuant to
the Rights Offering and the sale of 714,286 additional shares to Ernest C.
Garcia, II pursuant to the Additional Purchase Right and 214,286 shares
available for purchase by officers and directors of Cygnet (other than Mr.
Garcia) pursuant to the D&O Purchase Right, and that no additional shares of
Common Stock are then outstanding, UDC would obtain approximately 50.2% of the
then outstanding shares of Cygnet.
INTERESTED TRANSACTIONS
As described above, officers and directors of the Company have certain
significant interests in the Split-up, including (i) Mr. Garcia's rights and
obligations as Standby Purchaser, which may enable Mr. Garcia to purchase
significant amounts of Common Stock at the Subscription Price to the extent such
stock is not purchased upon exercise of the Rights or pursuant to the
Over-Subscription Privilege by holders of the Rights, (ii) Mr. Garcia's right to
purchase up to 714,286 additional shares of Common Stock at the Subscription
Price, (iii) the right of officers and directors of UDC who will be officers and
directors of the Company on the Effective Date to purchase up to 214,286
additional shares of Common Stock at the Subscription Price, (iv) the issuance
of the Standby Warrants to Mr. Garcia to purchase 500,000 shares of Common Stock
at $8.40 per share for a period of 5 years following the Effective Date in
consideration for his obligations as Standby Purchaser, and (v) the use of a
portion of the Cash Payment by UDC to repay certain indebtedness to a
corporation wholly-owned by Mr. Garcia. The Company will also assume the
employment agreements of and will replace UDC options with Company options for
certain executive officers of UDC who will become executive officers of the
Company. In addition, Messrs. Johnson, Splaver and Ciccolini, each of whom is an
executive officer of the Company, will receive a total of 36,429 shares of
Common Stock pursuant to restricted stock grants (with an estimated aggregate
value of $255,000 on the Effective Date) and new options to purchase a total of
50,000 shares of Common Stock at the Subscription Price.
RISK FACTORS AND FORWARD LOOKING STATEMENTS
Prospective purchasers of Common Stock pursuant to the Rights Offering
should carefully consider all of the information contained in this Prospectus,
particularly each of the factors set forth under "Risk Factors" beginning on
page 13. Factors that may affect the Company's business, results of operations
and financial condition, and the price and market for its securities, include,
among others, the following:
- The Company's ability to maintain profitability is related to its ability
to successfully complete bulk purchases of finance receivable contracts
or enter into servicing arrangements with respect to such contracts. For
example, the Company believes that in the near future, a significant
portion of its revenues will be attributable to the FMAC transaction (as
described herein), unless other significant bulk purchase or servicing
transactions are consummated. There can be no assurance that the Company
will be able to successfully negotiate additional bulk purchase or
servicing arrangements, or, if it were able to do so, that such
transactions would be profitable. In addition, the Company's results of
operations may fluctuate dramatically based upon transactions entered
into in any given period.
- The operations of the Company are significantly dependent on its
personnel, in particular Mr. Garcia. Without Mr. Garcia's expertise in
attracting and obtaining bulk purchase and servicing opportunities, the
Company's operations could be materially adversely affected.
9
<PAGE> 11
- The profitable realization of bulk purchase and servicing opportunities
requires management of significant transition activities, accomplished
within a very short time period. These transition activities include,
among others, converting the servicing platform and related computer
systems utilized by the existing holder/servicer to the loan servicing
platform and related computer systems utilized by the Company, rapidly
changing servicing capacity, arranging for transition of employees, and
arranging for facilities to facilitate servicing. There is no assurance
that the Company can successfully manage the transition of subsequent
transactions.
- The Company operates primarily in the sub-prime finance market, which is
characterized by borrowers that are generally unable to obtain financing
from traditional sources of credit and the companies that provide
financing to such borrowers. Accordingly, the Company's operations will
be subject to a high risk of credit losses due to dealer defaults or
fraudulent activities, specifically related to the collection, depositing
and reporting of customer payments, which could have a material adverse
effect on the Company and the Company's ability to meet its own financing
obligations.
- The Company is dependent upon its information systems to properly account
for and monitor its finance receivable portfolio, its loan servicing
operations, and the Cygnet Dealer Program loan portfolio. The Company is
in the process of converting its existing servicing platforms to systems
licensed from Affiliated Computer Services, Inc. ("ACS"). There can be no
assurance that the conversions will be completed in a timely manner or
that such conversions will be successful. The Company's failure to
successfully migrate and convert its existing systems to ACS systems on a
timely basis could have a material adverse effect on the Company. In
addition, only a portion of the ACS systems are fully year 2000 ("Year
2000") compliant in processing transactions of the Company without major
system failure or miscalculations. The Company bears risks related to the
Year 2000 issue and could be materially adversely affected if other
entities (e.g., vendors or customers) not affiliated with the Company do
not appropriately address their own Year 2000 compliance issues. Further,
certain of the Company's own applications are not Year 2000 compliant at
this time. The Company believes that resolution of all Year 2000 issues
will be significant to the Company's business, and there can be no
assurance that the Company will be able to completely resolve all Year
2000 issues in a timely fashion or that the ultimate impact of the Year
2000 issues will not be material to the Company. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Year 2000."
- Mr. Garcia, the Company's Chairman of the Board, Chief Executive Officer
and President, and who could acquire a controlling interest in the
Company in certain circumstances, has been the subject of certain legal
proceedings involving his participation in a real estate transaction
involving Lincoln Savings and Loan Association, a federally insured
savings and loan institution that later went into receivership
("Lincoln"). In connection with these proceedings, Mr. Garcia agreed to
plead guilty to one count of bank fraud, for which he was sentenced to
three years probation (which has expired), was fined $50, and, during the
period of his probation, which ended in 1996, was banned from becoming an
officer, director or employee of any federally insured financial
institution or a securities firm without government approval. In separate
actions arising out of this matter, Mr. Garcia filed for bankruptcy both
personally and with respect to certain affiliated entities, each of which
had been discharged by 1993. Following the takeover of Lincoln by the RTC
in 1989, Mr. Raymond C. Fidel, the President of Cygnet Dealer Finance,
Inc. and formerly President of Lincoln, was charged with fraud arising
out of the sale of bonds at Lincoln of its parent company, American
Continental Corporation. Without admitting or denying any of the
allegations against him, Mr. Fidel consented to the entry of a permanent
injunction against further violations of the securities laws. In 1991,
Mr. Fidel pled guilty to two counts of federal securities fraud and to
six counts in California State court arising out of this matter, for
which Mr. Fidel was sentenced to three years probation, which has
expired. See "Risk Factors -- Risks Relating to the Business -- Prior
Legal Actions Involving Certain Executive Officers."
- There currently exists no public market for the Rights or shares of
Common Stock being offered pursuant to this Prospectus. While the Rights
and the Common Stock have been approved for listing
10
<PAGE> 12
on the Nasdaq National Market, subject to notice of issuance, there is no
assurance that a trading market in the Rights or the shares of Common
Stock will develop, or, if developed, can be sustained. Even if a trading
market does develop, there can be no assurance that the market price or
shares of Common Stock will remain at or above the Subscription Price.
This Prospectus contains forward looking statements. Additional written or
oral forward looking statements may be made by the Company from time to time in
filings with the Securities and Exchange Commission or otherwise. Such
statements may include, but not be limited to, projections of revenues, income,
loss, capital expenditures, plans for future operations, financing needs or
plans, and plans relating to products or services of the Company, as well as
assumptions relating to the foregoing. The words "believe," "expect,"
"anticipate," "estimate," "project," and similar expressions identify forward
looking statements. Forward looking statements are inherently subject to risks
and uncertainties, some of which cannot be predicted or quantified. Future
events and actual results could differ materially from those set forth in,
contemplated by, or underlying the forward looking statements. Statements in
this Prospectus, including those contained in the section entitled "Risk
Factors," in the section entitled "Management's Discussion and Analysis of
Financial Condition and Results of Operations," and in the Notes to the
Company's Combined Financial Statements, describe factors, among others, that
could contribute to or cause such differences. The Company undertakes no
obligation to update any forward looking statements.
GLOSSARY
Certain terms used in this Prospectus regarding the Company's business are
defined below.
Bulk purchase -- The purchase of an existing pool of individual installment
contract receivables.
Buy-here, pay-here dealer -- A used car dealer that retains ownership of
the installment contract receivables generated from the sale of vehicles to
Sub-Prime Borrowers and continues to collect the loan payments and perform all
related loan servicing functions.
Charge-offs -- Loans that are written off due to delinquency, inability to
locate a delinquent borrower and/or the vehicle, bankruptcy, or casualty damage
to the vehicle which is not covered by insurance.
Kelley Blue Book wholesale value -- A monthly sampling average of wholesale
prices for various vehicles based upon mileage, age, condition, and options.
Loan servicing -- All functions related to collecting and reporting on
installment contract receivables, including payment processing, contacting
borrowers regarding delinquent payments, engaging third parties to foreclose
upon the collateral and monitoring the status of insurance policies insuring the
collateral.
Payoffs -- Loans that have been paid in full including principal and earned
interest.
Repo -- A vehicle that has been repossessed from the borrower due to
default.
Repurchases -- Under the Cygnet Dealer Program, dealers are required to
repurchase installment contracts from the Company that are 45 days delinquent or
are in default for other reasons.
Sub-Prime Borrower -- A borrower who has little or no credit history or a
credit history characterized by consistent late payments and sporadic
employment. In addition to having an unfavorable employment history, the
borrower also may have experienced debt charge-offs, foreclosures, or personal
bankruptcy.
Warehouse purchase facilities -- Contractual relationship between a dealer
and a finance company whereby the finance company agrees to purchase installment
contract receivables that meet certain guidelines and requirements.
11
<PAGE> 13
SUMMARY COMBINED FINANCIAL INFORMATION
The summary combined financial data set forth below should be read in
conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and the combined financial statements of the Company
and the notes thereto included in this Prospectus.
<TABLE>
<CAPTION>
SIX MONTHS ENDED YEAR ENDED
JUNE 30, DECEMBER 31, 1997
----------------- -----------------
1998 1997
------- ------
(IN THOUSANDS EXCEPT PER SHARE DATA)
<S> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Total Revenues......................................... $12,550 $ 137 $15,959
Interest Income..................................... 6,382 137 7,472
Servicing Fees...................................... 4,937 -- --
Net Gain on Sale of Repossessed Collateral.......... 1,108 -- --
Gain on Sale of Notes Receivable.................... -- -- 8,132
Other Income........................................ 123 -- 355
Operating Expenses:
Provision for Credit Losses......................... 965 -- 691
Selling and Marketing Expense....................... 36 9 18
General and Administrative.......................... 9,001 1,008 3,766
Depreciation and Amortization....................... 230 62 153
------- ------ -------
Total Operating Expenses............................... 10,232 1,079 4,628
------- ------ -------
Earnings (Loss) Before Interest Expense................ 2,318 (942) 11,331
Interest Expense....................................... 1,714 37 2,067
------- ------ -------
Earnings (Loss) before Income Taxes.................... 604 (979) 9,264
Income Taxes (Benefit)................................. 244 (394) 3,728
------- ------ -------
Net Earnings (Loss).................................... $ 360 $ (585) $ 5,536
======= ====== =======
Basic Earnings (Loss) per Share........................ $ 360 $ (585) $ 5,536
======= ====== =======
Shares used in Computation............................. 1 1 1
======= ====== =======
Proforma Basic/Diluted Earnings (Loss) per Share(2).... $ (0.18) $(0.35) $ 0.48
======= ====== =======
Proforma Shares used in Computation(2)................. 5,679 5,679 5,683
======= ====== =======
</TABLE>
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30, 1998 YEAR ENDED
--------------------------------------- DECEMBER 31, 1997
PRO FORMA -----------------
ACTUAL PRO FORMA(1) AS ADJUSTED(1) ACTUAL
------- ------------ -------------- -----------------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and Cash Equivalents................ $ 232 $16,167 $22,667 $ 1,225
Finance Receivables, Net................. 26,333 26,333 26,333 19,274
Notes Receivable, Net.................... 23,027 23,027 23,027 21,861
Total Assets............................. 58,580 74,515 81,015 50,034
Advances from Affiliate.................. 15,818 -- -- 9,106
Total Note Payable....................... 298 298 298 380
Total Stockholders' Equity............... 40,000 71,753 78,253 40,000
</TABLE>
- ---------------
(1) The table above sets forth (i) the combined capitalization of the Company as
of June 30, 1998; (ii) the pro forma capitalization of the Company to give
effect to the sale of 4,750,000 shares of Common Stock offered hereby at the
Subscription Price of $7.00 per share, after deducting estimated offering
expenses allocable to and payable by the Company, a purchase price for the
Transferred Assets equivalent to UDC's June 30, 1998 net book value, and
payment in full of the Advances from Affiliate, which totaled $15,818,000 at
June 30, 1998; and (iii) the pro forma as adjusted capitalization of the
Company to give effect to the sale of 4,750,000 shares of Common Stock
offered hereby and the sale of 714,286 shares of Common Stock pursuant to
the Additional Purchase Right and 214,286 shares of Common Stock pursuant to
the D&O Purchase Right, assuming these rights are exercised in full, in each
case at the Subscription Price of $7.00 per share, after deducting estimated
offering expenses allocable to and payable by the Company, a purchase price
for the Transferred Assets equivalent to UDC's June 30, 1998 net book value,
and payment in full of the Advances from Affiliate, which totaled
$15,818,000 at June 30, 1998. The Advances from Affiliate represents the
$14.9 million Cash Payment plus other working capital advances from UDC.
(2) For purposes of computing the proforma earnings per share for the periods
presented, the Company has assumed the maximum potential issuance of shares
of Common Stock totaling 5,678,572 shares pursuant to the planned Rights
Offering, the Additional Purchase Right, the D&O Purchase Right and for
dilutive stock options that will be granted on the Effective Date. See note
14 to the Company's audited financial statements included herein.
12
<PAGE> 14
RISK FACTORS
An investment in the Rights and the shares of Common Stock offered hereby
involves certain risks. In addition to the other information included elsewhere
in this Prospectus, prospective investors should give careful consideration to
the following factors before purchasing Rights or the shares of Common Stock
offered hereby upon exercise of the Rights.
RISKS RELATING TO THE BUSINESS
NO ASSURANCE OF PROFITABILITY
The Company's net earnings for the year ended December 31, 1997 were $5.5
million. For the six months ended June 30, 1998, the Company's net earnings were
$360,000. The Company has experienced, and in the future is expected to continue
to experience, substantial variations in its results of operations as a result
of a number of factors, many of which are outside the Company's control.
Substantially all of the net earnings of the Company for the year ended
December 31, 1997 were attributable to the FMAC transaction. For a description
of the FMAC transaction and the profits generated therefrom, see
"Business -- Bulk Purchasing and Servicing Operations -- Transactions Regarding
First Merchants Acceptance Corporation." The profitability and cash flows of the
Company in the future, at least in the near term, will be highly dependent on
its ability to successfully conclude additional large bulk purchase and
servicing transactions similar to the FMAC and Reliance transactions. For a
description of the Reliance transaction, see "Business -- Bulk Purchasing and
Servicing Operations -- Transactions Regarding Reliance Acceptance Group." UDC's
ability to effect both the FMAC and Reliance transactions on favorable terms was
enhanced by recent industry conditions and by the fact that these companies were
in bankruptcy proceedings. See "Risk Factors -- Risks Relating to the
Business -- Industry Considerations and Legal Contingencies." In recent months,
UDC has experienced increased competition from other companies in its
consideration of transactions similar to FMAC and Reliance. There can be no
assurance that the Company will be able to effect similar transactions in the
future on terms as favorable to the Company as the FMAC and Reliance
transactions. Any inability of the Company to locate and conclude other
profitable bulk purchase or servicing opportunities in the future could have a
material adverse impact on the Company. See "Risk Factors -- Risks Relating to
the Business -- Avoidance of Excess Servicing Capacity."
In addition, the Company believes that a significant portion of its net
earnings in future periods may be attributable to the FMAC and Reliance
transactions. However, the ability of the Company to generate earnings from
these two transactions is subject to significant contingencies. See "Risk
Factors -- Risks Relating to the Business -- Risks Related to the FMAC
Transaction" and "Risk Factors -- Risks Relating to the Business -- Risks
Related to the Reliance Transaction."
The Company's ability to sustain profitability also will depend upon its
ability to meet its general objectives including: (i) expanding its revenue
generating operations while not proportionately increasing its administrative
overhead; (ii) purchasing portfolios of finance receivables with an acceptable
level of credit risk; (iii) effectively collecting payments due on the finance
receivables in its portfolios and in third party portfolios; (iv) locating
sufficient financing, with acceptable terms, to fund the expansion of the Cygnet
Dealer Program and the bulk purchase of additional finance receivables; and (v)
adapting to the increasingly competitive markets in which it operates. Outside
factors, such as the economic, regulatory, and judicial environments in which
the Company operates, also will have an effect on the Company's business.
Any of these factors could result in the periodic inefficient or
underutilization of the Company's resources and could cause the Company's
operating results to fluctuate significantly from period to period, including on
a quarterly basis. There can be no assurance that the Cygnet Dealer Program or
the FMAC or Reliance transactions or similar transactions effected in the future
will be profitable, or if they are, that such profitability can be sustained.
The Company's inability to achieve or maintain any or all of its objectives
could have a material adverse effect on the Company's business, financial
condition, or results of operations.
13
<PAGE> 15
DEPENDENCE ON UNIQUE TRANSACTIONS; QUARTERLY FLUCTUATIONS
As noted above, the Company's profitability will depend significantly on
its ability to effect large bulk purchase and servicing transactions, including,
among others, transactions similar to the FMAC and Reliance transactions.
Because each potential opportunity typically presents a unique set of risks and
circumstances, each transaction must be separately structured, evaluated, and
negotiated. This process typically consumes substantial amounts of executive
management time and attention with no assurance of a successful conclusion.
Accordingly, there can be no assurance that future opportunities of this type
can be identified and concluded on terms favorable to the Company. The failure
to identify and conclude such transactions on a continual basis could have a
material adverse effect on the Company. See "Risk Factors -- Risks Relating to
the Business -- No Assurance of Profitability" "-- Dependence on Key Personnel"
and "-- Avoidance of Excess Servicing Capacity." In addition, the timing of
effectuation of future transactions may result in wide variation in financial
results on a quarterly basis. Moreover, the Company may evaluate opportunities
for favorable transactions in industries other than the sub-prime automobile
financing market. To the extent the Company purchases portfolios of loan
receivables in other industries, such transactions are likely to present a
different set of risks and challenges for which the Company may be less prepared
as a result of its relative lack of experience in that industry.
The Company currently is considering a number of potential transactions in
the ordinary course of its business, none of which the Company believes is
material to its financial condition or results of operations, individually or in
the aggregate. For a description of these potential transactions, see
"Business -- Recent Developments." The consummation of these transactions is
subject to a number of contingencies, which may include the negotiation and
preparation of definitive agreements, completion of due diligence, and the
receipt of required consents from third parties. As a result, there can be no
assurance that any of these potential transactions will be completed by the
Company. If the Company is unable to conclude these transactions, the Company
will be required to pursue other opportunities to acquire servicing rights,
receivables portfolios and other assets as described above.
DEPENDENCE UPON KEY PERSONNEL
The Company's success will depend upon the continued services of the
Company's senior management, particularly its Chief Executive Officer, Mr.
Ernest C. Garcia, II, as well as the Company's ability to attract additional
members to its management team with experience in the bulk purchasing and
servicing industry and the used car dealer financing industry. The unexpected
loss of the services of any of the Company's key management personnel, or its
inability to attract new management when necessary, could have a material
adverse effect upon the Company. The Company does not currently plan to maintain
any key person life insurance on any of its executive officers.
The continued services of Mr. Garcia are critical to the future success of
the Company. In particular, in the bulk purchasing and servicing line of
business, the Company's success depends significantly on Mr. Garcia's ability to
(i) purchase portfolios of finance receivables at discounts sufficient to
generate profits and (ii) secure servicing of finance receivable portfolios with
sufficient volume and fees to generate profits. In particular, it is expected
that the Company will rely heavily on Mr. Garcia's expertise in identifying
opportunities to purchase or service large portfolios of finance receivables.
Losing the services of Mr. Garcia could adversely impact the Company's ability
to attract profitable bulk purchasing and servicing opportunities and in turn
could have a material adverse effect on the Company.
PRIOR LEGAL ACTIONS INVOLVING CERTAIN EXECUTIVE OFFICERS
Prior to 1992, when he founded UDC, Mr. Garcia was involved in various real
estate, securities, and banking ventures. Arising out of two transactions in
1987 between Lincoln Savings & Loan Association ("Lincoln") and entities
controlled by Mr. Garcia, the Resolution Trust Corporation (the "RTC"), which
ultimately took over Lincoln, asserted that Lincoln improperly accounted for the
transactions and that Mr. Garcia's participation in the transactions facilitated
the improper accounting. Facing severe financial pressures, Mr. Garcia agreed to
plead guilty to one count of bank fraud, but, in light of his cooperation with
authorities both before and after he was charged, was sentenced to only three
years probation (which has
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expired), was fined $50 (the minimum fine the court could assess), and, during
the period of his probation, which ended in 1996, was banned from becoming an
officer, director or employee of any federally-insured financial institution or
a securities firm without governmental approval. Because Cygnet is not a
federally-insured financial institution and Mr. Garcia's probationary period has
expired, the ban does not apply to Mr. Garcia's activities on behalf of Cygnet.
In separate actions arising out of this matter, Mr. Garcia agreed not to violate
the securities laws, and filed for bankruptcy both personally and with respect
to certain entities he has controlled. The bankruptcies were discharged by 1993.
In certain circumstances, Mr. Garcia could acquire a controlling interest in the
Company. See "-- Risks Relating to the Rights Offering -- Ownership of Common
Stock by Mr. Garcia." As a result of his position as Chairman of the Board,
Chief Executive Officer, and President of Cygnet and by virtue of his ability to
acquire a significant percentage of the Common Stock after the Rights Offering,
Mr. Garcia will have significant influence over the Company's activities.
Mr. Raymond C. Fidel is the President of Cygnet Dealer Finance, Inc., a
wholly owned subsidiary of Cygnet. From February 1982 to April 1989, Lincoln
employed Mr. Fidel, between 1988 and 1989, as its President. Following the
takeover of Lincoln by the RTC in 1989, Mr. Fidel and others were charged with
fraud (the "Complaint") arising out of the sale of bonds at Lincoln of its
parent company, American Continental Corporation ("ACC"). With the filing of the
Complaint, Mr. Fidel, without admitting or denying any of the allegations in the
Complaint, consented to the entry of a permanent injunction against further
violations of the securities laws. Mr. Fidel pled guilty in 1991 to two counts
of federal securities fraud, and to six counts in California State court (five
relating to fraud and one relating to the sale of securities without
qualification) arising out of this matter. In light of Mr. Fidel's cooperation
with authorities in their prosecution of executives of ACC, including Charles H.
Keating, Jr., and Mr. Fidel's efforts in stopping bond sales at Lincoln, Mr.
Fidel was given three years of probation, which has expired.
CONVERSION TO NEW SERVICING PLATFORMS
The Company is dependent upon its information systems to properly account
for and monitor its finance receivables portfolio, its loan servicing operations
and the Cygnet Dealer Program loan portfolio. The Cygnet Dealer Program
portfolio is currently tracked on an internally developed custom software
system. However, the Company recently signed a service bureau agreement (the
"ACS Agreement") with ACS to process the loan portfolios owned or serviced by
the Company. Due to the unique characteristics of the Cygnet Dealer Program, ACS
will be required to make a number of custom software enhancements to enable the
Cygnet Dealer Program to run on the ACS system. The Company anticipates that
implementation of the custom software changes and conversion from the Company's
in-house system to the ACS system will be completed by December 31, 1998. In
addition to the ACS system, the Company is developing a custom loan underwriting
and funding software module to interface between the Third Party Dealers'
systems and the ACS system. During 1999, the Company intends to migrate the
dealers from their separate stand alone loan systems to the ACS system for
purposes of loan servicing and collections. An extended delay in the conversion
to the ACS system, in the development of the custom loan underwriting and
funding software module, or in migrating the dealers to the ACS system for loan
servicing and collections, could have a negative impact on the Company's ability
to efficiently collect, account for and monitor the Cygnet Dealer Program loan
portfolio. Only a portion of the ACS systems is fully Year 2000 compliant.
Further, the Company bears certain risks related to Year 2000 in connection with
applications and systems of other vendors, the Company's equipment, and the
Company's customers. See "Risk Factors -- Risks Relating to the Business -- Data
Processing and Technology and Year 2000" and "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Year 2000."
The FMAC loan portfolio, aggregating approximately $378 million as of May
31, 1998, is currently being serviced on a loan servicing platform provided
under contract with Alltel Financial Information Services, Inc. ("Alltel"),
which is scheduled to expire in December 1998. If the Company continues to use
the Alltel platform after December 1998, the contract provides for a substantial
premium to be paid by the Company in exchange for the extension. The Company is
in the process of converting from the Alltel system to a system licensed from
ACS. This conversion is expected to be completed by the end of the third quarter
of 1998. There can be no assurance, however, that the conversion will be
completed in a timely manner. If the conversion is
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not completed in a timely manner, the Company may be required to extend the
contract with Alltel beyond December 1998 and pay the required premium.
Accordingly, failure to successfully migrate and convert to the ACS system could
have a material adverse effect on the Company.
Pursuant to Reliance's confirmed plan of reorganization, on August 1, 1998,
UDC will begin to service the Reliance finance receivables portfolio, which
totaled approximately $157 million as of April 30, 1998. See "Business -- Bulk
Purchasing and Servicing Operations -- Transactions Regarding Reliance
Acceptance Group." UDC will purchase all of Reliance's furniture, fixtures, and
equipment, including the servicing platform utilized by Reliance. The servicing
operations and servicing platform will be transferred to the Company on the
Effective Date of the Split-up. The Company intends to use this servicing
platform (along with certain real property leases), at least through December
1998, to service the Reliance receivables. Thereafter, servicing of the Reliance
receivables will be converted to the ACS system. There can be no assurance that
UDC will be able to perform all necessary actions to effectively service the
Reliance finance receivables portfolio in the limited time available. Further,
disruption of servicing of the Reliance portfolio could result in UDC or the
Company being removed as the servicer and could have other serious adverse
consequences to the Company. See "Risk Factors -- Risks Relating to the
Business -- Risks Related to the Reliance Transaction."
The conversion of both the Cygnet Dealer Program and the FMAC servicing
functions to ACS and the assimilation of the Reliance portfolio and subsequent
conversion to the ACS platform may result in various implementation and
integration issues that could temporarily interrupt the Company's ability to
effectively collect, monitor and account for the Cygnet Dealer Program and to
service the FMAC and Reliance portfolios without serious disruption. Any such
issues or interruptions could result in an increase in contract delinquencies
and charge-offs in the FMAC and/or Reliance portfolios and in the Cygnet Dealer
Program, which, depending on the severity of the matter, could result in the
Company being removed as the servicer for the FMAC and Reliance transactions and
have other material adverse consequences to the Company. See "Risk
Factors -- Risks Relating to the Business -- Risks Relating to the FMAC
Transaction" and "Risk Factors -- Risks Relating to the Business -- Risks
Relating to the Reliance Transaction."
DATA PROCESSING AND TECHNOLOGY AND YEAR 2000
The success of any participant that engages in the financing and servicing
of loan receivables, particularly those with a focus on the sub-prime industry,
including the Company, depends in large part on its ability to continue to adapt
its technology, on a timely and cost-effective basis, to meet changing customer
and industry standards and requirements.
As noted above, it is anticipated that the existing Cygnet Dealer Program
and FMAC and Reliance loan servicing functions will be converted to the ACS
system in the latter half of 1998. Pursuant to the ACS Agreement, the ACS
systems must be fully Year 2000 compliant by January 1, 1999. However, the
Company's sole remedy if ACS does not comply with this requirement is to
terminate the ACS Agreement and convert to another system, which would be costly
and disruptive and could have a material adverse effect on the Company's
business.
In addition to the ACS Year 2000 issues, the Company also continues to bear
risks related to the Year 2000 issue and could be materially adversely affected
if other entities (e.g., vendors or customers) not affiliated with the Company
do not appropriately address their own Year 2000 compliance issues. Further,
certain of the Company's own applications are not Year 2000 compliant at this
time. The Company anticipates that resolution of all Year 2000 issues will be
significant to the Company's business and operations. There can be no assurance
that the Company will be able to completely resolve all Year 2000 issues in a
timely fashion or that the ultimate impact of the Year 2000 issues will not be
material to the Company. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Year 2000."
Pursuant to the ACS Agreement, ACS has agreed to provide enhancements and
modifications to the base system that is licensed to ACS. Some of the
enhancements and modifications will remain proprietary to ACS and will not be
licensed to the Company. If ACS or the Company breaches the ACS Agreement, and
ACS no longer provides processing services, the Company may incur significant
costs in securing a
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replacement processing company that will be able to process the loans in the
same manner as ACS. Further, the Company's remaining computer applications would
not be sufficient to effectively manage the Cygnet Dealer Program or the loan
servicing of finance receivables portfolios.
The Company will be dependent on its loan servicing and collection
facilities as well as long-distance and local telecommunications access in order
to transmit and process information among its various facilities. The Company
maintains a standard program whereby it prepares and stores off site back ups of
its main system applications and data files on a routine basis. Following the
Split-up, the Company believes that it will be necessary to adopt a disaster
response plan. There can be no assurance that a failure will not occur in the
interim or that any plan adopted will prevent or enable timely resolution of any
systems failure. Further, a natural disaster, calamity, or other significant
event that causes long-term damage to any of these facilities or that interrupts
its telecommunications networks could have a material adverse effect on the
Company. With respect to the Company's servicing operations following conversion
to the ACS system, the Company will be required to rely on the disaster response
plan developed and utilized by ACS. ACS believes that its disaster response plan
is proprietary information and has not allowed the Company to fully evaluate
such plan. Therefore, if the disaster response plan of ACS is inadequate, the
occurrence of a disaster could have a material adverse effect on the Company's
business.
AVOIDANCE OF EXCESS SERVICING CAPACITY
On the Effective Date of the Split-up, the Company third party servicing
operations will be limited to the FMAC and Reliance portfolios and any Interim
Transactions effected prior to the Effective Date. Moreover, because of the
relatively short lives of automobile finance receivables, these portfolios are
expected to be reduced in the near future to a point at which, if not replaced
with additional finance receivables, the Company's servicing platform and
operations will have excess capacity. For the Company's servicing operations to
remain profitable, the Company must continually service a sufficient number of
finance receivables to generate servicing income in excess of fixed overhead
costs. For example, a significant portion of servicing overhead is based on
certain fixed costs for personnel salaries and other expenses as well as lease
or other facilities costs. If portfolios being serviced are not continually
replaced with new finance receivables, the Company will be required to reduce
the number of employees in its servicing operations, and then rehire such
employees as additional portfolios are obtained. Such practices can lead to low
employee morale and to disruptions and loss of efficiency in servicing functions
and can also result in substantial severance and facilities closure costs.
Therefore, in order to maintain the profitability of the Company's servicing
operations, it will be necessary for the Company to continue to identify and
secure servicing rights to significant portfolios of finance receivables. To an
extent, each bulk purchase and servicing transaction is a unique opportunity.
There can be no assurance that the Company will be able to identify and
successfully conclude sufficient bulk purchasing and servicing transactions to
maintain the profitability of these operations. See "Risk Factors -- Risks
Relating to the Business -- No Assurance of Profitability."
Although the Company is evaluating the possibility of expanding its
servicing operations to include receivables other than auto receivables, such as
mortgages or credit card receivables, in order to mitigate its excess capacity
issues, the Company has no experience in servicing such types of receivables and
may encounter other unanticipated problems. Moreover, there can be no assurance
that such receivables could be serviced on the existing and anticipated
servicing systems of the Company without substantial modification.
MANAGEMENT OF TRANSITION ACTIVITIES
The profitable realization of bulk purchase and servicing opportunities
requires effective management of significant transition activities, which must
be accomplished within a very short time period. These transition activities
include, among others, converting acquired or serviced loan portfolios from the
seller's or owner's servicing systems to the loan servicing systems utilized by
the Company, managing rapidly changing servicing capacity, arranging for
transition of employees, and arranging for facilities to allow servicing. These
issues are magnified as larger portfolios of the type the Company will seek to
purchase or service are transitioned into the Company's systems, and the
concurrent risks are greater if a transition is not smoothly implemented. There
can
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be no assurance that the Company can successfully manage the transition of its
current or subsequent transactions. See "Risk Factors -- Risks Relating to the
Business -- Conversion to New Servicing Platforms."
RISKS RELATED TO THE FMAC TRANSACTION
Although UDC's involvement in the FMAC bankruptcy proceedings has been
profitable, there can be no assurance that this transaction will continue to be
profitable in the future. Unless otherwise defined in this section, capitalized
terms utilized in this description of the risks inherent in the FMAC transaction
will have the meanings given in the detailed description of the FMAC transaction
under the heading "Business -- Bulk Purchasing and Servicing Operations --
Transactions Regarding First Merchants Acceptance Corporation."
On the Effective Date of the Split-up, UDC will transfer to the Company
substantially all of its rights and certain liabilities accruing on or after the
Effective Date in connection with the FMAC transaction (except cash received by
UDC prior to the Effective Date). The Company will assume UDC's guarantee to the
Contract Purchaser of a stated return, based in part on a 10.35% per annum
interest rate, on certain Owned Contracts acquired from FMAC and sold to the
Contract Purchaser, subject to a maximum guarantee of $10.0 million. Although
FMAC has provided a similar guarantee to UDC, which will be transferred to the
Company, payable out of certain distributions from residual interests held by
FMAC in securitization transactions, the guarantee in some circumstances may be
less than the guarantee given by UDC to the Contract Purchaser. There can be no
assurance that there will be sufficient distributions from the residual
interests to support the guarantee. In addition, the Company will assume the
funding obligations of UDC with respect to the DIP Facility. The DIP Facility
and certain fees payable to UDC that will be assigned to the Company are also
payable out of certain expected tax refunds of FMAC and/or distributions from
the same residual interests in FMAC's securitization transactions. Although the
Company anticipates collecting such items, there can be no assurance that these
loans or fees will be paid. Payments pursuant to the residual interests may not
be made until the senior certificates in the securitization transactions are
paid in full. The liabilities to be assumed by the Company relating to the FMAC
transaction are not conditioned on the profit ultimately achieved by the Company
from that transaction and such liabilities may exceed payments made to the
Company.
In addition, although it is contemplated that all of UDC's servicing rights
with respect to the FMAC transaction will be transferred to the Company in
conjunction with the Split-up, the ability of the Company to take over such
servicing rights is subject to the consents of certain parties that have not yet
been obtained. Moreover, if consent is not obtained or the Company does not
satisfy the conditions to be an "Authorized Servicer," the Company would lose
the right to significant benefits expected in the FMAC transaction, including
ongoing servicing fees and its right to certain distributions from residual
interests in FMAC's securitized pools, which could have a material adverse
effect on the Company. The Company believes, however, that it will satisfy the
required conditions to qualify as an "Authorized Servicer."
Moreover, the Company will be required to meet certain performance criteria
with respect to servicing of the FMAC and Owned Contract portfolios. The failure
to meet the required performance criteria could result from a number of factors,
including, among others, general economic conditions that cause increased
payment delinquencies by the obligors on the contracts in the pools being
serviced, and servicing interruptions and inefficiencies caused by the Company's
anticipated servicing platform conversions or any Year 2000 issues. See "Risk
Factors -- Risks Relating to the Business -- Conversion to New Servicing
Platforms" and "Risk Factors -- Risks Relating to the Business -- Data
Processing and Technology and Year 2000." The failure to meet such performance
criteria could result in "termination events" under the various servicing
agreements governing the FMAC and Owned Contract portfolios, and in such case
the Company could lose the right to service the receivables in such portfolios
and the related servicing fees. If for any reason the Company cannot continue to
service the FMAC portfolios, the Company would lose significant benefits
expected in the FMAC transaction, including ongoing servicing fees and its right
to certain distributions from residual interests in FMAC's securitized pools,
which could have a material adverse effect on the Company.
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RISKS RELATED TO THE RELIANCE TRANSACTION
On the Effective Date of the Split-up, UDC will transfer to the Company all
of its rights and substantially all of its obligations in connection with the
Reliance transaction (except cash received by UDC prior to the Effective Date).
For a detailed description of the Reliance transaction, see "Business -- Bulk
Purchasing and Servicing Operations -- Transactions Regarding Reliance
Acceptance Group." There can be no assurance that the servicing rights and
interests to be obtained by the Company in the Reliance transaction will prove
valuable or profitable. In addition, the Company's ability to assume the
servicing rights in the Reliance transaction on or after the Effective Date is
subject to consents of certain parties, including Reliance, that have not yet
been obtained. Substantially all of the benefits expected in the Reliance
transaction are contingent on the Company's acquiring and retaining servicing
rights to the Reliance portfolio.
Further, the Company's ability to profitably service the Reliance portfolio
is largely dependent on its ability to effectively manage the transition
activities associated with the assumption of such servicing. See "Risk
Factors -- Risks Relating to the Business -- Management of Transition
Activities" and "Risk Factors -- Risks Relating to the Business -- Conversion to
New Servicing Platforms."
Moreover, the Company will be required to meet certain performance criteria
with respect to servicing of the Reliance portfolio. A failure to meet the
required performance criteria could result from a number of factors, including,
among others, general economic conditions that cause increased payment
delinquencies by the obligors on the contracts in the pools being serviced, and
servicing interruptions and inefficiencies caused by the Company's anticipated
servicing platform conversions or any Year 2000 issues. See "Risk Factors --
Risks Relating to the Business -- Conversion to New Servicing Platforms" and
"Risk Factors -- Risks Relating to the Business -- Data Processing and
Technology and Year 2000." The failure to meet such performance criteria could
result in a "termination event" under the servicing agreement entered into by
the Company with Reliance and, in such case, the Company could lose the right to
service the Reliance portfolio.
CYGNET DEALER PROGRAM
The Cygnet Dealer Program provides qualified Third Party Dealers with
financing options and revolving lines of credit primarily secured by such
dealers' finance receivable portfolios. While the Company will require dealers
to meet certain minimum net worth and operating history criteria to be
considered for inclusion in the Cygnet Dealer Program, it will, nevertheless, be
extending credit to dealers who may not otherwise be able to obtain debt
financing from traditional lending institutions such as banks, credit unions,
and major finance companies. Under the Cygnet Dealer Program, the dealer remains
responsible for collection of the contract payments and retains control of the
customer relationship. All cash collections, including regular monthly payments,
payoffs, and repurchases are deposited by the dealers into a bank account
maintained by the Company. Consequently, the Company will be subject to a high
risk of credit losses due to dealer defaults or fraudulent activities,
specifically related to the collection, depositing, and reporting of customer
payments, which could have a material adverse effect on the Company and on the
Company's ability to meet its own financing obligations.
SENSITIVITY TO INTEREST RATES
The Company anticipates that a substantial portion of its borrowing
facilities will be on a floating rate basis. Conversely, the contracts that the
Company purchases under its Dealer Collection Program (as defined herein) and
the contracts that it purchases in bulk typically bear interest at fixed rates.
Therefore, increases in interest rates would effectively reduce the interest
rate spread the Company earns on the retail installment contracts in its
portfolios. The Company can attempt to mitigate any such reduction by reducing
the advance rate under its Dealer Collection Program, increasing the discount
rate on bulk purchases, or securitizing its portfolios in order to lock in a
fixed cost of funds. However, the Company may not be able to increase the
interest rate spread on future purchases of contracts due to market competition
or restrictions placed on interest rates by various states. Further, there can
be no assurance that the Company would be successful in the implementation of a
securitization program. See "Risk Factors -- Risks Relating to the Business --
Securitizations."
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DEPENDENCE ON EXTERNAL FINANCING
Because of the significant equity being invested in the Company, the
Company's capital structure will support substantial additional leverage, and
could become highly leveraged in the future. The Company has borrowed, and will
continue to borrow, substantial amounts required to fund its operations. In this
regard, the Company's operations are highly capital intensive. Although the
Company has had discussions with various lenders regarding a credit facility,
there can be no assurance that the Company will be able to secure financing when
and as needed in the future, or on terms acceptable to the Company. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
SECURITIZATIONS
To date, the Company has not entered into any securitization transactions.
However, the Company may finance its operations in part through securitization
transactions. The Company's ability to successfully complete securitizations may
be affected by several factors, including the condition of securities markets
generally, conditions in the asset-backed securities markets specifically, and
the credit quality of the Company's portfolio.
The Company has yet to determine the accounting treatment for future
securitization transactions, if any. Should the Company structure a
securitization transaction in such a manner as to treat the securitization as a
sale, the securitized assets would be removed from the Company's balance sheet,
the Company would record a residual interest in the securitization, and gain on
sale would be recognized. However, the Company could structure a securitization
as a financing whereby the securitized assets would remain on the Company's
balance sheet and the Company would record a liability related to the issuance
of debt securities pursuant to the securitization. In this case, the Company
would continue to recognize revenue on the securitized assets as if they had not
been securitized, and would recognize interest expense on the related debt.
To the extent the Company were to record a gain on sale in connection with
securitizations, the gain would be based upon certain estimates and assumptions,
which may not subsequently be realized. The valuation of the residual interest
in securitization transactions is very subjective, and requires the use of many
assumptions about future events. To the extent that actual cash flows on a
securitization differ materially from the original securitization assumptions,
and in the opinion of management those differences appear to be other than
temporary in nature, the Company would be required to revalue its residual
interests in the finance receivable contracts that it has sold in the
securitization ("Residuals in Finance Receivables Sold"), and record a charge to
earnings based upon the reduction, which could be material and have a
significant effect on the Company. In addition, the Company would record ongoing
income based upon the cash flows on Residuals in Finance Receivables Sold. The
income recorded on the Residuals in Finance Receivables Sold would vary from
quarter to quarter based upon cash flows received in a given period. To the
extent that cash flows were deficient, charge-offs of finance receivables exceed
estimates, or assumptions applied to the underlying portfolio were not realized,
and in the opinion of management those differences were to appear to be other
than temporary in nature, the Company would be required to revalue the Residuals
in Finance Receivables Sold, and record a charge to earnings.
RISKS OF INFLATION
Increases in inflation generally result in higher interest rates. Higher
interest rates on the Company's expected borrowings would decrease the
profitability of the Company's existing portfolio. The Company has sought to
limit this risk by (i) maintaining a portion of its investment portfolio in a
floating rate program and (ii) limiting the maturity of finance receivable
contracts. If the Company's borrowing rates increase, then the Company will seek
to further limit the negative impact on earnings by increasing the purchase
discount at which the Company purchases finance receivables and/or require
higher stated annual percentage rates on finances receivables which are
purchased. To date, inflation has not had a significant impact on the Company's
operations.
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COMPETITION
The markets in which the Company competes are highly competitive. With
respect to its Cygnet Dealer Program and bulk purchasing and servicing
operations, the Company competes with a variety of finance companies, financial
institutions, and providers of financial services, many of whom have
significantly greater resources, including access to lower priced capital. In
addition, there are numerous financial services companies serving, or capable of
serving, these markets. While traditional financial institutions, such as
commercial banks, savings and loans, credit unions, and captive finance
companies of major automobile manufacturers, have not consistently served the
sub-prime markets, the relatively high yields that can be earned by companies
involved in sub-prime financing have encouraged certain of these traditional
institutions to enter, or contemplate entering, these markets. Increased
competition may adversely affect the Company under the Dealer Collection Program
(as described herein) by reducing the discount at which the Company purchases
contracts, may result in a decrease in the discounts at which the Company
purchases portfolios in bulk, or may result in downward pressure on the rates
charged for loan servicing, all of which could have an adverse effect on the
Company. Further, increased competition for the bulk purchase and servicing
transactions that the Company must effect to remain profitable could have a
material adverse effect on the Company's business.
NO ASSURANCE OF SUCCESSFUL ACQUISITIONS
The Company intends to consider additional acquisitions, alliances, and
transactions involving other companies that could complement the Company's
existing business. There can be no assurance that suitable acquisition parties,
joint venture candidates, or transaction counter parties can be identified, or
that, if identified, any such transactions will be consummated on terms
favorable to the Company, or at all. Furthermore, there can be no assurance that
the Company will be able to integrate successfully such acquired businesses into
its existing operations, which could increase the Company's operating expenses
in the short-term and materially adversely affect the Company. Moreover, these
types of transactions by the Company may result in potentially dilutive
issuances of equity securities, the incurrence of additional debt, and
amortization of expenses related to goodwill and intangible assets, all of which
could adversely affect the Company's profitability. These transactions involve
numerous risks, such as the diversion of the attention of the Company's
management from other business concerns, the entrance of the Company into
markets in which it has had no or only limited experience, and the potential
loss of key employees of the acquired company, all of which could have a
material adverse effect on the Company.
GENERAL ECONOMIC CONDITIONS; RISKS ASSOCIATED WITH SUB-PRIME MARKET
The Company's business is directly related to the ability of the obligors
on the finance receivables that the Company services, expects to purchase in
bulk, and that secure its Cygnet Dealer Program to continue to make the required
payments on such contracts, which is affected by employment rates, prevailing
interest rates, and other general economic conditions. While the Company
believes that current economic conditions favor continued growth in the markets
it serves and those in which it seeks to expand, a future economic slowdown or
recession could lead to increased delinquencies, repossessions, and credit
losses on the finance receivables that the Company services, expects to purchase
in bulk, or that secure the Cygnet Dealer Program. Moreover, substantially all
of the finance receivables that the Company services, expects to purchase in
bulk, or that secure the Cygnet Dealer Program are with Sub-Prime Borrowers, who
due to their poor credit histories and/or low incomes are generally unable to
obtain credit from traditional financial institutions, such as banks, savings
and loans, credit unions, or captive finance companies owned by automobile
manufacturers. Because of the Company's primary focus on the sub-prime segment
of the automobile financing industry, the actual rate of delinquencies,
repossessions, and credit losses on the finance receivables that the Company
services, expects to purchase in bulk, or that secure the Cygnet Dealer Program
could be higher under adverse conditions than those experienced in the used car
sales and finance industry in general. Moreover, adverse economic conditions
that result in decreased sales of used cars could adversely affect the dealers
that participate in the Cygnet Dealer Program, which could have a material
adverse effect on such program.
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INDUSTRY CONSIDERATIONS AND LEGAL CONTINGENCIES
In recent periods, several major used car finance companies have announced
major downward adjustments to their financial statements, violations of loan
covenants, related litigation, and other events. In addition, certain of these
companies have filed for bankruptcy protection. These announcements have had a
disruptive effect on the market for securities of sub-prime automobile finance
companies, have resulted in a tightening of credit to the sub-prime markets, and
could lead to enhanced regulatory oversight. Furthermore, companies in the used
vehicle financing market have been named as defendants in an increasing number
of class action lawsuits brought by customers alleging violations of various
federal and state consumer credit and similar laws and regulations. Although the
Company is not currently a named defendant in any such lawsuits, no assurance
can be given that such claims will not be asserted against the Company in the
future or that the Company's operations will not be subject to enhanced
regulatory oversight.
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<PAGE> 24
RISKS RELATING TO THE RIGHTS OFFERING
NO PUBLIC MARKET; MARKET PERCEPTION ISSUES
There currently exists no public market for the Rights or shares of Common
Stock being offered pursuant to this Prospectus. While the Rights and the Common
Stock have been approved for listing on the Nasdaq National Market, subject to
notice of issuance, there is no assurance that a trading market in the Rights or
the shares of Common Stock will develop, or, if developed, can be sustained. In
addition, trading in the Rights will be limited by the relatively short 20 day
Rights Offering Period. Trading transactions must be effected early in such
period to ensure ample time for the purchaser to exercise his Rights.
Even if a trading market does develop, there can be no assurance that the
market price for shares of Common Stock will remain at or above the Subscription
Price. Prices at which the Common Stock may trade, either prior to the Split-up,
on a "when-issued" basis, or subsequent thereto, cannot be predicted. Until the
Common Stock is fully distributed and an orderly market develops, the prices at
which trading in such stock occurs may fluctuate significantly. In addition,
continued listing on the Nasdaq National Market is subject to compliance with
certain initial listing and maintenance criteria, including the presence of at
least 400 holders of the Common Stock. Failure to maintain compliance with such
listing and maintenance requirements could subject the Common Stock to possible
delisting from the Nasdaq National Market, which could have a material adverse
effect on trading of the Common Stock and consequently, its market price.
Further, the prices of common stock of many participants in the sub-prime
automobile financing industry have fluctuated significantly in recent periods.
The prices at which the Common Stock will trade will be determined by the
marketplace and may be influenced by many factors, including, among others, the
value of the Company's assets, its ability to generate cash flow, its
profitability or lack thereof or other measures of value, the depth and
liquidity of the market for such shares, investors' perceptions of the Company
and the industries in which its businesses participate, and general economic and
market conditions.
Rights distributed to UDC's stockholders in the Rights Offering and shares
of Common Stock distributed to holders who exercise the Rights will be freely
transferable, except for securities received by persons who may be deemed to be
"affiliates" of UDC or of the Company within the meaning of Rule 145 promulgated
under the Securities Act. Sales by persons who are affiliates of UDC or the
Company within the meaning of Rule 145 at the time of the Rights Offering may be
subject to certain restrictions.
Although one purpose of the Split-up is to allow investors, lenders, and
others to more easily evaluate the performance and investment characteristics of
the business of the Company as opposed to the business to be retained by UDC and
to enhance the likelihood that each business group will achieve appropriate
market recognition of its performance, there will, at least for a significant
period of time, continue to be material ties between the two companies that may
prove confusing to the market. There can be no assurance that the market will
regard the Split-up as a positive development. If the market perceives more
disadvantages than advantages resulting from the Split-up, the price of the
Common Stock is likely to suffer a decline.
OWNERSHIP OF COMMON STOCK BY MR. GARCIA
Ernest C. Garcia, II, will be Cygnet's Chairman of the Board, Chief
Executive Officer, and President. Mr. Garcia is also the holder of approximately
25.2% of UDC's outstanding Common Stock. Mr. Garcia will agree to exercise his
entire 25.2% pro rata share of the Rights. In addition, Mr. Garcia will agree
through his Over-Subscription Privilege and Standby Purchase Obligation to
purchase additional shares of Common Stock pursuant to the Rights Offering in an
amount sufficient to satisfy the Required Purchase Amount. See "The Rights
Offering" for a complete description of the Over-Subscription Privilege, the
Standby Purchase Obligation, and the Required Purchase Amount. Mr. Garcia also
has the right to purchase up to 714,286 additional shares of Common Stock at the
Subscription Price over and above the Required Purchase Amount and will be
issued warrants to purchase an additional 500,000 shares of Common Stock. These
transactions taken together will result in Mr. Garcia's ownership of a
significant percentage of the outstanding Common Stock following the Split-up.
In certain circumstances, Mr. Garcia could acquire a majority of the Company's
Common Stock, in which case Mr. Garcia would be in a position to control the
voting with respect to virtually
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<PAGE> 25
all matters that affect the Company. As a result, Mr. Garcia will have
significant influence over the Company's activities, as well as on all matters
requiring approval of the Company's stockholders, including electing or removing
members of its Board of Directors, causing the Company to engage in transactions
with affiliated entities, causing or restricting the sale or merger of the
Company with other entities, and changing its dividend or other policies.
POTENTIAL FEDERAL INCOME TAX CONSEQUENCES OF THE RIGHTS OFFERING
In the opinion of Snell & Wilmer L.L.P., holders of UDC Common Stock who
receive Rights will generally recognize dividend income (taxable as ordinary
income) in an amount equal to the fair market value, if any, of the Rights as of
the date of their distribution. In the opinion of the Appraiser dated July 21,
1998, the fair market value of the Rights on the date of their distribution
should be zero. However, the opinion of the Appraiser is not binding on the
Internal Revenue Service. For example, the Internal Revenue Service may assert
that the price at which the Rights trade during the 20-day period of the Rights
will be indicative of the fair market value of the Rights on the date of their
distribution. Accordingly, there can be no assurance as to the exact amount of
dividend income, if any, a holder of UDC Common Stock who receives Rights will
recognize upon the receipt of Rights. If the Rights are trading for value on the
date of their distribution, UDC may, in its discretion, report to holders of UDC
Common Stock the receipt of dividend income in an amount equal to the average of
the high and low trading prices of the Rights on such date.
To avoid the possibility of the recognition of ordinary income and the
creation of a potentially deferred or nondeductible capital loss, it will, in
many instances, be in the interests of holders of UDC Common Stock receiving
Rights to either exercise or sell the Rights, rather than to allow the Rights to
lapse.
RISKS RELATING TO THE PREFERRED STOCK
The dividend rate for the Preferred Stock to be issued to UDC on the
Effective Date of the Split-up will be 7% per annum of the Base Liquidation
Amount for the period from the Effective Date to the first anniversary thereof.
Thereafter, the annual dividend rate will increase 1% per annum to a maximum
rate of 11% per annum of the Base Liquidation Amount. Although dividends on the
Preferred Stock are payable only out of funds legally available therefor when
and as declared by the Board of Directors, if dividends are not paid when due
for a period of two quarters, UDC will have the right to elect two members to
the Company's Board of Directors (in addition to the then existing number of
directors) at the next meeting of stockholders and thereafter until all accrued
dividends are paid in full. In addition, if dividends are not paid when due for
a period of six quarters, the Preferred Stock is convertible at UDC's option
into Common Stock as described herein. Moreover, accrued but unpaid dividends on
the Preferred Stock may adversely affect the market price for the Common Stock.
During the first three years following the Effective Date of the Split-up, the
Preferred Stock will not be convertible, except in certain circumstances
described above. Thereafter, the Preferred Stock will be convertible into Common
Stock at the lower of the Subscription Price or a discount to market of
approximately 20%. Thus, the Company will be motivated to redeem the Preferred
Stock during the first three years following the Effective Date. Redemptions of
Preferred Stock will not be authorized, however, unless, in the reasonable
judgment of the Company and UDC, the proceeds of such redemption will be treated
for federal income tax purposes as proceeds from a sale of such stock and not as
dividends paid with respect to such stock. As a consequence, redemptions of
Preferred Stock may be limited and may be confined to a single redemption of all
the outstanding shares of Preferred Stock. Further, it may be necessary to
contemporaneously redeem shares of Common Stock acquired by a holder of
Preferred Stock upon a prior conversion of Preferred Stock in order to assure
treatment of the proceeds of a redemption of Preferred Stock as proceeds from a
sale of such stock and not as dividends paid with respect to such stock. If the
Company is unable to redeem the Preferred Stock during such three year period,
whether because of financial circumstances, contractual restrictions, or
limitations inherent under the terms governing such stock, a conversion of the
Preferred Stock into Common Stock could have the effect of significantly
diluting the Company's Common Stock.
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<PAGE> 26
POTENTIAL ANTI-TAKEOVER EFFECT OF PREFERRED STOCK, CHANGE OF CONTROL
ARRANGEMENTS AND DELAWARE LAW
Certain provisions of the Company's Certificate of Incorporation and 1998
Stock Incentive Plan (as described herein) may have the effect of making it more
difficult for a third party to acquire, or of discouraging a third party from
attempting to acquire, control of the Company. Such provisions could limit the
price that certain investors may be willing to pay in the future for shares of
the Company's Common Stock. The Company's Certificate of Incorporation
authorizes the Company to issue "blank check" preferred stock in addition to the
Preferred Stock to be issued to UDC in connection with the Split-up, the
designation, number, voting powers, preferences, and rights of which may be
fixed or altered from time to time by the Board of Directors. Accordingly, the
Board of Directors will have the authority, without stockholder approval, to
issue additional shares of preferred stock with dividend, conversion,
redemption, liquidation, sinking fund, voting, and other rights that could
adversely affect the voting power or other rights of the holders of the Common
Stock. The additional shares of preferred stock could be utilized, under certain
circumstances, to discourage, delay, or prevent a merger, tender offer, or
change in control of the Company that a stockholder might consider to be in its
best interests. Although the Company has no present intention of issuing any
additional shares of its authorized preferred stock, there can be no assurance
that the Company will not do so in the future. See "Description of Capital
Stock -- Preferred Stock." The Company's 1998 Stock Incentive Plan contains
certain provisions that provide that, in the event of a "Change of Control" of
the Company, (i) all options and other share-based awards granted under the 1998
Stock Incentive Plan will become immediately exercisable; (ii) any restriction
periods and restrictions imposed on restricted stock granted under the 1998
Stock Incentive Plan will lapse; and (iii) the target value attainable under all
performance units and other performance-based awards granted under the 1998
Stock Incentive Plan shall be deemed to have been fully earned, unless, in each
case, the surviving entity agrees to assume the awards in a manner that
substantially preserves the participants' rights and benefits. These provisions
may make it more difficult for stockholders to take certain corporate actions
and could have the effect of delaying or preventing a change in control of the
Company. In addition, certain provisions of Delaware law applicable to the
Company also could delay or make more difficult a merger, tender offer or proxy
contest involving the Company. See "Management" and "Description of Capital
Stock."
NO INTEREST ON SUBSCRIPTION FUNDS IN ESCROW
In order to exercise the Rights and the related Over-Subscription
Privilege, holders of Rights must pay the Subscription Price no later than the
Expiration Date, or if certain notice of guaranteed delivery procedures are
utilized, three business days thereafter. All subscription funds will be
deposited into an escrow account with an independent escrow agent. If the
Effective Date has not occurred by thirty days following the Expiration Date,
the escrow will be terminated and subscription monies will be returned to
subscribers without interest. While the Company believes that the Effective Date
will occur shortly following the Expiration Date, no interest will be paid to
subscribers for monies held in the escrow account even if the Effective Date
does not occur.
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<PAGE> 27
THE RIGHTS OFFERING
PURPOSE OF THE RIGHTS OFFERING
The Company has agreed to make a Rights Offering to holders of UDC Common
Stock in connection with the Split-up. This Rights Offering represents the
Company's initial public offering of its securities, although unlike a
traditional public offering, the securities will be offered first to UDC's
stockholders before they are available to the general public. The Company
believes that the Rights Offering will provide an advantage over a traditional
initial public offering because this type of offering provides the Company with
the opportunity to offer its Common Stock to investors who, as UDC stockholders,
already have some knowledge of the Split-up Businesses, which have been operated
by UDC.
The Information Agent for the Rights Offering is Corporate Investor
Communications, Inc. ("CIC"). Questions concerning the Rights Offering may be
addressed to CIC at 1-888-673-4478.
DISTRIBUTION OF RIGHTS
In the event that UDC's stockholders approve the Split-up and all other
conditions thereto are satisfied, subject to UDC's Board of Directors exercising
its right, in its sole discretion without stockholder approval, to abandon,
defer (to a date certain or indefinitely), or modify the Rights Offering, the
Rights Offering will be made to UDC's stockholders of record as of August 17,
1998 (the "Record Date"). On the Commencement Date (as defined below) of the
Rights Offering, the Company will distribute the Rights to UDC's stockholders as
of the Record Date pro rata in accordance with the ownership of UDC Common Stock
on the Record Date. Each holder of record of UDC Common Stock as of the Record
Date will receive one (1) Right for every four (4) shares of UDC Common Stock.
Each Right will entitle the holder to acquire one (1) share of the Company's
Common Stock (the "Primary Subscription") at $7.00 per share (the "Subscription
Price"). The Subscription Price must be delivered to Norwest Bank Minnesota,
National Association, as distribution agent for the Company (the "Distribution
Agent"), and will be deposited by the Distribution Agent into an escrow account
(the "Escrow Account") established by the Company with Norwest Bank Minnesota,
National Association, as escrow agent (the "Escrow Agent"). Except as provided
in the next sentence below, in order to exercise the Rights, the full
Subscription Price for all exercised Rights must be paid on or prior to the
Expiration Date (defined below) or a notice of guaranteed delivery must be
received by the Distribution Agent by that date as described below under "The
Rights Offering Period" and "Method for Exercising Rights." Notwithstanding the
above, Mr. Garcia and his affiliates may exercise their Rights by payment of the
Subscription Price on or prior to the Effective Date. No interest will be paid
on Subscription Funds in the Escrow Account.
NO FRACTIONAL SHARES
If the number of shares of UDC Common Stock owned by a holder of record of
UDC Common Stock is not evenly divisible by four, the Company will round up to
the nearest whole number in calculating the number of Rights that such record
holder is entitled to receive. For example, if a record holder holds ten (10)
shares of UDC Common Stock, such holder will receive three (3) Rights. Holders
of record of UDC Common Stock as of the Rights Record Date will be instructed to
allocate the Rights received by them among any beneficial owners of UDC Common
Stock to which such Rights relate by rounding upward or downward to the nearest
whole Right. A record holder may request additional Rights from the Distribution
Agent if necessary to effect such an allocation among beneficial owners.
THE RIGHTS OFFERING PERIOD
Rights may be exercised at any time during the period beginning on the
commencement date of the Rights Offering (the "Commencement Date"), which is
expected to be on or about September 1, 1998, and ending at 5:00 p.m., Minnesota
time, on the date that is 20 days following the Commencement Date or such other
date to which the Rights Offering is extended (the "Expiration Date"). The
Company may determine to extend the Rights Offering Period in the event that the
Company believes a longer offering period is advisable
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<PAGE> 28
in order to allow a more diversified pool of holders to exercise the Rights or
for any other reason. After that date, except pursuant to certain procedures for
guaranteed delivery described below, Rights Offering Participants will not be
able to exercise or transfer their Rights and such Rights will be worthless. The
Company does not intend to honor any Rights received for exercise by the
Distribution Agent after the Expiration Date, except pursuant to such procedures
for guaranteed delivery, regardless of when such Rights were sent to the
Distribution Agent for exercise. Holders may also exercise their Rights by
contacting a bank, trust company, New York Stock Exchange member firm, or other
financial institution that is a member of an approved stock exchange medallion
program which can deliver to the Distribution Agent, on behalf of the holder, on
or prior to the Expiration Date, a Notice of Guaranteed Delivery guaranteeing
delivery of a properly completed subscription certificate (a "Subscription
Certificate") and payment of required subscription funds on or before the third
business day following the Expiration Date.
TRANSFERRING RIGHTS
Rights Offering Participants may sell the Rights in the market. Rights will
be admitted for trading on the Nasdaq National Market, under the symbol "CGNTR,"
and may be purchased or sold through normal brokerage channels through the last
business day prior to the Expiration Date. Rights Offering Participants should
consult with their regular investment and tax advisors and carefully consider
their alternatives. See "Federal Income Tax Consequences."
Each Rights Offering Participant may transfer all or a portion of such
Participant's Rights by endorsing and delivering to the Distribution Agent (at
the addresses set forth below) his or her Subscription Certificate. The Rights
Offering Participant must properly endorse the certificate for transfer, his or
her signature must be guaranteed by a bank or securities broker, and his or her
certificate must be accompanied by instructions to reissue the Rights to be
transferred in the name of the person purchasing the Rights. The Distribution
Agent will reissue certificates for the transferred Rights to the purchaser, and
will reissue a certificate for the balance, if any, to the transferor if it is
able to do so before the Expiration Date. The transferor will be responsible for
the payment of any commissions, fees, and other expenses (including brokerage
commissions and any transfer taxes) incurred in connection with the purchase or
sale of the transferor's Rights. Any questions regarding the transfer of Rights
should be directed to the Information Agent at its telephone number or address
listed below:
Corporate Investor Communications, Inc.
111 Commerce Road
Carlstadt, New Jersey 07072-2586
Telephone: (888) 673-4478
Because of the short Rights Offering Period, Rights Offering Participants
desiring to sell or transfer their Rights should do so early in the Rights
Offering Period to allow sufficient time for the transfer to be effected and the
transferee to exercise the Rights.
METHOD FOR EXERCISING RIGHTS
Rights may be exercised by completing and signing the purchase form that
appears on the back of each Subscription Certificate. To exercise Rights, a
Rights Offering Participant must send the completed and signed form, along with
payment in full of the Subscription Price for all shares of Common Stock to be
purchased, to the Distribution Agent. The Distribution Agent must receive these
documents and the payment not later than 5:00 p.m., Minnesota time, on the
Expiration Date. Rights may also be exercised by following the procedures for
guaranteed delivery described above under "The Rights Offering Period," in which
case the Notice of Guaranteed Delivery must be received by the Distribution
Agent by 5:00 p.m., Minnesota time, on the Expiration Date, and the properly
completed Subscription Certificate and payment of required subscription funds
must be received by the Distribution Agent by 5:00 p.m., Minnesota time, no
later than three business days following the Expiration Date. A Notice of
Guaranteed Delivery may be delivered by facsimile to the Distribution Agent at
612-450-4163, with delivery confirmed by telephone at 612-552-6995. Further
instructions for exercise of Rights and additional documentation that may be
required in certain cases will be contained in or included with the Subscription
Certificates.
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<PAGE> 29
Rights Offering Participants whose Rights are held by a nominee, such as a
bank, broker or trustee, must contact that nominee to exercise their Rights. In
such case, the nominee will complete the Subscription Certificate on behalf of
the Rights Offering Participant and arrange for proper payment. Nominees who
receive Rights for the account of others should notify the beneficial owners of
such Rights as soon as possible to ascertain such beneficial owners' intentions
and to obtain instructions with respect to the Rights. If the beneficial owner
so instructs, the nominee should complete the Subscription Certificate and
submit it to the Distribution Agent with the proper payment therefor. The
Company does not intend to honor any exercise of Rights received by the
Distribution Agent after the Expiration Date, or three business days thereafter
if a Notice of Guaranteed Delivery is delivered by the Expiration Date, except
that Mr. Garcia and his affiliates may exercise their Rights by delivery of
subscription documents and payment of the Subscription Price directly to Cygnet
on or prior to the Effective Date.
The Company suggests, for the protection of the Rights Offering
Participants, that Rights be delivered to the Distribution Agent by overnight or
express mail courier. If Rights are mailed, the Company suggests that Rights
Offering Participants use registered mail. In any event, mail or delivery of
Rights and payment for the Subscription Price must be made to the Distribution
Agent as follows:
<TABLE>
<S> <C> <C>
BY MAIL: BY HAND: BY OVERNIGHT/EXPRESS MAIL
COURIER:
Norwest Bank Minnesota, N.A. Norwest Bank Minnesota, N.A. Norwest Bank Minnesota, N.A.
Shareowner Services Shareowner Services Shareowner Services
Reorganization Department Reorganization Department Reorganization Department
P.O. Box 64858 161 North Concord Exchange 161 North Concord Exchange
St. Paul, MN 55164-0858 South St. Paul, MN 55075 South St. Paul, MN 55075
</TABLE>
The Subscription Price must be paid in U.S. dollars by certified check or
money order payable to "Norwest Bank Minnesota, National Association, as Escrow
Agent for Cygnet Financial Corporation," and will be deposited into escrow. The
Distribution Agent may also accept checks payable to "Norwest Bank Minnesota,
National Association," "Cygnet Financial Corporation," or similar designations,
although it will not be required to do so. No interest will be paid on
Subscription Funds in the Escrow Account.
The Escrow Agent will not deliver any funds to the Company until the
Split-up has been successfully completed and the shares of Common Stock have
been issued to the Rights Offering Participants. If for any reason the Rights
Offering is not successfully completed or the Split-up has not been effected
within 30 days following the Expiration Date, the Escrow Agent will return all
funds held in escrow as promptly as practicable to the Rights Offering
Participants, without interest.
The Company will decide all questions as to the validity, form and
eligibility (including times of receipt, beneficial ownership and compliance
with other procedural matters). The acceptance of subscription forms and the
Subscription Price also will be determined by the Company. Alternative,
conditional or contingent subscriptions will not be accepted. The Company
reserves the absolute right to reject any subscriptions not properly submitted.
In addition, the Company may reject any subscription if the acceptance of the
subscription would be unlawful. The Company in its sole discretion may waive any
defect or irregularity, or permit a defect or irregularity to be corrected
within such time as it may determine. Subscriptions will not be deemed to have
been received or accepted until all irregularities have been waived or cured
within such time as the Company determines in its sole discretion. Neither the
Company nor the Distribution Agent will be under any duty to give notification
of any defect or irregularity in connection with the submission of Subscription
Certificates or incur any liability for failure to give such notification. If an
exercise is rejected, the related payment of the Subscription Price will be
promptly returned by the Escrow Agent.
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<PAGE> 30
Any questions or requests for assistance concerning the method of
subscribing for shares of Common Stock or for additional copies of this
Prospectus or Subscription Certificates or Notices of Guaranteed Delivery may be
directed to the Information Agent at its telephone number and address listed
below:
Corporate Investor Communications, Inc.
111 Commerce Road
Carlstadt, New Jersey 07072-2586
Telephone: (888) 673-4478
Shareholders may also contact their brokers or nominees for information
with respect to the Rights.
THE OVER-SUBSCRIPTION PRIVILEGE
Each Rights Offering Participant who elects to exercise all of his or her
Rights may also subscribe for additional shares of Common Stock out of the pool
of shares underlying unexercised Rights on the Expiration Date, if any (the
"Unexercised Pool"), up to the number of shares purchased upon exercise of such
Participant's Rights (the "Over-Subscription Privilege"), subject to allocation
as described below. Shares purchased through the Over-Subscription Privilege
must be purchased at the Subscription Price. For example, if a Rights Offering
Participant holds and validly exercises 1,000 Rights, such Participant also may
subscribe for an additional 1,000 shares of Common Stock out of the Unexercised
Pool at the Subscription Price of $7.00 per share. If there are more shares
subscribed for pursuant to the Over-Subscription Privilege than are available in
the Unexercised Pool, each holder who elects to exercise his Over-Subscription
Election shall be authorized to purchase a pro rata portion of the Unexercised
Pool determined by calculating the product of (a) a fraction, the numerator of
which is equal to the number of shares of Common Stock as to which the
Over-Subscription Privilege of a holder is exercised and the denominator of
which is the total number of shares of Common Stock as to which the
Over-Subscription Privilege is exercised by all holders, and (b) the number of
shares available in the Unexercised Pool. The Escrow Agent will refund to
holders of Rights, without interest, all amounts paid for shares of Common Stock
subscribed for pursuant to the Over-Subscription Privilege and not issued or
sold to such holders due to the allocation described above. Except as described
in the next sentence below, the full amount of the Subscription Price for all
exercised Rights and shares subscribed for pursuant to the Over-Subscription
Privilege must be paid on or prior to the Expiration Date or a notice of
guaranteed delivery must be received by the Distribution Agent by that date in
order to validly exercise the Over-Subscription Privilege. Notwithstanding the
above, because of his obligations as Standby Purchaser, Mr. Garcia and his
affiliates may pay monies necessary to exercise the Over-Subscription Privilege
with respect to their Rights at the same time that they pay monies to fulfill
Mr. Garcia's Standby Purchase Obligation (described below). Such payments will
be made directly to the Company.
THE STANDBY PURCHASE OBLIGATION
Ernest C. Garcia, II, the Company's Chairman of the Board, Chief Executive
Officer, and President, and the holder of approximately 25.2% of the outstanding
shares of UDC Common Stock, will act as standby purchaser for the Rights
Offering (the "Standby Purchaser"). The successful conclusion of the Rights
Offering is contingent on the purchase of at least 75% of the Offered Shares
(the "Required Purchase Amount"). Mr. Garcia has agreed to purchase his full
25.2% pro rata share of the Offered Shares pursuant to the Rights Offering. In
addition, pursuant to that certain Rights Exercise and Standby Purchase
Agreement to be entered into between the Company and Mr. Garcia (the "Standby
Purchase Agreement"), through the Over-Subscription Privilege associated with
his Rights or pursuant to his Standby Purchase Obligation, Mr. Garcia will
purchase additional shares of Common Stock from the Unexercised Pool to the
extent necessary to satisfy the Required Purchase Amount. If, following the
Expiration Date, validly exercised Rights and the Over-Subscription Privilege do
not result in proper and valid subscriptions for the Required Purchase Amount,
then Mr. Garcia will be required to purchase additional shares of Common Stock
pursuant to the Standby Purchase Obligation in an amount necessary to achieve
the Required Purchase Amount. Mr. Garcia will pay any additional subscription
funds required pursuant to the Standby Purchase Obligation directly to the
Company on or prior to the Effective Date. In addition, Mr. Garcia's Standby
Purchase Obligation may be satisfied by any company or entity wholly-owned by
Mr. Garcia or any of his affiliates. As a result, Mr. Garcia
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<PAGE> 31
(or his affiliates) is expected to acquire at least 25.2% of Cygnet's Common
Stock through the Rights Offering and may acquire a substantially greater
percentage in certain circumstances as described herein. UDC intends to utilize
a portion of the Cash Payment to repay in full its $10 million subordinated note
to Verde Investments, Inc. ("Verde"), an affiliate of UDC, wholly-owned by Mr.
Garcia (the "Verde Note"), subject to the receipt of certain required consents.
Alternatively, Verde may deposit the Verde Note or any part thereof with the
Company in payment of all or any portion of the Subscription Price for exercise
of Rights acquired by Verde from Mr. Garcia or otherwise, the related
Over-Subscription Privilege, and the Standby Purchase Obligation. In such case,
the Company would transfer the Verde Note to UDC for cancellation in lieu of the
payment of a portion of the Cash Payment.
FAILURE BY THE STANDBY PURCHASER TO MEET HIS OBLIGATIONS
If the Standby Purchaser fails to meet his obligations under the Standby
Purchase Agreement, the Rights Offering may be canceled. If the Rights Offering
is canceled, the Escrow Agent will promptly return to all Rights Offering
Participants who elected to exercise Rights, without interest, any payment
received in respect of the Subscription Price and no shares of Common Stock will
be distributed.
THE STANDBY WARRANTS
In consideration for the obligations incurred by Mr. Garcia under the
Standby Purchase Agreement, on the Effective Date, Cygnet will grant to Mr.
Garcia warrants (the "Standby Warrants") entitling Mr. Garcia to purchase up to
500,000 additional shares of Common Stock at an exercise price equal to 120% of
the Subscription Price, or $8.40 per share (the "Warrant Price"), at any time
within five years following the Effective Date. Neither the Standby Warrants nor
the underlying Common Stock into which they are exercisable are registered under
the Securities Act and such securities may not be resold by Mr. Garcia unless
such securities are registered or unless an exemption from registration is
available. The Company will register at its expense the resale of the Common
Stock issued upon exercise of the Standby Warrants at the request of Mr. Garcia
at any time after one year following the Effective Date.
ADDITIONAL PURCHASE RIGHT AND D&O PURCHASE RIGHT
In addition to the shares of Common Stock that Mr. Garcia will purchase
through exercise of his Rights, the Over-Subscription Privilege associated with
his Rights, and the Standby Purchase Obligation, on the Effective Date, Mr.
Garcia and his affiliates will have the right at his election to purchase up to
an additional 714,286 shares of Common Stock at the Subscription Price (the
"Additional Purchase Right"). In addition, on the Effective Date, certain
individuals who are or will become directors and officers of the Company on the
Effective Date will have the right to purchase 214,286 additional shares of
Common Stock for $7.00 per share (the "D&O Purchase Right").
THE LENDER WARRANTS
Cygnet will be required to issue warrants to a third party lender (the
"Lender Warrants") to purchase 115,000 shares of Common Stock at an exercise
price of $8.40 per share, subject to a call feature by the Company if the
closing price of the Common Stock equals or exceeds $13.44 per share for a
period of 20 consecutive trading days, as incentive for a loan made to the
Company by the third-party lender of $5 million in subordinated indebtedness for
a three year term. The Lender Warrants will have a term of three years from
their date of issuance. Neither the Lender Warrants nor the underlying Common
Stock into which they are exercisable are registered under the Securities Act
and such securities may not be resold unless they are registered or unless an
exemption from registration is available. The Company has agreed to register at
its expense the resale of the Common Stock underlying the Lender Warrants on
demand of the holder thereof at any time after one year following the Effective
Date.
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Liquidity and Capital Resources."
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<PAGE> 32
PRINCIPAL AGREEMENTS RELATING TO THE RIGHTS OFFERING
In order to effectuate the Split-up, it is contemplated that at least the
following major agreements will be required. Each such agreement will be
executed in substantially the form described below. The descriptions of such
agreements contained herein are summaries only and are qualified in their
entirety by reference to the agreements which will be filed as exhibits to the
Registration Statement. Such agreements are expected to be substantially in the
forms so filed but may be revised prior to or following the effectuation of the
Split-up.
CAPITALIZATION AGREEMENT.
Prior to the Commencement Date, UDC and the Company will enter into the
Capitalization Agreement. The Capitalization Agreement sets forth, among other
things, and assuming the satisfaction or waiver of specified contingencies, (i)
the obligation of the Company to issue the Rights, (ii) the obligation of the
Company to issue the Common Stock on the Effective Date upon exercise of the
Rights, the Over-Subscription Privilege, and the Standby Purchase Obligation,
(iii) the obligation of UDC and its subsidiaries to transfer the Transferred
Assets to the Company on the Effective Date, (iv) the obligation of the Company
to issue the Preferred Stock to UDC and to make the Cash Payment, (v) the
obligation of the Company to issue other capital stock and warrants as described
herein, (vi) the operational arrangements and agreements between UDC and the
Company during a transition period, including arrangements for the sharing of
certain assets, leases, licenses, and employees, (vii) agreements between UDC
and the Company relating to employee matters, including the issuance or
adjustment of stock options under employee benefit plans, (viii) tax sharing and
indemnity matters, and (ix) certain agreements between UDC and the Company
relating to the FMAC and Reliance transactions and any Interim Transactions.
STANDBY PURCHASE AGREEMENT.
The Standby Purchase Agreement will be entered into between the Company and
Ernest C. Garcia, II prior to commencement of the Rights Offering. The Standby
Purchase Agreement sets forth the obligation of Mr. Garcia or his affiliates to
exercise their Rights and to purchase shares of Common Stock from the
Unexercised Pool of Rights either through the Over-Subscription Privilege
associated with their Rights or pursuant to the Standby Purchase Obligation. See
"The Standby Purchase Obligation" above. The Standby Purchase Agreement will
also require the issuance of the Standby Warrants to Mr. Garcia.
ESCROW AGREEMENT.
The Escrow Agreement will be entered into between the Company and Norwest
Bank Minnesota, National Association, as Escrow Agent prior to the commencement
of the Rights Offering and would govern the holding and distribution of the
subscription monies received from holders (other than Mr. Garcia) who elect to
exercise their Rights or the Over-Subscription Privilege.
TRANSFER OF ASSETS PURSUANT TO THE SPLIT-UP
If the Split-up Proposal is approved by the UDC shareholders and certain
other conditions are satisfied (see "Contingencies to the Split-up and the
Closing Thereof"), on the Effective Date, UDC and its subsidiaries will transfer
to the Company certain assets and liabilities (the "Transferred Assets.") The
Transferred Assets will include (i) UDC's bulk purchase and servicing operations
with respect to contracts originated by independent used car dealerships ("Third
Party Dealers"); (ii) the assets of Cygnet Finance, Inc., a wholly-owned
subsidiary of UDC through which UDC provides qualified Third Party Dealers with
warehouse purchase facilities and operating credit lines primarily secured by
the dealer's retail installment contract portfolios (the "Cygnet Dealer
Program"); (iii) substantially all of UDC's rights and obligations pursuant to
certain transactions with First Merchants Acceptance Corporation ("FMAC"),
including the servicing platform and rights and certain other rights and
residual interests, and the assumption by the Company of certain funding
obligations and guarantees of UDC in connection with the FMAC transaction,
certain of which are described under "Risk Factors -- Risks Relating to the
Business -- Risks Related to the FMAC Transaction" and in "Management's
Discussion and Analysis of Financial Condition and Results of
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<PAGE> 33
Operations -- Liquidity and Capital Resources -- Transactions Regarding First
Merchants Acceptance Corporation"; and (iv) substantially all of the Company's
rights and obligations pursuant to certain transactions with Reliance Acceptance
Group, Inc. ("Reliance"), described generally above under "Risk Factors -- Risks
Relating to the Business -- Risks Related to the Reliance Transaction" and in
"Management's Discussion and Analysis of Results of Operations and Financial
Condition -- Liquidity and Capital Resources -- Transactions Regarding Reliance
Acceptance Group" including the servicing platform and certain servicing and
transition servicing arrangements. The Transferred Assets will not include cash
received by UDC prior to the Effective Date. The Transferred Assets had a net
book value of approximately $54.7 million and a net appraised value of
approximately $54.9 million as of June 30, 1998. However, it is expected that
the book value of the Transferred Assets will increase prior to the transfer
contemplated herein as additional contracts are acquired under warehouse
purchase facilities or additional advances are made under operating credit lines
through the Cygnet Dealer Program.
The Company is currently evaluating a certain transaction for the
acquisition or management of an operating insurance agency. For a description of
certain additional transactions that recently have been or may be effected by
the Company prior to the Split-up ("Interim Transactions"), see
"Business -- Recent Developments."
UDC would retain its used car dealership operations, its securitization
program, the servicing rights and its interests in the bankruptcy remote
subsidiaries that own residual interests in all securitization transactions
previously effected by UDC, and its rent-a-car franchise business which is
generally inactive. UDC would continue to service, through its loan servicing
and collection facilities located in Phoenix, Arizona, San Antonio, Texas,
Dallas, Texas, and Tampa, Florida, the automobile receivables in its various
securitized pools, receivables purchased through its Branch Office network that
was closed in the first quarter of 1998 (whether securitized or retained), as
well as the receivables serviced pursuant to the transactions effected in
September 1997 with Kars-Yes Holdings, Inc. and related companies ("Kars"). In
September 1997, UDC purchased substantially all of the dealership and loan
servicing assets of Kars, including 12 dealerships. Although UDC did not acquire
the contract portfolio of Kars, it did acquire the Kars' loan servicing assets
and began servicing Kars' retained portfolio and portfolios previously
securitized by Kars, which aggregated approximately $98.8 million at March 31,
1998. UDC would also retain certain rights and direct obligations relating to
the FMAC and Reliance transactions.
CONSIDERATION FOR THE TRANSFERRED ASSETS
As consideration for the Transferred Assets, on the Effective Date, the
Company would issue to UDC 40,000 shares of Cumulative Convertible Preferred
Stock, Series A, $.001 par value per share (the "Preferred Stock"), with an
aggregate liquidation preference of $40 million and make a cash or equivalent
payment (the "Cash Payment") equal to the difference between the greater of the
appraised value or the book value of the Transferred Assets and the $40 million
of Preferred Stock (except with respect to one intangible asset, with a current
book value of approximately $575,000 as to which no value has been assigned by
the parties). The Company may also be required to repay to UDC any Interim
Company Loans, would pay the excess, if any, of the aggregate appraised value,
as of the Effective Date, of the assets and rights and related liabilities
acquired by the Company in such Interim Transactions ("Interim Assets") over the
aggregate book value of such Interim Assets (the "Interim Consideration"), and
would distribute to UDC any earnings accrued prior to the Effective Date. UDC
may also require the release of any guarantee of Third Party Loans to the
Company. Alternatively, UDC and the Company may agree as to other treatment of
the Interim Transactions if UDC believes that such other treatment results in
adequate consideration to UDC as the time of the Split-up with respect to the
Interim Assets. The purpose for the payment by the Company to UDC of the Interim
Consideration is to place both parties in substantially the same economic
position each would be in if the Interim Transactions were effected by UDC
rather than the Company and the resulting assets and liabilities were
transferred to Cygnet.
The Preferred Stock, in preference to the Common Stock, would be entitled
to receive cumulative cash dividends, from the Effective Date through the first
anniversary of such date, at the initial annual rate of 7% of the Base
Liquidation Amount (defined below), and escalating 1% per annum on each
anniversary thereafter to
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<PAGE> 34
a maximum rate of 11% per annum on the aggregate Base Liquidation Amount, in
each case payable quarterly in arrears on the first day of March, June,
September, and December of each year, beginning December 1, 1998, when and as
declared by the Board of Directors of the Company out of funds legally available
for such payment. The Preferred Stock, in preference to the Common Stock, will
be entitled to receive, in the event of dissolution or liquidation of the
Company, $1,000 per share (the "Base Liquidation Amount") plus accrued and
unpaid dividends thereon (the "Liquidation Preference Amount").
The Preferred Stock will be redeemable at the Company's option in whole or
in part at any time at a redemption price of $1,000 per share, plus dividends
accrued and unpaid thereon to the redemption date; provided, however, that no
such redemption will be authorized unless, in the judgment of the Company and
UDC, the proceeds of such redemption would be treated for federal income tax
purposes as proceeds from a sale of such stock and not as dividends paid with
respect to such stock. The Preferred Stock will be convertible in whole or in
part at any time after the third anniversary following issuance at the option of
UDC into that number of shares of Common Stock determined by dividing the
Liquidation Preference Amount of the shares of Preferred Stock to be converted
by the lower of (a) the Subscription Price or (b) 80% of the average Market
Price (defined below) for the 10 consecutive trading days ending two business
days prior to the date notice of conversion is given, subject to adjustment upon
certain extraordinary events. In addition, the Preferred Stock will be
convertible during any period following the date that an amount equal to six
quarterly dividend payments on the Preferred Stock has accrued and is unpaid,
until the payment in full of all accrued dividends. For purposes of the
conversion of the Preferred Stock, "Market Price" means (i) if the Common Stock
is quoted on the Nasdaq National Market or the Nasdaq SmallCap Market or on a
national securities exchange, the daily per share closing price of the Common
Stock as quoted on the Nasdaq National Market or the Nasdaq SmallCap Market or
on the principal stock exchange on which it is listed on the trading day in
question, as the case may be, whichever is the higher, or (ii) if the Common
Stock is traded in the over-the-counter market and not quoted on the Nasdaq
National Market or the Nasdaq SmallCap Market or on any national securities
exchange, the closing bid price of the Common Stock on the trading day in
question, as reported by Nasdaq or an equivalent generally accepted reporting
service. The Preferred Stock will not have any pre-emptive or other subscription
rights.
Except as described below, holders of the Preferred Stock will not be
entitled to vote for the election of directors or for other matters on which
holders of the Common Stock are entitled to vote. In the event that an amount
equal to two quarterly dividend payments on the Preferred Stock shall have
accrued and be unpaid, the holders of the Preferred Stock will have the right,
voting separately as a class, to elect two members to the Board of Directors of
Cygnet (in addition to the then authorized number of directors) at the next
meeting of stockholders of Cygnet and thereafter until all accrued dividends on
the Preferred Stock have been paid in full. The Preferred Stock shall also have
voting rights on certain extraordinary matters as described herein. See
"Description of Capital Stock -- Preferred Stock." In such case, each share of
Preferred Stock shall have one vote per Base Liquidation Amount.
If the Preferred Stock were converted to Common Stock at the subscription
price of $7.00 per share, UDC would obtain 5,714,286 shares, or approximately
61.6% of the then outstanding shares of the Company, assuming the sale by the
Company pursuant to the Rights Offering of 3,562,500 shares of Common Stock (the
Required Purchase Amount) and that no additional shares of Common Stock are
issued either on the Effective Date of the Split-up or thereafter. If the
Preferred Stock were converted to Common Stock at the subscription price of
$7.00 per share, and assuming the sale by the Company of 4,750,000 shares of
Common Stock pursuant to the Rights Offering and the sale of 714,286 additional
shares to Ernest C. Garcia, II and 214,286 shares available for purchase by
officers and directors of the Company (other than Mr. Garcia) and that no
additional shares of Common Stock are then outstanding, UDC would obtain
approximately 50.2% of the then outstanding shares of UDC.
The Preferred Stock and the Common Stock into which it is convertible are
not registered under the Securities Act and may not be sold by UDC unless such
securities are registered or unless an exemption from registration is available.
The Company will register the resale of the Common Stock issued upon conversion
of the Preferred Stock under the Securities Act, at its expense, upon request of
the Company.
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<PAGE> 35
For a description of certain risks relating to the Preferred Stock, see
"Risk Factors -- Risks Relating to the Rights Offering -- Risks Relating to the
Preferred Stock."
CONTINGENCIES TO THE SPLIT-UP AND THE CLOSING THEREOF
The making of the Rights Offering and the closing of the Split-up are
subject to certain contingencies in addition to approval of the Split-up
Proposal by UDC's stockholders and the requisite investment being made in the
Company either through the Rights Offering or otherwise, as described herein.
Various consents, waivers, and approvals are required to be obtained by UDC or
its subsidiaries prior to either the initiation of the Rights Offering or the
effectuation of the Split-up. These include, without limitation, (i) the consent
of certain parties that are required in order to allow a subsidiary of Cygnet to
service the contracts currently being serviced pursuant to the FMAC and Reliance
transactions, and (ii) the consent of General Electric Capital Corporation ("GE
Capital") as the primary lender to UDC under UDC's revolving credit facility. In
addition, the Company will be required to obtain certain regulatory approvals
and licenses. The Effective Date of the Split-up is expected to occur shortly
following the Expiration Date of the Rights Offering but may be delayed to a
date not later than 30 days following the Expiration Date. UDC has prepared or
is in the process of preparing such consents and has contacted or is contacting
various third parties to obtain such consents. UDC and the Company will attempt
to obtain all required consents before the Annual Meeting. However, there can be
no assurance that all required consents will be obtained by such date or at all.
More specifically, the issuance of the Rights following the requisite
approval by UDC's stockholders of the Split-up Proposal is conditioned upon,
among other things, (i) the execution and delivery of the Capitalization
Agreement described above under "Principal Agreements Relating to the Rights
Offering" and other required intercompany agreements; (ii) all required
authorizations, consents, approvals, and clearances of all federal, state,
local, and foreign governmental agencies and all other persons required therefor
having been obtained and in effect, without any conditions being imposed that
would have a material adverse effect; (iii) no preliminary or permanent
injunction or other order or decree, ruling issued in a court of competent
jurisdiction or by a governmental, regulatory, or administrative agency or
commission, and no statute, rule, regulation, or executive order promulgated or
enacted by any governmental authority, being in effect preventing the Rights
Offering; (iv) the satisfactory resolution of all legal and regulatory issues;
and (v) the Rights being deliverable in accordance with the applicable law. Even
if all of the above conditions are satisfied, the Rights Offering may be
abandoned or postponed, or conditions thereto waived, at any time prior to the
Commencement Date or thereafter for any reason in the sole discretion of UDC's
Board of Directors.
Similarly, the effectuation of the Split-up following the Rights Offering
and the achievement of the requisite investment in the Company is conditioned
upon, among other things, (i) certain transactions contemplated by the
Capitalization Agreement having been consummated in all material respects; (ii)
all required authorizations, consents, approvals, and clearances of all federal,
state, local, and foreign governmental agencies and all other persons required
to permit the valid consummation of the transactions contemplated by the
Capitalization Agreement having been obtained, without any conditions being
imposed that would have a material adverse effect; (iii) no preliminary or
permanent injunction or other order, decree, or ruling issued by a court of
competent jurisdiction or by a government, regulatory, or administrative agency
or commission, and no statute, rule, regulation, or executive order promulgated
or enacted by any governmental authority, being in effect preventing the
Split-up; (iv) the Common Stock being deliverable in accordance with applicable
law; (v) the execution and delivery of the required intercompany agreements; and
(vi) both UDC and the Company having in place separate financing facilities and
capital resources that will, in the judgment of the Board of Directors of each
such entity, be sufficient to allow the continuing operations of each such
entity without material disruption of business operations. These conditions may
be waived by the Board of Directors of UDC and/or Cygnet at any time. Even if
all the above conditions are satisfied, the Capitalization Agreement may be
amended or terminated, and the closing of the Split-up may be abandoned, or
conditions thereto may be waived, at any time prior to the Expiration Date or
thereafter for any reason in the sole discretion of UDC's Board of Directors.
UDC does not expect to effect the Split-up if the Rights Offering is not
consummated.
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OPINION OF APPRAISER
In connection with the Split-up, the Board of Directors of UDC engaged
Willamette Management Associates ("Willamette" or the "Appraiser") to estimate
the fair market value of the Transferred Assets, the Preferred Stock, and the
Rights and requested that Willamette render an appraisal (the "Appraisal")
regarding the fair market value of each. Willamette delivered its oral opinion
to the Boards of Directors of UDC and Cygnet on July 16, 1998, subsequently
confirmed in writing on July 21, 1998, to the effect that, based upon and
subject to the factors and assumptions set forth in such opinion, the fair
market value of the Transferred Assets, as of June 30, 1998, is $54.9 million,
the fair market value of the Preferred Stock on the date of its issuance will be
$40 million, and the Rights will have no value as of the date of their
distribution.
Willamette believes the Appraisal was prepared in conformity with the
Uniform Standards of Professional Appraisal Practice as promulgated by The
Appraisal Foundation and endorsed by the American Society of Appraisers. No
limitations were imposed by UDC or Cygnet with respect to the investigations
made or the procedures followed by Willamette in rendering its Appraisal.
Willamette's Appraisal indicates that it is provided for the use of UDC's and
Cygnet's Board of Directors in their determination of the consideration to be
paid by the Company for the Transferred Assets and for assessing the likely
consequences of the sale of the Transferred Assets for federal income tax
purposes, Willamette's Appraisal and presentation to the Boards of Directors of
UDC and Cygnet were among the many factors taken into consideration by the
Boards in making their determination to approve, and of the UDC Board to
recommend that UDC's stockholders approve, the Split-up. Willamette has
consented to inclusion of this summary in this Prospectus.
In making its Appraisal, Willamette reviewed certain information, including
drafts of this Prospectus and the Notice and Proxy Statement of UDC relating to
the Split-up, financial analyses of certain bulk portfolios of FMAC and
Reliance, and internal financial analyses and forecasts of UDC and the Company
prepared by the management. Willamette also had discussions with members of the
senior managements of the Company and UDC to discuss the Split-up and has
considered other matters deemed relevant to its inquiry. In performing its
analysis, Willamette made numerous assumptions with respect to industry
performance, general business and economic conditions, and the performance of
the Transferred Assets, such as the rate of industry growth, inflation, interest
rates, charge-off rates, and recovery rates, many of which are beyond the
control of UDC and the Company. The analyses performed by Willamette are not
necessarily indicative of actual values or actual future results which may be
significantly more or less favorable than those suggested by such analyses.
In connection with its analysis, Willamette assumed and relied upon the
accuracy and completeness of the foregoing information and did not assume any
responsibility for independent verification of such information. With respect to
portfolio forecasts, Willamette assumed that the forecasts and assumptions
provided to Willamette had been reasonably prepared on bases reflecting the best
currently available estimates and judgments of the management of UDC and the
Company, as the case may be, as to the future financial performance of the
respective portfolios, and that they provided a reasonable basis upon which
Willamette could form an opinion. The projections are based on numerous
variables and assumptions which are inherently unpredictable and must be
considered not certain of occurrence as projected. Accordingly, actual results
could vary significantly from those set forth in such projections. Willamette
also assumed that there had been no material changes to the Transferred Assets
since the respective dates of the last financial statement made available to
Willamette and that no material adverse change will subsequently occur to the
Transferred Assets. In addition, Willamette also assumed that the Split-up would
be consummated in accordance with the terms set forth in this Prospectus.
Willamette did not assume responsibility for making a physical inspection of the
Transferred Assets. Willamette will update its appraisal of the Transferred
Assets as of the Effective Date.
Transferred Assets. In the context of the appraisal of the Transferred
Assets, Willamette employed various valuation methodologies. For example,
Willamette used a discounted cash flow analysis with respect to the market value
of certain loan servicing contracts which contain back-end collection incentives
using a discounted cash flow analysis. This analysis involved (i) the projection
of future cash flows generated by the underlying portfolios of sub-prime
automobile finance receivables, (ii) the required distribution of projected
portfolio collections to creditors of the contract owners, (iii) the payment of
certain servicing, auditing, and
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<PAGE> 37
insurance fees, and (iv) an allocation of any residual cash flows based on the
terms and conditions of the governing servicing agreement. Where possible,
Willamette based its discounted cash flow assumptions on the historical
financial activity of the loan portfolios underlying the loan servicing
contracts.
With respect to loans securitized by FMAC, Willamette calculated the range
of net residual cash flows, based on varying assumptions, including projected
charge-offs, recoveries, prepayments, loan servicing and collection costs, and
distributions, if any, of net cash flows to the creditors of FMAC (including
with respect to a credit facility to be transferred to the Company at the
Effective Date, which at June 30, 1998 had a balance of $9.8 million), to be
$12.9 to $34.4 million, with a most likely result of $17.2 million. Willamette
concluded that the net present value of the residual cash flows of the FMAC
portfolio allocable to the Company is $77,133 in excess of the book value.
With respect to contracts owned by FMAC, sold to a third party and in which
the Company maintains a residual interest, Willamette calculated the range of
net residual cash flows, based on varying assumptions, including projected
charge-offs, recoveries, prepayments, loan servicing and collection costs, and
distributions, if any, of net cash flows to the current owner, to be $5.5 to
$13.2 million, with a most likely result of $9.5 million. Willamette concluded
that the net present value of the residual cash flows allocable to the Company,
is $2,003 in excess of the book value of the Company's residual interest.
With respect to the Reliance loan portfolio, Willamette calculated the
range of net residual cash flows, based on varying assumptions including
projected charge-offs, recoveries, prepayments, loan servicing and collection
costs, and distributions, if any, of net cash flows to creditors of Reliance, to
be negative $12.5 to positive $15.9 million, with a most likely result of
$683,756. Willamette concluded that the net present value of the residual cash
flows of the Reliance portfolio allocable to the Company, less the value of the
warrants issued in connection with the Reliance transaction, is $143,713 in
excess of the book value.
With respect to assets of a short-term nature that have a book value on the
June 30, 1998 financial statements of the Company that represent a net cash
realizable value, Willamette relied on the opinion of management of UDC and the
Company that the companies have adequately provided for net credit losses on
such assets. Willamette estimated that the book value of such assets is
reasonably representative of fair market value.
The following table summarizes the book value and the appraised value of
the Transferred Assets as of June 30, 1998 (in thousands):
<TABLE>
<CAPTION>
BOOK APPRAISED
VALUE VALUE DIFFERENCE
----- --------- ----------
<S> <C> <C> <C>
Assets:
Cash and Cash Equivalents............................ $ 232 $ 232 $ --
Finance Receivables.................................. 26,333 26,333 --
Notes Receivables.................................... 23,027 23,027 --
Property and Equipment............................... 2,335 2,335
Goodwill............................................. 1,138 1,138 --
Other Assets......................................... 4,338 4,560 222(1)
Assumed Liabilities:
Accrued Expenses and Other Liabilities............... 2,464 2,464 --
Note Payable......................................... 298 298 --
------- ------- ----
Transferred Assets......................... $54,641 $54,863 $222(1)
======= ======= ====
</TABLE>
- ---------------
(1) The difference between the appraised value and the book value of Other
Assets is due to an appraised value of $222,000 for incentive fees under
loan servicing agreements which have a book value of $0.
Preferred Stock. In the context of the appraisal of the Preferred Stock,
Willamette employed a dividend capitalization method, concluding that the most
important factor in the value of a preferred stock is the stock's dividend rate.
Willamette estimated the fair market value of the Preferred Stock by comparing
certain pro
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forma financial and market information for the Company with the corresponding
publicly available data and statistics of 77 publicly traded convertible
preferred stocks, such as dividend and interest coverage ratios, liquidation
coverage ratio, interest expense coverage ratio, fixed charged ratio, earnings
before interest, taxes and return on total capital. Based on this comparison,
Willamette selected an appropriate preferred dividend capitalization yield to
apply to the indicated annual dividend of the Preferred Stock.
Willamette reviewed a number of preferred stock issues rated by the Value
Line Convertible Survey and S&P Stock Guide in analyzing the Preferred Stock.
The selected preferred stock issues reviewed by Willamette had median before-tax
yields to investors of 3.61% (rated C and D by Value Line), 6.19% (rated E),
7.18% (rated F), 6.91 (rated G), and 7.90% (rated H and I), with an overall
median yield of 6.69%. The selected preferred stock issues had median dividend
and interest coverage ratios of 3.97% (rated C and D), 3.41% (rated E), 2.12%
(rated F), 2.52 (rated G), and 2.44% (rated H and I), with an overall median
ratio of 2.79%. In addition, the selected preferred stock issues had median
liquidation interest coverage ratios of 7.84% (rated C and D), 3.04% (rated E),
3.18% (rated F), 3.07 (rated G), and 1.37% (rated H and I), with an overall
median ratio of 4.25%. Willamette noted that, although the Preferred Stock to be
issued by the Company is not expected to be rated by any of the recognized U.S.
rating agencies, the characteristics of the Company and the Preferred Stock were
most similar to the preferred stock issues rated F and G.
Based on its analysis, Willamette estimated that an appropriate dividend
capitalization yield for the Preferred Stock is 7.0% and determined that the
fair market value of the Preferred Stock should equal $40 million on the
Effective Date based upon such analysis.
Rights. With respect to the valuation of the Rights, Willamette concluded
that although analysts commonly rely on a variety of option pricing models to
determine the value of rights and other instruments to purchase common stock,
such option pricing models were inappropriate in connection with the Rights. For
example, a standard option provides the option holder with the ability to
observe the current trading price of the underlying common stock before deciding
to exercise the option. If the exercise price of the option is greater than the
current trading price of the underlying common stock, the option is generally
regarded as "out-of-the-money" and the option holder will not exercise the
option. If, however, the current trading price of the underlying common stock is
greater than the exercise price of the option, the option is regarded as being
"in-the-money" and the option holder will exercise such option. In contrast,
holders of Rights will be unable to observe the underlying Common Stock price
before deciding whether to exercise Rights.
Willamette, therefore, determined that the Rights would be valuable only to
the extent that a Rights holder was able to acquire the underlying Common Stock
at a price below its market value. Taking into consideration the value of the
Transferred Assets, the purchase price payable therefor by the Company, and
taking into consideration the proceeds from the sale of the projected shares of
Common Stock, Willamette concluded that the Rights will merely provide the
Rights holders with the ability to acquire the Common Stock at its fair market
value. As a consequence, Willamette found the Rights to have no intrinsic value.
While the foregoing summary describes all analysis and examinations that
Willamette deems material to its Appraisal, it is not a comprehensive
description of all analyses and examinations actually conducted by Willamette.
The preparation of an appraisal necessarily is not susceptible to partial
analysis or summary description. Willamette believes that such analyses and the
summary set forth above must be considered as a whole and that selecting
portions of such analyses and of the factors considered without considering all
such analyses and factors would create an incomplete view of the process
underlying the analyses set forth in its presentation to the Boards of Directors
of UDC and Cygnet.
Willamette is a nationally recognized independent business valuation and
financial advisory firm regularly engaged in the valuation of publicly traded
and closely held investment securities in connection with mergers and
acquisitions, divestitures, employee stock ownership plans, public offerings,
gift and estate taxes, corporate and partnership recapitalizations, private
placements, and similar transactions. Willamette was selected by UDC to perform
the Appraisal because of its prior experience, reputation, and expertise in
valuation and corporate finance. Willamette has not provided any appraisal or
other services to UDC or the Company within the past two years, but could
provide such services to UDC, the Company, or affiliates in the future.
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<PAGE> 39
In connection with Willamette's engagement, UDC will pay Willamette a fee
of $75,000. In addition, UDC has agreed to reimburse Willamette for all
reasonable out-of-pocket expenses incurred in connection with the services
provided by Willamette, and to indemnify and hold harmless Willamette to the
full extent lawful from and against certain liabilities, which may be construed
to include certain liabilities under the federal securities laws, in connections
with its engagement. Willamette is independent of the parties to the Split-up,
and its fee is not contingent in any way upon the completion or ultimate outcome
of the Split-up.
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<PAGE> 40
FEDERAL INCOME TAX CONSEQUENCES
The following is a summary of the material federal income tax consequences,
based upon current law, which is subject to prospective or retroactive change at
any time, of the distribution and ownership of Rights, the exercise of Rights,
the acquisition of Common Stock incident to the exercise of Rights, and the
transfer and lapse of Rights without exercise or transfer. These tax
consequences may vary depending upon a Rights Offering Participant's particular
situation. Certain Rights Offering Participants (including the Standby
Purchaser, insurance companies, tax-exempt organizations, financial
institutions, broker-dealers, foreign corporations and persons who are not
citizens or residents of the United States) may be subject to special rules not
discussed below. THIS SUMMARY IS FOR GENERAL INFORMATION PURPOSES ONLY.
ACCORDINGLY, EACH RIGHTS OFFERING PARTICIPANT SHOULD CONSULT HIS OWN TAX ADVISOR
AS TO THE PARTICULAR TAX CONSEQUENCES TO HIM OF THESE TRANSACTIONS, INCLUDING
THE APPLICABILITY AND EFFECT OF ALL FEDERAL, STATE, LOCAL, AND FOREIGN TAX LAWS.
The Company has been advised by Snell & Wilmer L.L.P. ("Tax Counsel") that
under current interpretations of case law, the Code, and applicable regulations,
all of which are subject to prospective or retroactive change at any time, it is
the opinion of Tax Counsel that the federal income tax consequences to holders
of UDC Common Stock with respect to the Rights will be as set forth below. No
rulings will be sought from the Internal Revenue Service with respect to the
treatment of the Rights. The opinion of Tax Counsel represents its best legal
judgment and has no binding effect or official status of any kind. The opinion
of Tax Counsel assumes that the Rights Offering will be effected in accordance
with the description thereof in this Prospectus and the applicable provisions of
the Capitalization Agreement. No assurance can be given that contrary positions
may not be taken by the Internal Revenue Service or by any court of law. Because
of the predominantly factual nature of the fair market value of the Rights, Tax
Counsel expresses no opinion with respect to the fair market value of the Rights
for purposes of the discussion below or elsewhere in this document.
Distribution of Rights to Holders of UDC Common Stock. The transfer from
Cygnet to the holders of UDC Common Stock of the Rights, representing the right
to acquire shares of Common Stock, will be treated, for federal income tax
purposes, as (1) a distribution of the Rights by Cygnet to UDC, followed by (2)
a distribution of the Rights from UDC to the holders of UDC Common Stock.
Holders of UDC Common Stock will recognize dividend income (taxable as ordinary
income) on the date of the distribution in an amount equal to the fair market
value, if any, of the Rights as of the date of distribution, but only to the
extent that the amount of the distribution is properly sourced in UDC's current
or accumulated earnings and profits (as determined for federal income tax
purposes) in its taxable year of the distribution. That portion, if any, by
which the fair market value of the Rights exceeded UDC's current or accumulated
earnings and profits would be treated as a return of capital to the extent of
the holder's tax basis in his UDC Common Stock and, then, as gain from the sale
of such stock to the extent of any remaining excess.
Corporate holders of UDC Common Stock (other than S corporations) receiving
Rights and recognizing dividend income would be entitled to the
dividends-received deduction for corporations (generally 70%, but 80% under
certain circumstances) with respect to such dividends, to the extent applicable,
taking into consideration all limitations on the claiming of the
dividends-received deduction. With respect to specific limitations on claiming
the dividends-received deduction, corporate holders of UDC Common Stock should
consider the effect of Code Section 246(c) which disallows the
dividends-received deduction with respect to any dividend on any share of stock
that is held for 45 days or less during the 90-day period beginning on the date
which is 45 days before the date on which such stock becomes ex-dividend with
respect to such dividend. Additionally, corporate holders of UDC Common Stock
that have incurred indebtedness directly attributable to an investment in UDC
Common Stock should consider the effect of Code Section 246A which reduces the
dividends-received deduction by a percentage generally computed based on the
amount of such indebtedness and the holder's total adjusted tax basis in the
shares.
The Appraiser has determined, pursuant to its opinion dated July 21, 1998,
that the value of the Rights as of the date of the distribution of the Rights
should be zero. However, the opinion of the Appraiser is not
39
<PAGE> 41
binding on the Internal Revenue Service. For example, the Internal Revenue
Service may assert that the price at which the Rights trade during the 20-day
trading period of the Rights is indicative of the fair market value of the
Rights on the date of their distribution. Accordingly, there can be no assurance
as to the exact amount of dividend income, if any, a holder of UDC Common Stock
will recognize upon the receipt of the Rights. If the Rights are trading for
value on the date of their distribution, UDC may, in its discretion, report to
holders of UDC Common Stock the receipt of dividend income in an amount equal to
the average of the high and low trading prices of the Rights on such date.
Ownership of Rights. Each Rights Offering Participant who receives Rights
will have a tax basis in the Rights equal to the fair market value thereof.
Further, each Rights Offering Participant who receives Rights will have a
holding period for his Rights that begins on the date of receipt of the Rights.
Exercise of Rights. Rights Offering Participants, whether corporate or
noncorporate, will recognize neither gain nor loss upon the exercise of Rights.
A Rights Offering Participant who receives shares of Common Stock upon exercise
of the Rights will acquire a tax basis in such shares equal to the sum of the
Subscription Price paid under the Rights Offering and the tax basis (if any) of
the Rights Offering Participant in the Rights.
Transfer of Rights. The transferable nature of the Rights will permit a
Rights Offering Participant to sell Rights prior to exercise. Pursuant to Code
Section 1234, a Rights Offering Participant who sells Rights prior to exercise
will be entitled to treat the difference between the amount received for the
Rights and the adjusted tax basis (if any) of the Rights Offering Participant in
the Rights as a short-term capital gain or capital loss, provided that the
shares of Common Stock subject to the Rights would have been a capital asset in
the hands of the Participant had it been acquired by such holder. The gain or
loss so recognized will be short-term since the Rights will have been held for
less than twelve months.
Non-Exercise of Rights. The federal income tax treatment applicable to
Rights Offering Participants who fail to exercise or transfer their Rights prior
to the Expiration Date also is set forth in Code Section 1234. Rights Offering
Participants who allow their Rights to lapse will be deemed under the Code to
have sold their Rights on the date on which the Rights expire. Since no
consideration will be received by Rights Offering Participants upon such lapse
and since the Rights will have been held for less than twelve months, a short-
term capital loss equal to the tax basis (if any) in the Rights will be
sustained by the holder on such lapse, provided that the shares of Common Stock
subject to the Rights would have been a capital asset in the hands of the
Participant had it been acquired by such holder.
Short-term capital losses incurred by non-corporate taxpayers may be used
to offset short-term or long-term capital gains realized, plus up to $3,000
($1,500 in the case of a married individual filing a separate return).
Non-corporate taxpayers may carry forward indefinitely, but may not carry back,
unused net capital losses. When carried forward by non-corporate taxpayers,
short-term capital losses retain their short-term character and are treated as
sustained in the taxable year to which they are carried forward. Short-term
capital losses incurred by corporations may be used only to offset short-term or
long-term capital gains. Unused capital losses, however, generally may be
carried back by corporate taxpayers to the three taxable years preceding the
loss year and carried forward to the five succeeding taxable years. When carried
back or carried forward, short-term capital losses retain their character as
short-term and are treated as sustained in the taxable year to which they are
carried. Accordingly, certain Rights Offering Participants who allow their
Rights to lapse may recognize ordinary income upon receipt of the Rights and a
potentially deferred or nondeductible capital loss upon the lapse of such
Rights. FOR THIS REASON, IN MOST INSTANCES, IT WILL BE IN A RIGHTS OFFERING
PARTICIPANT'S INTEREST TO EITHER EXERCISE OR SELL RIGHTS RATHER THAN TO ALLOW
RIGHTS TO LAPSE.
40
<PAGE> 42
USE OF PROCEEDS
The minimum net proceeds to the Company, assuming the sale of 75% of the
Offered Shares, the minimum necessary to satisfy the Required Purchase Amount
and complete the Rights Offering, are estimated to be approximately $23,662,500,
after deducting estimated offering expenses allocable to and payable by the
Company. If all of the Offered Shares (including shares available pursuant to
the Additional Purchase Right and D&O Purchase Right) are purchased pursuant to
the Rights Offering, the net proceeds to the Company, after deducting estimated
offering expenses allocable to and payable by the Company, are estimated to be
approximately $38,475,000.
The Company intends to use a portion of the net proceeds of this Rights
Offering to make the Cash Payment to UDC as partial consideration for the
transfer of the Transferred Assets from UDC to the Company. The Cash Payment
will be equal to the difference between the greater of the appraised value or
the book value (in each case net of assumed liabilities) of the Transferred
Assets and the $40 million of Preferred Stock. The Company does not believe that
the appraised value of the Transferred Assets will materially differ from their
book value and currently estimates that the Cash Payment will range from $10
million to $20 million. In lieu of cash, the Company may satisfy a portion of
the Cash Payment by delivering for cancellation an existing $10 million
subordinated note currently owed by UDC to Verde Investments, Inc. ("Verde"), an
affiliate of UDC wholly-owned by Mr. Garcia (the "Verde Note"), subject to the
receipt of certain required consents, but only if Verde elects to deposit the
Verde Note or any part thereof with the Company in payment of all or any portion
of the Subscription Price for exercise of Rights acquired by Verde from Mr.
Garcia or otherwise. The remainder of the net proceeds, which the Company
estimates will range (i) from $2.3 million to $12.3 million assuming the sale of
75% of the Offered Shares pursuant to the Rights Offering after deducting
offering expenses allocable to and payable by the Company, or (ii) from $27.2
million to $17.2 million assuming the sale of all of the Offered Shares
(including shares available pursuant to the Additional Purchase Right and D & O
Purchase Right) pursuant to the Rights Offering after deducting offering
expenses allocable to and payable by the Company, will be used for capital
expenditures of approximately $1.0 million for computer and telecommunication
equipment and the balance for working capital.
DIVIDEND POLICY
The Company does not anticipate paying cash dividends on the Common Stock
in the foreseeable future. Instead, the Company intends to retain any future
earnings to finance the operation and expansion of the Company's business. In
addition, the Company has secured a loan with a third party lender of $5 million
of subordinated debt, the terms of which require the Company to maintain a debt
to tangible equity ratio not greater than 3 to 1, calculated as of the end of
each quarterly period in each fiscal year. Accordingly, under the terms of the
subordinated debt, if a proposed payment of dividends would cause the Company to
exceed this ratio, the Company would be unable to pay such dividends even if it
were otherwise in a position to do so. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations." Pursuant to the terms of the
Preferred Stock, the Company will be required to pay cumulative cash dividends
to UDC, from the Effective Date through the first anniversary of such date, at
the initial annual rate of 7% of the Base Liquidation Amount (defined below),
and escalating 1% per annum on each anniversary thereafter to a maximum rate of
11% per annum on the aggregate Base Liquidation Amount, in each case payable
quarterly in arrears on the first day of March, June, September, and December of
each year, beginning December 1, 1998, when and as declared by the Board of
Directors of Cygnet out of funds legally available for such payment. The Company
intends to pay dividends on the Preferred Stock on a timely basis.
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<PAGE> 43
CAPITALIZATION
The table sets forth below (i) the combined capitalization of the Company
as of June 30, 1998; (ii) the pro forma capitalization of the Company to give
effect to the sale of 4,750,000 shares of Common Stock offered hereby at the
Subscription Price of $7.00 per share, after deducting estimated offering
expenses allocable to and payable by the Company and payment in full of the
Advance from Affiliate; and (iii) the pro forma as adjusted capitalization of
the Company to give effect to the sale of 4,750,000 shares of Common Stock
offered hereby and the sale of 214,286 shares of Common Stock pursuant to the
D&O Purchase Right and 714,286 shares of Common Stock pursuant to the Additional
Purchase Right, in each case at the Subscription Price of $7.00 per share, after
deducting estimated offering expenses allocable to and payable by the Company
and payment in full of the Advance from Affiliate.
<TABLE>
<CAPTION>
AS OF JUNE 30, 1998
-----------------------------------------
ACTUAL PRO FORMA AS ADJUSTED
----------- ----------- -----------
<S> <C> <C> <C>
Debt................................................ $ 298,000 $ 298,000 $ 298,000
Advances from Affiliate............................. 15,818,000 -- --
Stockholders' equity
Preferred Stock, $.001 par value, 500,000 shares
authorized; none issued; 40,000 shares issued,
pro forma; 40,000 shares issued pro forma, as
adjusted....................................... -- 40,000,000 40,000,000
Common Stock, $.001 par value, 14,000,000 shares
authorized; 1 issued; 4,750,000 shares issued
pro forma; 5,679,000 shares issue pro forma, as
adjusted....................................... -- 4,750 5,679
Additional paid-in capital........................ 40,000,000 31,970,250 38,469,325
Retained earnings................................. -- -- --
----------- ----------- -----------
Total stockholders' equity................ 40,000,000 71,975,000 78,475,004
----------- ----------- -----------
Total capitalization...................... $56,116,000 $72,273,000 $78,773,004
=========== =========== ===========
</TABLE>
- ---------------
Excludes (i) approximately 284,000 shares of Common Stock issuable upon
exercise of stock options to be granted on the Effective Date, (ii) 115,000
shares of Common Stock issuable upon exercise of warrants anticipated to be
issued to the Company's subordinated debt lender, (iii) 500,000 shares of
Common Stock issuable upon exercise of the Standby Warrants, (iv) 41,429 shares
of Common Stock issuable upon the issuance of restricted stock grants to be
granted on the Effective Date, and (v) 28,571 shares of Common Stock issuable
upon exercise of stock options to be granted on the Effective Date.
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<PAGE> 44
SELECTED COMBINED FINANCIAL DATA
The selected data presented below under the captions "Statement of
Operations Data" and "Balance Sheet Data" for, and as of the end of the year
ended December 31, 1997, are derived from the combined financial statements of
Cygnet Financial Corporation, which combined financial statements have been
audited by KPMG Peat Marwick LLP, independent certified public accountants. The
combined financial statements as of December 31, 1997 and for the year then
ended, and the report thereon, are included elsewhere in this prospectus. The
selected data presented below for the six-month periods ended June 30, 1998 and
1997, and as of June 30, 1998, are derived from the unaudited condensed combined
financial statements of Cygnet Financial Corporation included elsewhere in this
prospectus. The results of operations of any interim period are not necessarily
indicative of results to be expected for a full fiscal year. For additional
information, see the combined financial statements and notes thereto of the
Company included elsewhere in this prospectus. The following table should be
read in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
<TABLE>
<CAPTION>
SIX MONTHS ENDED YEAR ENDED
JUNE 30, DECEMBER 31, 1997
----------------- -----------------
1998 1997
------- ------
(IN THOUSANDS EXCEPT PER SHARE DATA)
<S> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Total Revenues......................................... $12,550 $ 137 $15,959
Interest Income..................................... 6,382 137 7,472
Servicing Fees...................................... 4,937 -- --
Net Gain on Sale of Repossessed Collateral.......... 1,108 -- --
Gain on Sale of Notes Receivable.................... -- -- 8,132
Other Income........................................ 123 -- 355
Operating Expenses:
Provision for Credit Losses......................... 965 -- 691
Selling and Marketing Expense....................... 36 9 18
General and Administrative.......................... 9,001 1,008 3,766
Depreciation and Amortization....................... 230 62 153
------- ------ -------
Total Operating Expenses............................... 10,232 1,079 4,628
------- ------ -------
Earnings (Loss) Before Interest Expense................ 2,318 (942) 11,331
Interest Expense....................................... 1,714 37 2,067
------- ------ -------
Earnings (Loss) before Income Taxes.................... 604 (979) 9,264
Income Taxes (Benefit)................................. 244 (394) 3,728
------- ------ -------
Net Earnings (Loss).................................... $ 360 $ (585) $ 5,536
======= ====== =======
Proforma Basic/Diluted Earnings (Loss) per Share(2).... $ (0.18) $(0.35) $ 0.48
======= ====== =======
Shares used in Computation(2).......................... 5,679 5,679 5,683
======= ====== =======
</TABLE>
43
<PAGE> 45
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30, 1998 YEAR ENDED
----------------------------------------- DECEMBER 31, 1997
PRO FORMA -----------------
ACTUAL PRO FORMA(1) AS ADJUSTED(1) ACTUAL
------- ------------ -------------- -----------------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and Cash Equivalents.......... $ 232 $16,167 $22,667 $ 1,225
Finance Receivables, Net........... 26,333 26,333 26,333 19,274
Notes Receivable, Net.............. 23,027 23,027 23,027 21,861
Total Assets....................... 58,580 74,515 81,015 50,034
Advances from Affiliate............ 15,818 -- -- 9,106
Total Note Payable................. 298 298 298 380
Total Stockholder's Equity......... 40,000 71,753 78,253 40,000
</TABLE>
- ---------------
(1) The table sets forth above (i) the combined capitalization of the Company as
of June 30, 1998; (ii) the pro forma capitalization of the Company to give
effect to the sale of 4,750,000 shares of Common Stock offered hereby at the
Subscription Price of $7.00 per share, after deducting estimated offering
expenses allocable to and payable by the Company, a purchase price for the
Transferred Assets equivalent to UDC's June 30, 1998 net book value, and
payment in full of the Advances from Affiliate, which totaled $15,818,000 at
June 30, 1998; and (iii) the pro forma as adjusted capitalization of the
Company to give effect to the sale of 4,750,000 shares of Common Stock
offered hereby and the sale of 214,286 shares of Common Stock pursuant to
the D&O Purchase Right and 714,286 shares of Common Stock pursuant to the
Additional Purchase Right, assuming these rights are exercised in full, in
each case at the Subscription Price of $7.00 per share, after deducting
estimated offering expenses allocable to and payable by the Company, a
purchase price for the Transferred Assets equivalent to UDC's June 30, 1998
net book value, and payment in full of the Advances from Affiliate, which
totaled $15,818,000 at June 30, 1998. The Advances from Affiliate represents
the $14.9 million Cash Payment plus other working capital advances from UDC.
(2) For purposes of computing the proforma earnings per share for the periods
presented, the Company has assumed the maximum potential issuance of shares
of Common Stock totaling 5,678,572 shares pursuant to the planned Rights
Offering, the D&O Purchase Right and the Additional Purchase Right and for
dilutive stock options that will be granted on the effective date. See note
14 to the Company's audited financial statements included herein.
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<PAGE> 46
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
INTRODUCTION
General. Cygnet Financial Corporation (the Company), a wholly-owned
subsidiary of Ugly Duckling Corporation (Ugly Duckling), was formed on June 1,
1998 for the purpose of consummating a transaction whereby Ugly Duckling would
split-up its operations into two publicly-held companies (the split-up). The
Company will purchase from Ugly Duckling, substantially all of Ugly Duckling's
non-dealership operations including, the bulk purchasing and certain servicing
operations (excluding the branch office network), it's third party dealer
financing operations, and substantially all other non-dealership assets and
contract rights including those acquired in the First Merchants Acceptance
Corporation Transaction and assume the liabilities related thereto (collectively
referred to as the acquired assets). In exchange for the acquired assets, the
Company will issue $40.0 million of its cumulative, convertible preferred stock
and a cash payment equivalent to the greater of the appraised value or the book
value of the acquired assets (in each case net of assumed liabilities), which
the Company does not expect to materially differ. These combined financial
statements reflect the results of operations, financial position, changes in
stockholder's equity and cash flows of the Company, as if the Company were a
separate entity operating the acquired assets for all periods presented. The
combined financial statements have been prepared using the historical basis in
the assets and liabilities and historical results of operations of the Company.
The Company provides qualified independent used car dealers with warehouse
purchase facilities and operating credit lines pursuant to its Cygnet Dealer
Program. In addition, the Company purchases loan portfolios in bulk and services
loan portfolios on behalf of third parties. The Company targets its products and
services primarily to the sub-prime segment of the automobile financing
industry, which focuses on selling and financing the sale of used cars to
Sub-Prime Borrowers.
Bulk Purchasing and Loan Servicing. The Company believes bulk purchase and
large servicing transactions are efficient methods of purchasing or obtaining
servicing rights to sub-prime automobile finance receivables. In this regard,
the Company has effected certain transactions with FMAC, pursuant to which the
Company has acquired significant servicing and other rights from FMAC, and
Reliance, pursuant to which the Company has entered into a servicing agreement
with Reliance through its bankruptcy case that, pursuant to bankruptcy court
approval, entitles the Company to service Reliance's finance receivable
portfolio. See "-- Transactions Regarding First Merchants Acceptance
Corporation" and "-- Transactions Regarding Reliance Acceptance Group."
Cygnet Dealer Program. Through the Cygnet Dealer Program, the Company
either purchases finance receivables under its Dealer Collection Program or
provides traditional revolving lines of credit under its Asset-Based Loan
Program. Under the Dealer Collection Program, the Company generally purchases
finance receivables on a full recourse basis from Third Party Dealers for 60% to
75% of the principal amount of the respective contract. The Company's Asset
Based Loan Program is similar to traditional asset-based lending relationships.
The Company generally advances 65% of the principal amount of the contract.
Under both programs, the Third Party Dealer retains responsibility for servicing
the contracts. The Third Party Dealer is generally entitled to a fee of 20% to
25% of gross collections for servicing the contracts purchased under the Dealer
Collection Program; however, the Company does not pay a servicing fee to Third
Party Dealers for servicing contracts under the Asset Based Loan Program.
Acquisition. In August 1997, the Company acquired substantially all of the
assets of American National Acceptance Corporation ("ANAC") in exchange for
approximately $9.1 million in cash. The acquisition was recorded in accordance
with the "purchase method" of accounting, and, accordingly, the purchase price
has been allocated to the assets purchased and the liabilities assumed based
upon the estimated fair values at the date of acquisition. The excess of the
purchase price over the fair values of the net assets acquired was approximately
$1.2 million and has been recorded as goodwill, which is being amortized over a
period of 15 years. The results of operations of ANAC have been included in the
Company's combined statement of operations from the acquisition date.
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<PAGE> 47
The following discussion and analysis provides information regarding the
Company's combined financial position as of December 31, 1997 and June 30, 1998,
and its results of operations for the year ended December 31, 1997, and the six
month periods ended June 30, 1998 and 1997.
RESULTS OF OPERATIONS
SIX MONTHS ENDED JUNE 30, 1998 COMPARED TO SIX MONTHS ENDED JUNE 30, 1997
Interest Income. Interest income consists of income recognized from the
Cygnet Dealer Program and interest income recognized from advances related to
the FMAC transaction.
Cygnet Dealer Program. Interest income from this category increased
by $5.2 million in the six month period ended June 30, 1998, from $137,000
in the six month period ended June 30, 1997. This increase is due to the
increase in finance receivables and advances under the Dealer Collection
and Asset Based Loan Programs, respectively, from the comparable period in
1997.
FMAC Transaction. Interest income for this category totaled $1.2
million in the six month period ended June 30, 1998 related to advances to
FMAC pursuant to various lending facilities. No such income was recognized
during the comparable period in 1997, as the Company did not begin
conducting business with FMAC until the third fiscal quarter of 1997.
Servicing Fees. The Company, which began it's third party loan servicing
operations in April 1998, generates servicing fees from the servicing of loan
portfolios. The fee is generally a percentage of the portfolio balance with a
minimum fee per loan serviced. Servicing fee revenue totaled $4.9 million in the
six month period ended June 30, 1998 compared to $0 in the comparable period in
1997.
Net Gain on Sale of Repossessed Collateral. In April 1998, the Company
purchased a pool of charged off loans from a third party. Future cash
collections are expected to come primarily from the repossession and sale of the
underlying collateral of the loans, and the amount and timing of such
collections cannot be reasonably estimated. Therefore, the Company is
recognizing revenue on the sale of the collateral using the cost-recovery
method. During the six month period ended June 30, 1998, the Company realized a
net gain on sale of repossessed collateral totaling $1.1 million compared to $0
in the comparable period in 1997.
Other Income. Other income generally represent revenues from services such
as periodic audits of borrowers and collateral monitoring and maintenance fees,
and loan commitment and processing fees. Other income increased from $0 in the
six month period ended June 30, 1997 to $123,000 in the six month period ended
June 30, 1998. This increase was due to the increase in finance receivables and
advances under the Dealer Collection and Asset Based Loan Programs,
respectively, from the comparable period in 1997.
Operating Expenses. Operating expenses consist of the provision for credit
losses, selling and marketing expenses, general and administrative expenses, and
depreciation and amortization.
Provision for Credit Losses. The provision for credit losses
increased from $0 in the six month period ended June 30, 1997 to $965,000
in the six month period ended June 30, 1998. This increase was due to the
increase in finance receivables and advances under the DCP and ABL
programs, respectively, from the comparable period in 1997.
General and Administrative Expenses. General and administrative
expenses increased by 793.0% during the six month period ended June 30,
1998 to $9.0 million from $1.0 million in the comparable period in 1997.
This increase was primarily due to overhead required to manage expansion of
the Cygnet Dealer Program, expansion of the Company's senior management
team, and costs of operating the bulk purchasing and loan servicing
businesses. In addition, during the six month period ended June 30, 1998,
pursuant to the Cygnet Dealer Program, the Company paid participating Third
Party Dealers loan servicing fees totaling $2.1 million.
Depreciation and Amortization. Depreciation and amortization expense
increased by 271.0% in the six month period ended June 30, 1998 to $230,000
from $62,000 for the comparable period in the prior year, due primarily to
depreciation of the Company's servicing platform and an increase in
amortization of goodwill related to the Company's acquisition of ANAC in
August 1997.
46
<PAGE> 48
Interest Expense. Interest expense increased from $37,000 in the six
month period ended June 30, 1997 to $1.7 million in the six month period
ended June 30, 1998. This increase was due to the increase in the carrying
costs of the assets under the Cygnet Dealer Program, as well as the
carrying cost of the Company's investment in the notes receivable and other
assets related to the FMAC transaction.
YEAR ENDED DECEMBER 31, 1997
Interest Income. Interest income consists of income recognized from the
Cygnet Dealer Program and FMAC transaction.
Cygnet Dealer Program. Interest income for this category during the
year ended December 31, 1997 totaled $3.7 million. This consisted of $3.2
million in interest income from finance receivables under the Dealer
Collection Program and $521,000 in interest income from notes receivable
under the Asset Based Loan Program. The effective average yield during
1997, net of loan servicing fees paid to Third Party Dealers, was 22.9% and
15.6% on the finance receivables and notes receivable portfolios,
respectively.
FMAC Transaction. Interest income from this category during the year
ended December 31, 1997 totaled $3.8 million. The Company recognized a
total of $3.6 million in interest income on the senior bank debt (the
"Senior Bank Debt") acquired from the FMAC bank group and $261,000 in
interest income on the "debtor-in-possession" financing made available to
FMAC (the "DIP Facility".) No future interest income will be realized on
the Senior Bank Debt, which was sold in the fourth quarter of 1997. See
"-- Transactions Regarding First Merchants Acceptance Corporation" below.
Gain on Sale of Notes Receivable. During the year ended December 31, 1997,
the Company acquired directly and indirectly 100% of FMAC's Senior Bank Debt. On
December 15, 1997, the bankruptcy court in the FMAC bankruptcy entered an order
approving a transfer, whereby the agent for the holders (at such time, the
Company) of the Senior Bank Debt credit bid this debt and purchased the
contracts which secured the debt (the "Owned Contracts"), and immediately sold
the Owned Contracts to a third party purchaser (the "Contract Purchaser"). The
Company recorded a one-time gain of approximately $8.1 million from this
transaction. See "-- Transactions Regarding First Merchants Acceptance
Corporation" below.
Other Income. Other income generally represent revenues from services such
as periodic audits of borrowers and collateral monitoring and maintenance fees,
and loan commitment and processing fees. Fee and other income totaled $355,000
during the year ended December 31, 1997.
Operating Expenses. Operating expenses consist of the provision for credit
losses, selling and marketing expenses, general and administrative expenses, and
depreciation and amortization.
Provision for Credit Losses. The provision for credit losses totaled
$691,000 for the year ended December 31, 1997. Of this amount, $200,000 was
allocated to the allowance for credit losses for notes receivable, with the
balance allocated to the allowance for credit losses for finance
receivables under DCP.
General and Administrative Expenses. General and administrative
expenses for the year ended December 31, 1997 totaled $3.8 million. The
largest component of general and administrative expenses was payroll and
benefits, which totaled $1.4 million, reflecting establishment of the
Company's management team and infrastructure to purchase finance
receivables and originate loans under its Cygnet Dealer Program as well as
the hiring of personnel to manage the bulk purchasing and loan servicing
business. In addition, pursuant to the Cygnet Dealer Program, the Company
paid participating Third Party Dealers loan servicing fees totaling $1.3
million.
Depreciation and Amortization. Depreciation and amortization consists
of depreciation and amortization on the Company's property and equipment
and amortization of the Company's goodwill. Depreciation and amortization
expense totaled $153,000 during 1997.
Interest Expense. Interest expense totaled $2.1 million in the year ended
December 31, 1997. Substantially all of the interest expense was incurred on the
loan that was carried back by the members of the FMAC senior bank group, which
financed 80% of the Company's purchase price related to the acquisition of
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<PAGE> 49
the Senior Bank Debt. Interest expense on this loan totaled $1.4 million during
the year ended December 31, 1997. This loan was paid in full in conjunction with
the sale of the Senior Bank Debt in December 1997.
Income Taxes. Income taxes totaled $3.7 million in 1997, which is an
effective corporate tax rate of approximately 40.2%.
FINANCE RECEIVABLES AND NOTES RECEIVABLE
During the six months ended June 30, 1998 and the year ended December 31,
1997, the Company purchased finance receivable contracts with a total principal
balance of approximately $24.4 million and $36.8 million, respectively.
A summary of the Company's finance receivables follows (in thousands):
<TABLE>
<CAPTION>
SIX MONTHS
ENDED YEAR ENDED
JUNE 30, 1998 DECEMBER 31, 1997
-------------- -----------------
<S> <C> <C>
Balance, Beginning of Period.................. $27,481 $ --
Purchases................................... 24,365 36,819
Principal Payments.......................... (6,293) (4,357)
Chargeoffs.................................. (1,281) (8)
Recourse to Seller.......................... (6,262) (4,973)
------- -------
Balance, End of Period........................ $38,010 $27,481
======= =======
</TABLE>
Finance receivables were comprised of the following as of June 30, 1998 and
December 31, 1997 (in thousands):
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1998 1997
-------- ------------
<S> <C> <C>
Finance Receivable Contract Principal Balances........ $38,010 $27,481
Add: Accrued Interest Receivable...................... 209 147
------- -------
Principal Balances, Net............................... 38,219 27,628
Allowance for Credit Losses......................... (1,202) (485)
Acquired Allowance.................................. (10,394) (7,706)
Refundable Security Deposits........................ (290) (163)
------- -------
Finance Receivables, net.............................. $26,333 $19,274
======= =======
</TABLE>
As of June 30, 1998 and December 31, 1997, the Company maintained notes
receivable with 10 and 12 Third Party Dealers, respectively. The total balance
of notes receivables with Third Party Dealers totaled $6.8 million and $5.8
million as of June 30, 1998 and December 31, 1997, respectively.
The Company has established an allowance for credit losses ("Allowance") to
cover anticipated credit losses on the finance receivables and notes receivable
currently in its portfolio. The Allowance has been established through
nonrefundable acquisition discounts ("Acquired Allowance") and a provision for
credit losses. The Allowance as a percentage of the principal amounts
outstanding on the finance receivables was 30.5% and 29.8% at June 30, 1998 and
December 31, 1997, respectively.
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<PAGE> 50
The following table reflects activity in the Allowance for the six months
ended June 30, 1998 and the year ended December 31, 1997 (dollar amounts in
thousands):
<TABLE>
<CAPTION>
SIX MONTHS ENDED YEAR ENDED
JUNE 30, 1998 DECEMBER 31, 1997
-------------------------- --------------------------
FINANCE NOTES FINANCE NOTES
RECEIVABLES RECEIVABLES RECEIVABLES RECEIVABLES
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Allowance Activity:
Balance, Beginning of
Period................... $ 8,191 $200 $ -- $ --
Provision for Credit
Losses................... 935 30 491 200
Acquired Allowance.......... 3,410 -- 7,706 --
Net Charge Offs............. (940) -- (6) --
------- ---- ------ ----
Balance, End of Period........ $11,596 $230 $8,191 $200
======= ==== ====== ====
Allowance as % of Period Ended
Principal Balance........... 30.5% 1.0% 29.8% 0.9%
======= ==== ====== ====
</TABLE>
The Company's policy is to charge off contracts when they are deemed
uncollectible. Generally, contracts delinquent for 90 days are considered
uncollectible and are charged-off. There is no allowance related to the FMAC
transactions as, in the opinion of management, all amounts due under advances to
FMAC are believed to be collectible. However, there can be no assurance that the
allowance will prove adequate.
The following table sets forth the percentage of the principal amount
outstanding of finance receivables in the Company's portfolio that were 30 to 44
days delinquent and over 44 days delinquent, as of June 30, 1998 and December
31, 1997, respectively:
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
DAYS DELINQUENT 1998 1997
- --------------- -------- ------------
<S> <C> <C>
30 to 44 days................................ 5.8% 8.0%
Over 44 days................................. 4.1% 5.3%
</TABLE>
LIQUIDITY AND CAPITAL RESOURCES
The Company requires capital to support lending activities under its Cygnet
Dealer Program, the purchase of bulk finance receivable portfolios, the purchase
of property and equipment, and for working capital and general corporate
purposes. The Company historically has funded its capital requirements through
equity contributions and advances by UDC and operating cash flow.
Cash Flows. The Company's Net Cash Provided by Operating Activities
totaled $6.7 million in the year ended 1997. Earnings of $5.5 million plus the
effect of the provision for credit losses and an increase in accrued expenses
and other liabilities offset deferred income taxes and cash used to purchase
other assets.
The Company's Net Cash Provided by Operating Activities increased by 687.3%
or $2.8 million to $2.4 million for the six month period ended June 30, 1998
from ($401,000) Used in Operating Activities for the six month period ended June
30, 1997. The increase was primarily due to a significant net loss for the six
month period ended June 30, 1997, the provision for credit losses, and an
increase in accrued expenses and other liabilities.
Net Cash Used in Investing Activities totaled $26.7 million in the year
ended 1997. The Company used cash to purchase finance receivables totaling $20.9
million, to make notes receivable advances aggregating $12.7 million, and to
fund the purchase of assets of $9.1 million. These uses were offset by the
collection of $9.3 million in finance receivables and the collection of $6.9
million in notes receivable.
The Net Cash Used in Investing Activities increased by 15.5% or $1.3
million to $9.6 million for the six month period ended June 30, 1998 from $8.3
million for the six month period ended June 30, 1997. The Company used cash for
the purchase of finance receivables totaling $17.2 million in the six month
period ended June 30, 1998, compared to the six month period ended June 30,
1997, when no such purchases took
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<PAGE> 51
place. Additionally, the Company used cash for notes receivable advances
aggregating $16.9 million in the six month period ended June 30, 1998 compared
to $8.8 million in the six month period ended June 30, 1997. These uses were
offset by the collections of finance receivables of $9.2 million and collections
of notes receivables of $15.7 million in the six month period ended June 30,
1998, as compared to $504,000 of collections in the six month period ended June
30, 1997.
Net Cash Provided by Financing Activities for 1997 was $21.2 million, all
of which was provided by UDC.
The Company's Net Cash Provided by Financing Activities decreased by 28.6%
or $2.5 million to $6.3 million for the six month period ended June 30, 1998
from $8.8 million for the six month period ended June 30, 1997, due to a net
decrease in financing provided by UDC.
Capital Expenditures and Commitments. The Company intends to pursue an
aggressive growth strategy. During 1997, the Company acquired substantially all
of the assets of ANAC for $9.1 million in cash. Further, the Company increased
its finance receivables and notes receivable portfolios by approximately $41.1
million during 1997. In addition, the Company expects to acquire certain
computer and telecommunication equipment with a cost of approximately $1.0
million with proceeds from the Rights Offering.
On July 11, 1997, the Company entered into an agreement to provide a DIP
Facility to FMAC in an amount up to $10 million. On March 31, 1998, the
effective date of FMAC's plan of reorganization, the DIP Facility was amended to
increase the maximum commitment to $21.5 million, subject to future adjustment
downward by an amount not to exceed $10 million. As of June 30, 1998, the
maximum commitment had been reduced to $12.4 million. The Company had advanced
$9.8 million against this commitment as of June 30, 1998.
The Company has secured a credit facility with a third party lender
pursuant to which the lender has provided the Company $5 million in the form of
subordinated debt. The debt bears interest at 12% per annum, payable quarterly
in arrears, with the principal balance and all accrued but unpaid interest
payable in full on the third anniversary of the initial funding date. The debt
is subordinated in right of payment to all existing and future debt of the
Company. The Company is also required to maintain a debt to tangible equity
ratio not greater than 3 to 1, calculated as of the end of each quarterly
period. As additional consideration for the subordinated debt, on the Effective
Date the Company is required to issue warrants to acquire 115,000 shares of
Common Stock, exercisable for a period of three years at an exercise price of
$8.40 per share, subject to a call feature by the Company if the closing price
of the Common Stock equals or exceeds $13.44 per share for a period of 20
consecutive trading days. The loan is guaranteed by UDC, although the Company
anticipates UDC's guarantee will be released on the Effective Date. The lender
also will be granted certain registration rights with respect to the shares of
the Common Stock underlying the warrants.
The Company intends to finance its future capital requirements through the
proceeds of the Rights Offering, operating cash flows and supplemental
borrowings. The Company believes that these sources will be adequate to support
its anticipated financial requirements at least through the end of 1998.
Industry Considerations. In recent periods, several major used car finance
companies have announced major downward adjustments to their financial
statements, violations of loan covenants, related litigation, and other events.
In addition, certain of these companies have filed for bankruptcy protection.
These announcements have had a disruptive effect on the market for securities of
sub-prime automobile finance companies, have resulted in a tightening of credit
to the sub-prime markets, and could lead to enhanced regulatory oversight. A
reduction in access to the capital markets or to credit sources could have a
material adverse affect on the Company.
Transactions Regarding First Merchants Acceptance Corporation. UDC was
actively involved in the FMAC bankruptcy proceedings. FMAC was in the business
of purchasing and securitizing loans made primarily to sub-prime borrowers by
various Third Party Dealers. In various transactions relating to the FMAC
bankruptcy proceedings and by and through the FMAC plan of reorganization, UDC,
among other things, (1) purchased the beneficial interest in the Senior Bank
Debt held by certain creditors of FMAC, participated in the sale of the
contracts securing such claims at a profit to a third party purchaser,
guaranteed
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<PAGE> 52
the purchaser a specified return on the contracts and obtained a related
guarantee from FMAC secured by, among other things, the stock of certain
entities holding residual interests and certain equity certificates in various
securitized loan pools of FMAC, and entered into servicing arrangements with
respect to such contracts; (2) made loans under the DIP Facility to FMAC, which
at July 1, 1998 carried a remaining maximum commitment of $12.4 million, of
which $9.8 million was outstanding on such date, and received interest income
therefrom; (3) entered into various servicing agreements with respect to
receivables in the securitized pools of FMAC; (4) obtained rights to receive
certain payments with respect to distributions on residual interests in such
securitized pools and obtained certain interests in charged off receivables in
such pools; (5) obtained rights to certain fees; (6) obtained the FMAC servicing
platform; and (7) issued certain warrants to purchase UDC Common Stock
consisting of (a) warrants issued to FMAC's bank group to purchase up to 389,800
shares of UDC's Common Stock at an exercise price of $20.00 per share at any
time through February 20, 2000, subject to a call feature by UDC if the closing
market price of UDC Common Stock equals or exceeds $27.00 per share for a period
of five consecutive trading days, and (b) warrants issued to FMAC to purchase
325,000 shares of UDC Common Stock at any time through April 1, 2001 at a price
of $20.00 per share, subject to a call feature by UDC if the closing market
price of the UDC Common Stock equals or exceeds $28.50 per share for a period of
10 consecutive trading days. UDC also contributed to FMAC all of its shares of
FMAC common stock as additional consideration for UDC's acquisition of the
assets constituting FMAC's servicing platform.
In connection with the Split-up, subject to receipt of any required
consents, UDC will transfer all of the rights and substantially all of the
liabilities related to the FMAC transaction accruing on or after the Effective
Date to the Company. However, UDC will remain liable with respect to certain
liabilities related to the FMAC transaction. For additional information
concerning the FMAC transaction and the rights and liabilities assumed by the
Company in connection with the Split-up, see "Business -- Bulk Purchase and
Servicing Operations -- Transactions Regarding First Merchants Acceptance
Corporation" and "Risk Factors -- Risks Relating to the Business -- Risks
Relating to the FMAC Transaction."
Transactions Regarding Reliance Acceptance Group. In February 1998, UDC
entered into receivables servicing and transition services arrangements with
Reliance, after Reliance had filed a voluntary petition for relief under Chapter
11 of the Bankruptcy Code the same month. Reliance confirmed its proposed plan
in open court on June 29, 1998. The bankruptcy court signed the order formally
confirming the plan on July 2, 1998. The effective date of the confirmed plan is
the close of business on July 31, 1998. Pursuant to the servicing agreement
entered into between UDC and Reliance (the "Servicing Agreement"), following the
effective date of Reliance's plan of reorganization, UDC will service certain
receivables of Reliance in exchange for (i) a monthly servicing fee of the
greater of four percent (4%) per annum of the aggregate outstanding principal
balance of all non-defaulted receivables computed monthly on the basis of the
declining balance of the receivables portfolio (consisting of Reliance's
portfolio of (A) prime receivables and (B) sub-prime receivables), or fifteen
dollars ($15.00) per receivable per month plus reimbursement of certain costs
and expenses; (ii) $1.3 million in proceeds realized from the sale of a pool of
charged-off receivables existing as of the Reliance petition date ("Charged-Off
Proceeds"); (iii) a total of (A) four percent (4%) of the outstanding principal
balance of each receivable (exclusive of defaulted and certain other
receivables) sold in any bulk sale to a person other than UDC or an affiliate of
UDC, and (B) $3.25 million in net collections, recovery, and sale proceeds from
the receivables portfolio and certain other cash receipts of Reliance reduced by
any amount previously paid under clause (A) above, following payment of
Reliance's primary bank debt and, if applicable, repayment to Reliance of any
proceeds of litigation, the Reliance Warrants (as defined below), and equity
proceeds used by Reliance to pay its primary bank debt ("Post-Bank Debt
Proceeds"); and (iv) following UDC's receipt of the Post-Bank Debt Proceeds,
fifteen percent (15%) of the net collections, recovery, and sale proceeds from
the receivables portfolio and certain other cash receipts of Reliance (the
"Incentive Fee"). Reliance, in consideration for entering into the Servicing
Agreement, will receive privately issued warrants ("Reliance Warrants") to
purchase shares of UDC Common Stock as follows: 50,000 Reliance Warrants will be
granted to Reliance upon UDC's receipt of the Charged-Off Proceeds; up to
100,000 Reliance Warrants will be granted to Reliance based upon UDC's receipt
of up to $3.25 million of Post-Bank Debt Proceeds; and Reliance will be granted
an additional 75,000 Reliance Warrants for every $1 million actually received by
UDC through the Incentive Fee. The Reliance Warrants will have a strike
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<PAGE> 53
price of $12.50 for the first 150,000 Reliance Warrants and a strike price for
all other Reliance Warrants of the greater of $12.50 or 120% of the market price
of UDC Common Stock on the date of issuance of the Reliance Warrants. The
Reliance Warrants will be exercisable as follows: (i) the first 50,000 Reliance
Warrants will be exercisable for three years from the Reliance Petition Date and
(ii) all remaining Reliance Warrants will be exercisable for three years from
their date of issuance.
On the effective date of the plan, UDC will purchase Reliance's furniture,
fixtures, and equipment, including computer software and hardware related
licenses for $250,000, and will have a period of sixty days to require Reliance
to assume and assign to UDC any of the leases or other contracts not previously
rejected by Reliance.
Subject to receipt of any required consents, UDC will transfer all contract
rights and substantially all liabilities related to the Reliance transaction to
the Company on the Effective Date. However, UDC will remain liable as to certain
obligations in the Reliance transaction. See "Business -- Bulk Purchase and
Servicing Operations -- Transactions Regarding Reliance Acceptance Group" and
"Risk Factors -- Risks Relating to the Business -- Risks Relating to the
Reliance Transaction."
THIRD PARTY CONSENTS
The Company has prepared or is in the process of preparing consents and has
contacted or is contacting various third parties to obtain such consents in
connection with the transactions contemplated by the Split-up and the Rights
Offering. Based on a review of existing contractual arrangements between various
third parties and either UDC or the Company, the Company believes that any
required consents will be obtained before the Annual Meeting of UDC's
shareholders, although there can be no assurance that all required consents will
be obtained by such date or at all.
YEAR 2000
The Company has performed a preliminary study (review and assessment) of
its computer systems and third parties' (e.g. vendors and customers) computer
systems in order to evaluate its exposure to Year 2000 issues. The Company
continues to plan and evaluate appropriate courses of corrective action,
including replacement of certain systems whose associated costs would be
recorded as assets and amortized, or modification of its existing systems, which
costs would be expensed as incurred. The Company expects to make the necessary
replacements, modifications or changes to its computer information systems to
enable proper processing of transactions relating to the Year 2000 and beyond.
The Company also has had discussions with certain of its vendors and customers
regarding actions to be taken to resolve any Year 2000 issues arising from the
Company's dependence on third parties' computer systems. The amount expensed by
the Company on Year 2000 issues to date has not been material. In addition, the
Company does not believe that the costs of modifying or replacing its computer
information systems to enable proper processing of transactions relating to the
Year 2000 and beyond will be material to its financial position or results of
operations. The Company believes, however, that resolution of all Year 2000
issues will be significant to the Company's business and operations and there
can be no assurance that the Company will be able to completely resolve all Year
2000 issues in a timely fashion or that the ultimate impact of the Year 2000
issues will not be material to the Company. Accordingly, failure to resolve Year
2000 issues in a timely fashion could have a material adverse effect on the
Company's business, financial condition, and results of operations. See "Risk
Factors -- Risks Relating to the Business -- Data Processing and Technology and
Year 2000."
As discussed herein, the Company is in the process of converting its loan
processing and collections systems to ACS, a third party service bureau that
processes transactions using Shaw Systems Associates, Inc. ("Shaw") software and
other products ("Shaw Products"). Shaw has certified to ACS that a significant
portion of the Shaw Products that ACS uses to process the Company's transactions
are Year 2000 compliant. Based upon a Shaw certification and a representation
from ACS to the Company, the Company believes that Shaw has also undertaken to
provide additional Year 2000 compliant Shaw Products to ACS as such systems
become compliant. ACS would then make available for the Company's processing of
transactions these additional Year 2000 compliant Shaw Products. The ACS
Agreement requires that the ACS systems
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<PAGE> 54
processing the Company's transaction be fully Year 2000 compliant by January 1,
1999. However, the Company's sole remedy if ACS does not comply with this
requirement is to terminate the ACS Agreement and convert to another system,
which would be costly and disruptive to operations and could have a material
adverse effect on the Company's business and operations. The Company's business
and operations also could be adversely affected if other entities (e.g., vendors
and customers) not affiliated with the Company do not appropriately address
their own Year 2000 compliance issues. Further, certain of the Company's own
applications are not Year 2000 compliant at this time.
INFLATION
Increases in inflation generally result in higher interest rates. Higher
interest rates on the Company's expected borrowings would decrease the
profitability of the Company's existing portfolio. The Company has sought to
limit this risk by (i) maintaining a portion of its investment portfolio in the
floating rate Asset Based Loan Program and (ii) limiting the maturity of finance
receivable contracts. If the Company's borrowing rates increase, then the
Company will seek to further limit the negative impact on earnings by increasing
the purchase discount at which the Company purchases finance receivables and/or
require higher stated annual percentage rates on finances receivables which are
purchased. To date, inflation has not had a significant impact on the Company's
operations.
ACCOUNTING MATTERS
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income" (SFAS
No. 130) which became effective for the Company on January 1, 1998. SFAS No. 130
establishes standards for reporting and displaying comprehensive income and its
components in a full set of general purpose financial statements. The Company
had no comprehensive income.
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures about Segments of an
Enterprise and Related Information" (SFAS No. 131), which became effective for
the Company on January 1, 1998. SFAS No. 131 establishes standards for the way
that public enterprises report information about operating segments in annual
financial statements and requires that those enterprises report selected
information about operating segments in interim reports issued to stockholders.
Management does not expect the adoption of SFAS No. 131 to have a material
impact on the Company's disclosures.
FORWARD LOOKING STATEMENTS
This Prospectus contains forward looking statements. Additional written or
oral forward looking statements may be made by the Company from time to time in
filings with the Securities and Exchange Commission or otherwise. Such
statements may include, but not be limited to, projections of revenues, income,
or loss, estimates of capital expenditures, plans for future operations,
products or services, and financing needs or plans, as well as assumptions
relating to the foregoing. The words "believe," "expect," "anticipate,"
"estimate," "project," and similar expressions identify forward looking
statements, which speak only as of the date the statement was made. Forward
looking statements are inherently subject to risks and uncertainties, some of
which cannot be predicted or quantified. Future events and actual results could
differ materially from those set forth in, contemplated by, or underlying the
forward looking statements. The Company undertakes no obligation to publicly
update or revise any forward looking statements, whether as a result of new
information, future events, or otherwise. The following disclosures, as well as
other statements in this Prospectus, including those contained in "Management's
Discussion and Analysis of Financial Condition and Results of Operations," and
in the Notes to the Company's Combined Financial Statements, describe factors,
among others, that could contribute to or cause such differences, or that could
affect the Company's stock price.
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<PAGE> 55
BUSINESS
GENERAL
Assuming successful completion of the Rights Offering and consummation of
the Split-up, the Company will engage in the business of providing various
financial services primarily to the sub-prime segment of the automobile
financing industry, which focuses on selling and financing the sale of new and
used cars to persons who have limited credit histories, low incomes, or past
credit problems ("Sub-Prime Borrowers"). The Company will (i) engage in the bulk
purchase and servicing of pools of finance receivables generated from the sale
of new and used automobiles by independent third party dealers ("Third Party
Dealers"), including pools of charged-off receivables, deficient loans, or other
receivables; (ii) service pools of various types of finance receivables; (iii)
operate a collateralized dealer financing program (the "Cygnet Dealer Program"),
pursuant to which it will provide qualified Third Party Dealers with warehouse
purchase facilities and revolving lines of credit primarily secured by the
dealers' finance receivable portfolios; and (iv) pursue other opportunities in
the financial services market.
In connection with the Split-up, the Company will acquire the bulk
purchasing and certain servicing operations and related assets from UDC and
substantially all of UDC's servicing and other rights and obligations pursuant
to transactions with First Merchants Acceptance Corporation ("FMAC") and
Reliance Acceptance Corporation ("Reliance"). The Company intends to consider
the bulk purchase and servicing of other portfolios of finance receivables,
including instances in which the holders of the portfolios are experiencing
financial difficulties. For a description of the Company's bulk purchase and
servicing operations and the Company's rights and obligations with respect to
the FMAC and Reliance transactions, see "Business-Bulk Purchasing and Servicing
Operations."
The Company also will acquire the operations and related assets associated
with the Cygnet Dealer Program, which provides qualified Third Party Dealers
with warehouse purchase facilities and revolving lines of credit primarily
secured by the dealers' finance receivable portfolios. Unlike other typical
financing programs available to dealers, the Cygnet Dealer Program permits
participating dealers to retain servicing rights with respect to their finance
receivable portfolios, which enables dealers to generate servicing income and
maintain relationships with their customers, which dealers believe is a key
factor in generating referrals for additional sales and improving the chances of
repeat business. For a description of the Cygnet Dealer Program, see
"Business -- Cygnet Dealer Program."
In late 1997, UDC, which operates the largest publicly-held chain of "buy
here-pay here" used car dealerships in the United States, began a strategic
evaluation of its operations, determining to separate its dealership operations
from its non-dealership operations pursuant to the Split-up. Cygnet is a
Delaware corporation formed in June 1998 to acquire and operate the
non-dealership operations of UDC and will, upon successful completion of the
Rights Offering and consummation of the Split-up, be a separately-traded public
company.
RECENT DEVELOPMENTS
The Company and UDC are in the process of evaluating a number of ordinary
course transactions and may identify and pursue other transactions that, if
consummated prior to the Split-up, would be assigned to, or concluded by, the
Company ("Interim Transactions"). In addition, Cygnet has recently closed two
Interim Transactions. The Company does not believe any of the Interim
Transactions recently concluded or currently under consideration are material to
its financial condition or results of operations, individually or in the
aggregate, or that any of such transactions would constitute the acquisition of
a business for which separate financial statements would be required to be
publicly disclosed by the Company. None of the transactions described below
requires shareholder approval of the Company or UDC, nor are any of such
transactions with an affiliate of the Company or UDC. The consummation of any of
these transactions currently under consideration is subject to a number of
contingencies, which may include the negotiation and preparation of definitive
agreements, completion of due diligence, and the receipt of required consents
from third parties. As a result, there can be no assurance that any of these
potential transactions will be completed by the Company.
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<PAGE> 56
To effect Interim Transactions, the Company may borrow money from a third
party lender ("Third Party Loans"), or from UDC ("Interim Company Loans"). Third
Party Loans made to the Company prior to the Effective Date may be guaranteed by
UDC, and the Company and UDC will seek to have any such guarantee released as of
the Effective Date, with the Company likely providing a replacement guarantee.
Interim Company Loans may become due and payable on the Effective Date.
Moreover, on the business day immediately preceding the Effective Date, the
Company will distribute to UDC all earnings accrued to such date. In addition,
the Company will pay to UDC on the Effective Date the excess, if any, of the
aggregate appraised value of the assets and rights and related liabilities
acquired by the Company in Interim Transactions (the "Interim Assets"), as of
the Effective Date, over the aggregate book value of the Interim Assets (the
"Interim Consideration"). UDC and the Company may agree to other terms with
respect to how Interim Transactions will be structured or treated if UDC
believes that such structure or treatment results in adequate consideration to
UDC at the time of the Split-up with respect to the Interim Assets. The purpose
for the payment by the Company to UDC of the Interim Consideration is to place
both parties as close as possible to the economic situation each would confront
if the Interim Transactions were effected by UDC rather than the Company.
Interim Transactions recently concluded include the following:
Servicing Agreement. On July 31, 1998, the Company closed a transaction
pursuant to which the Company will service a $50 million portfolio of automobile
finance receivables owned by a third party. The servicing agreement provides
that: (i) the Company will receive a servicing fee equal to the greater of 3.75%
of the outstanding principal balance or $17.50 for each contract in the
portfolio that is not a defaulted contract and 63.75% of all net collections and
proceeds on defaulted contracts, provided that if the net losses of the
portfolio do not exceed 7%, the Company will receive an additional servicing fee
of .25% on non-defaulted contracts, (ii) the Company will receive all late fees
and certain other fees and reimbursable expenses associated with the servicing;
and (iii) the servicing agreement can be terminated without cause upon payment
to the Company of 3 months of servicing fees. The Company also purchased all
assets utilized by the current owner in servicing the portfolio including
furniture, fixtures and equipment, for a purchase price of $500,000, and will
assume the existing lease of the service facility and all amounts due thereunder
from and after the closing date.
Until the Effective Date of the Split-up, UDC will provide subservicing of
the portfolio on the same terms as the servicing agreement described above.
Assumption of Special Servicing Agreements. On July 31, 1998, the Company
closed a transaction pursuant to which the Company will assume the obligations
of an existing special servicer of six pools of automobile finance receivables,
including four securitized pools. The Company will receive a monthly servicing
fee equal to the greater of 4% of the outstanding principal balance of each
contract or $14.00 per contract. The Company will also be paid certain incentive
fees, will be reimbursed for certain expenses, will be permitted to collect and
retain late fees, modification fees and extension fees, and will be indemnified
by the parent company of the existing special servicer for certain obligations
being assumed. During an interim period, which should not exceed 60 days, while
certain modifications are being made to the special servicing agreements to be
assumed by the Company and certain consents are being obtained, the Company will
act as special subservicer of the pools on the same terms as outlined above, but
will not be responsible for such indemnified obligations. If such modifications
are not effected or such consents obtained, the Company can be removed as
special subservicer following this interim period. The Company has agreed upon
the resignation or removal of the servicer of the pools to assume the
obligations of servicer for no additional compensation.
Until the Effective Date of the Split-up, UDC will provide subservicing of
these portfolios on the same terms as the servicing and related agreements.
The Company has also agreed to purchase the charged off receivables from
five of the pools for a purchase price of approximately $600,000.
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Interim Transactions under consideration include the following:
Insurance Agency. The Company is currently evaluating the acquisition of
or a management arrangement with an operating insurance agency, which offers
insurance-related products and services designed to reduce the risk of loss to
holders of portfolios of automobile finance receivables and residential mortgage
loans, including banks, savings and loan associations, finance companies, credit
unions, securitization participants and automobile dealers, among others. The
Company anticipates paying approximately $4 million for this business.
Charge-Offs. UDC is negotiating the purchase of a pool of charged-off
automobile finance receivables of approximately $33.3 million (as of February
28, 1998) for a purchase price based upon a formula. If purchased by UDC, the
pool would be transferred to the Company at the Effective Date.
Purchase of Bank Debt. The Company has agreed to purchase the interests of
a bank in a bank group credit facility. The purchased interest is 18% of the
approximately $48 million current outstanding principal balance of the facility
(or approximately $8.6 million). The purchase price for the interest equals
90.5% of the principal amount of the interest as of the closing date of the
purchase (expected to approximate $7.8 million). The purchase price will be paid
$3 million in cash, with the balance evidenced by a promissory note providing
for interest at a fixed rate based on LIBOR plus 150 basis points. This
promissory note will be guaranteed by UDC until the occurrence of both (i) the
Split-up and (ii) Cygnet having a total shareholders' equity of at least $50
million (which is expected to occur at the time of the Split-up). The credit
facility is secured by a pool of receivables and a residual interest in a
securitized pool of receivables.
Loan, Servicing Agreement and Investment. The Company is negotiating a
transaction in which the Company would make a loan to a third party entity
("Borrower") of $2 million (the "Loan") with interest payable at 12% per annum
and maturing on October 31, 1998; provided that if, prior to October 31, 1998,
Borrower either receives an equity investment from a third party of (i) not less
than $10 million or (ii) not less than $5 million and receives a loan of not
less than $5 million that is subordinate to the Loan and other existing credit
facilities of Borrower, then the maturity date of the Loan will be extended to
the second anniversary of the closing date of the Loan. The Loan is expected to
be secured by all of Borrower's assets, subject to a senior security interest
supporting Borrower's $35 million senior secured credit facility. In
consideration for the Loan, the Company would receive warrants to purchase up to
5% of Borrower's outstanding common stock as of the closing date exerciseable
for three years at an exercise price of $.01 per share. The Company would also
be granted certain additional investment rights in Borrower and would obtain the
right to service a portfolio of receivables for a fee equal to the greater of 4%
per annum of the outstanding principal balance of the receivables or $17.50 for
each contract in the portfolio, plus all collected late fees and modification
fees and reimbursement of costs and expenses. Borrower would have the right to
terminate the Company as servicer for cause or without cause after the later of
(i) six months after commencement of servicing and (ii) payment in full of the
Loan upon payment of a termination fee equal to three months servicing fees.
Until the Effective Date of the Split-up, UDC will provide subservicing of
the portfolio on the same terms as the servicing agreement described above.
OVERVIEW OF USED CAR FINANCE INDUSTRY
The automobile financing industry is the third-largest consumer finance
market in the country, after mortgage debt and credit card revolving debt. The
industry is served by such traditional lending sources as banks, savings and
loans, and captive finance subsidiaries of automobile manufacturers, as well as
by independent finance companies and "buy here-pay here" dealers. The Company's
servicing and financing services historically have been directed primarily to
the sub-prime segment of the market. The Company believes that traditional
providers of financing, servicing, and related services typically avoid this
market because of its high credit risk and the higher costs associated with
increased collection efforts.
Recently, a number of automobile financing companies have decided to exit
the market, sell a substantial portion of their receivables, or rely on an
outside servicer to service their portfolios. The primary factors for
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these changes in the market include the rapid growth and increased competition
in the sub-prime segment of the market, lowered underwriting standards,
increased credit losses, and a tightening of credit to participants in this
market. On the basis of its access to capital and experience in providing
financing and servicing to the sub-prime industry, the Company has taken
advantage of these market opportunities by bulk purchasing the loan receivables
in and servicing rights to certain large portfolios owned by FMAC and Reliance.
The Company intends to continue to pursue opportunities to purchase loan
portfolios in bulk and the servicing rights to those portfolios from companies
operating in the sub-prime automobile financing market.
Due to the risks involved in providing financing to the sub-prime segment
of the automobile financing industry, many independent used car dealers are
unable to obtain working capital from traditional lending sources such as banks,
credit unions, or major finance companies. These dealers typically finance their
operations through the sale of finance receivables at a substantial discount.
The Company believes that independent dealers prefer to finance their operations
through credit facilities that permit them to retain their receivables, which
enables such dealers to generate servicing income, and prefer to maintain their
relationships with their customers, which the Company, unlike traditional
providers of collateral financing, affords through its Cygnet Dealer Program.
Accordingly, the Company believes that there is a substantial opportunity for a
company capable of serving the needs of such dealers to make significant
penetration into this underdeveloped segment of the sub-prime market. The
Company's Cygnet Dealer Program is intended to fill this niche.
COMPETITIVE STRENGTHS AND BUSINESS STRATEGIES
The Company's goal is to become a leading provider of financing, servicing,
and other complementary services related to finance and other loan receivables,
particularly with respect to the sub-prime segment of the automobile financing
industry. In recent periods, the sub-prime automobile market has been
characterized by rapid growth and increased competition, which has led to
lowered underwriting standards, increased credit losses, and a tightening of
credit. The Company believes these conditions afford significant opportunities
for well-capitalized industry participants with experience in the bulk purchase,
servicing, and financing of receivables in this market segment.
The Company intends to pursue the following business strategies to achieve
its goal:
- Pursue Additional Bulk Purchasing and Servicing Opportunities. The
Company will leverage its financial strength, access to capital, and
experience in the industry to provide creative solutions to financing
companies that desire to sell their sub-prime portfolios in bulk or that
wish to outsource the servicing of their portfolios, including companies
that are experiencing financial difficulties. The Company plans to
continue to seek out opportunities such as its transactions with FMAC and
Reliance as described below.
- Expand the Cygnet Dealer Program. The Cygnet Dealer Program fulfills the
needs of buy here-pay here dealers by providing them working capital
while allowing them to retain their servicing rights and customer
relationships. The program enables the Company to earn finance income at
favorable rates through a diversified asset base. The Company intends to
expand this program in selected markets throughout the country, taking
advantage of the tightening of financing in the sub-prime market
generally.
- Pursue Opportunities to Provide Other Complementary Services. The
Company intends to pursue other opportunities to provide services that
complement its financing and servicing operations. The Company currently
is negotiating the acquisition of or a management arrangement with an
insurance agency that provides insurance-related products and services
designed to decrease the risk of loss to portfolios such as those the
Company currently owns and services. The Company believes that the
combination of its existing financing and servicing operations with other
complementary services will further enhance its ability to provide
turn-key solutions to independent used car dealers, financial
institutions, and other market participants.
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The Company believes it will possess the following competitive strengths
and intends to leverage these strengths to pursue its business strategies:
- Capitalized for Growth. Assuming the purchase of all of the Offered
Shares pursuant to the Rights Offering, the Company would have had, on a
pro forma basis on June 30, 1998, approximately $72.0 million (or $78.5
million if the Additional Purchase Right and the D&O Purchase Right are
exercised) in stockholders' equity to expand its operations following the
Rights Offering. The Company believes this level of equity will provide
it with the financial strength to take advantage of the opportunities
available in the sub-prime segment of the automobile financing industry
or other market opportunities identified by management.
- Established Track Record. The Company has significant experience in
handling large transactions involving companies operating in the
sub-prime vehicle financing industry. The Company intends to leverage the
experience it has gained in these transactions with additional bulk
purchases of pools of auto loan receivables and related servicing rights
from other market participants and others who desire to transfer these
operations to independent providers. The Company also has significant
experience in underwriting and purchasing sub-prime finance receivable
contracts and in providing credit facilities to independent dealers.
- Experienced Management. The Company's management has extensive
experience providing financing, servicing, and other complementary
services to third party participants in the sub-prime automobile market.
In addition, management has extensive experience in the car dealership
business. The Company intends to leverage its experience in the car
dealership, financing, and servicing businesses to continue to seek out
new opportunities through its bulk purchasing and servicing operations
and the Cygnet Dealer Program.
BULK PURCHASING AND SERVICING OPERATIONS
The Company will pursue opportunities to bulk purchase and acquire the
rights to service portfolios of finance receivables from third-party financing
companies, including companies that are experiencing financial difficulties. The
Company's current focus is on finance receivables in the sub-prime segment of
the vehicle financing market. The Company's access to capital, experience and
expertise in managing complex financial transactions involving distressed
companies, and approved servicing capabilities, particularly with respect to
loan receivables in the sub-prime vehicle financing market, enable the Company
to provide turn-key solutions to financial institutions that encounter
difficulties arising from the ownership and maintenance of large portfolios of
vehicle related loan receivables. As a result of the Company's experience in
managing and understanding the nature of the risks associated with holding and
servicing such portfolios, the Company is able to creatively structure
transactions in which it shares the risk associated with the portfolio in
exchange for a more substantial discount on the purchase price or an increased
share of the return from such portfolios arising from workout situations.
The Company maintains loan servicing facilities in Nashville, Tennessee,
Denver, Colorado and Dallas, Texas to support its bulk servicing operations. As
of May 31, 1998, these facilities employed approximately 260 employees, a number
that enables the Company to service large volumes of finance receivable
contracts. When the Company makes a bulk purchase, it typically employs the
collection personnel, system and software utilized by the existing servicer, and
migrates the collection processes to the Company's system as practicable.
The Company's collectors utilize collections software that provides the
Company with, among other things, up-to-date activity reports, allowing
immediate identification of customers whose accounts have become past due. In
accordance with the Company's policy, collections department personnel contact a
customer as soon as their account becomes delinquent to inquire as to the
reasons for such delinquency and to suggest ways in which the customer can
resolve the underlying problem, thereby enabling the customer to continue making
payments and retain the vehicle securing the finance receivable. The Company's
early detection of a customer's delinquent status, as well as its commitment to
work with borrowers, allows it to identify problems quickly, thereby reducing
the amount of credit losses incurred in the portfolios it services.
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If the Company's efforts to work with a customer are unsuccessful and the
customer becomes seriously delinquent, the Company will take the necessary steps
to protect the collateral securing the loan in default. Frequently, delinquent
customers will recognize their inability to honor their contractual obligations
and will work with the Company to coordinate "voluntary repossessions" of their
car. In the cases involving uncooperative customers the Company retains
independent firms to repossess the cars pursuant to prescribed legal procedures.
In recent periods, the Company has entered into several large servicing or
bulk purchasing transactions involving independent third party dealer finance
receivable portfolios and, in some cases, has sold or securitized these
portfolios, with servicing retained. The two most significant of such
transactions are described below.
Transactions Regarding First Merchants Acceptance Corporation. UDC was
actively involved in the bankruptcy proceedings of FMAC. On the Effective Date,
the Company will assume all rights and substantially all liabilities related to
the FMAC transaction accruing on or after the Effective Date from UDC, subject
to the consent of certain participants in the bankruptcy proceedings.
FMAC was in the business of purchasing and securitizing loans made
primarily to Sub-Prime Borrowers by various Third Party Dealers. On July 11,
1997 (the "FMAC Petition Date"), FMAC filed a voluntary petition for relief
under Title 11 of the United States Code (the "Bankruptcy Code"). FMAC emerged
from bankruptcy on March 31, 1998, the effective date of FMAC's plan of
reorganization (the "Plan of Reorganization").
During the pendency of the FMAC bankruptcy proceedings, UDC purchased
approximately 78% of FMAC's Senior Bank Debt held by seven members (the "Selling
Banks") of FMAC's original nine-member bank group for approximately $69 million,
which represented a discount of 10% of the outstanding principal amount of such
debt. In December 1997, UDC purchased the remaining 22% of FMAC's Senior Bank
Debt. The Senior Bank Debt was originally secured by (1) automobile receivables
directly owned by FMAC (the "Owned Contracts"), (2) all personal property of
FMAC, (3) accounts, accounts receivable, including tax refunds, contract rights
and other general intangibles, and (4) the common stock of FMARC and FMARC II
(defined below) (collectively, the "Collateral").
On December 15, 1997, LaSalle National Bank, as Agent (the "Agent") for
UDC, as the holder of the Senior Bank Debt, credit bid the entire amount of the
Senior Bank Debt plus certain interest and fees, costs and expenses relating to
the Owned Contracts (collectively, the "Credit Bid Purchase Price"), and the
United States Bankruptcy Court for the District of Delaware (the "Bankruptcy
Court") approved the proposed purchase subject to execution by FMAC of
appropriate transfer documents. On December 18, 1997, FMAC executed the
necessary transfer documents assigning the Owned Contracts to the Agent (the
"Transfer"), and the Agent then sold the Owned Contracts on behalf of UDC to a
third party purchaser (the "Contract Purchaser") for 86% of the principal
balance of certain eligible Owned Contracts (approximately $78.9 million) (the
"Base Price") plus a residual interest in the Owned Contracts. In connection
with this transfer, UDC guaranteed to the Contract Purchaser a net return on the
Owned Contracts equal to the Base Price plus interest at the rate of 10.35% per
annum (the "Guaranteed Return"), subject to a maximum guarantee amount of $10
million. As between the Company and UDC, the Company has agreed to assume the
liabilities with respect to this guarantee. UDC, however, will remain directly
liable on the guarantee to the Contract Purchaser (the "UDC Retained
Guarantee"). UDC has the option to purchase the Owned Contracts from the
Contract Purchaser at certain times upon certain events, including at any time
after three years and if the principal balance on the remaining contracts is
less than 10% of the balance of the Owned Contracts on the date of purchase and
certain other conditions are satisfied, for a price to yield the Contact
Purchaser the Guaranteed Return. UDC will assign this repurchase right to the
Company on the Effective Date of the Split-up.
Concurrently with the Transfer, the Agent released the lien of UDC on the
Collateral, allowing FMAC to retain all assets constituting any part of the
Collateral other than the Owned Contracts (the "Retained Assets"), including but
not limited to uncollected state and federal income tax refunds for 1996 and
prior years (the "Tax Refunds"), certain receivables and related vehicles
pledged to Greenwich Capital (the "Greenwich Collateral"), and FMAC's furniture,
fixtures, equipment, general intangibles, and causes of
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action. In consideration for UDC's release of its lien on the Retained Assets,
FMAC subsequently (A) guaranteed on a non-recourse basis full and timely payment
to UDC of any shortfall between (i) the Credit Bid Purchase Price of the Owned
Contracts plus interest thereon at the rate of 11% per annum from December 15,
1997, plus an additional charge for servicing the Owned Contracts (the "Owned
Contracts Servicing Fee"), calculated on a monthly basis, of the greater of
1/12 of 3 1/4% of the outstanding principal balance of the Owned Contracts or
$15.00 per Owned Contract, applied only to Owned Contracts that are less than
120 days past due and for which the related vehicle has not been repossessed and
(ii) collections and proceeds (subject to certain limitations) with respect to
the Owned Contracts (collectively, the "Secured Claim Recovery Amount"), and (B)
granted a lien (the "Replacement Lien") to the Agent for the benefit of UDC on
the issued and outstanding stock of First Merchants Auto Receivables Corporation
("FMARC") and First Merchants Auto Receivables Corporation II ("FMARC II"), the
holders of the residual interests and certain equity certificates (collectively,
the "B Pieces") of the various securitized loan pools ("Securitized Pools") of
FMAC, to secure the Secured Claim Recovery Amount and the Modified UDC Fee
(defined below). The Replacement Lien is not a first priority lien and is junior
to a lien in favor of Greenwich Capital with respect to certain obligations of
FMAC to Greenwich Capital and UDC with respect to the DIP Facility. In the event
that the Owned Contracts are not being serviced by UDC, a wholly-owned
subsidiary of UDC or another affiliate or assignee of UDC that meets certain
qualifications and conditions (an "Authorized Servicer"), without the prior
written consent of FMAC (an "Owned Loan Servicing Change"), which consent will
not be unreasonably withheld, the Secured Claim Recovery Amount will be limited
to $10 million. Following the Split-up, UDC's rights described herein with
respect to FMAC's non-recourse guarantee of the Secured Claim Recovery Amount
and in the Replacement Lien will be assigned to the Company. The Company will
also begin servicing the Owned Contracts, subject to the consent of the Contract
Purchaser. The Company believes that it will qualify as an Authorized Servicer,
and therefore, FMAC's consent will not be required to avoid an Owned Loan
Servicing Charge.
Any recovery on the Owned Contracts in excess of the Secured Claim Recovery
Amount will be shared with FMAC on the basis of 82.5% for the benefit of FMAC
and 17 1/2% for the benefit of UDC (the "Excess Collections Split"). After
payment in full of the Secured Claim Recovery Amount, the DIP Facility, the
Modified UDC Fee (defined below), and certain other amounts, any further
distributions from the B Pieces will be shared between FMAC and UDC on the same
basis as the Excess Collections Split. In the event that an Owned Loan Servicing
Change occurs, the Excess Collections Split will change to 85% for the benefit
of FMAC and 15% to UDC with respect to the B Pieces and, subject to certain
adjustments, 100% for the benefit of FMAC and 0% to UDC with respect to the
Owned Contracts. UDC will not be entitled to receive any share of the Excess
Collections Split relating to a Securitized Pool for any period during which it
is not acting as servicer for such Securitized Pool. In addition, UDC has agreed
in a contingent sharing agreement to pay 10% of the Excess Collections Split
received by UDC to Financial Security Assurance ("FSA"), the insurer of certain
obligations to the holders of the senior certificates representing interests in
the Securitized Pools, in exchange for FSA's consent to amendments to documents
governing servicing of the Securitized Pools as described below. All of UDC's
rights and the Excess Collections Split and the obligations with respect thereto
under the Contingent Sharing Agreement with FSA will be assigned to the Company
on the Effective Date of the Split-up.
At the option of UDC, UDC may distribute shares of UDC Common Stock (the
"Stock Option Shares") to FMAC or, at the request of FMAC and pursuant to its
instructions, directly to the unsecured creditors of FMAC, in lieu of FMAC's
right to receive all or a portion of distributions under the Excess Collections
Split (including both recoveries under the Excess Collections Split from the
Owned Contracts and the B Pieces) in cash (the "Stock Option"). If UDC decides
to exercise the Stock Option, UDC must give FMAC at least 15 days advance
written notice (the "Option Notice") (and make a public announcement on the same
date as the giving of the notice) of the date on which UDC will exercise the
Stock Option (the "Exercise Date") and the number of Stock Option Shares that
UDC will issue on the Exercise Date. The number of shares of UDC Common Stock to
be issued will be based on the trading range of the shares prior to the exercise
date. In this regard, the Stock Option Shares would be valued at 98% of the
average of the closing prices for the previous 10 trading days of UDC Common
Stock on Nasdaq or such other market on which such stock may be traded (the
"Stock Option Value"). Pursuant to the Capitalization Agreement, the
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Company will be required to give notice to UDC at least a stated number of days
prior to the date when cash distributions of the Excess Cash Split to FMAC are
likely to begin and the Company's estimate of the amount and timing of such
distributions. If UDC issues the Stock Option Shares, the Company will be
required to pay over to UDC all of FMAC's share of cash distributions under the
Excess Collections Split up to the Stock Option Value.
At the commencement of FMAC's bankruptcy case, UDC agreed to provide a DIP
Facility to FMAC of up to $10 million. Borrowings under the DIP Facility
originally were to mature on February 28, 1998 and accrue interest at the rate
of 12% per annum. The DIP Facility was originally secured by super priority
liens on all of FMAC's assets then existing or thereafter acquired. The DIP
Facility was subsequently amended to provide for (i) additional advances to pay
administrative and post-plan confirmation operating expenses of FMAC, provided
that total advances under the DIP Facility could not exceed $21.5 million, (ii)
security in the form of the Retained Assets, including the Tax Refunds, (iii) a
reduction in the interest rate on borrowings outstanding under the DIP Facility
to 10% per annum; and (iv) a waiver of the February 28, 1998 maturity date of
the DIP Facility. The first $10 million of Tax Refunds was to be used to pay
down the DIP Facility and permanently reduced the amount of the DIP Facility. To
date, approximately $9.1 million of Tax Refunds have been used to pay down the
DIP Facility and the maximum amount available to be borrowed has been reduced
from $21.5 million to $12.4 million. After application of the Tax Refunds, the
DIP Facility will be permanently paid down from distributions on the B Pieces,
after payment of the Secured Claim Recovery Amount. Payments made from other
sources on the DIP Facility will not permanently reduce the amount thereof and
FMAC will be allowed to reborrow such amounts under the DIP Facility. Following
the Split-up, the Company will assume all of UDC's rights and liabilities with
respect to the DIP Facility and in the Tax Refunds and other collateral securing
the same. UDC, however, will remain directly liable on the DIP Facility.
The increase in the DIP Facility to $21.5 million was agreed to in exchange
for an agreement by the parties involved, among other things, to assign to UDC
the receivables in the Securitized Pools that were charged off prior to February
28, 1998. Pursuant to that agreement, UDC is entitled to retain a servicing fee
of 27.5% of every dollar collected on the charged off receivables. The remaining
72.5% out of every dollar collected will be accumulated in an interest bearing
escrow account ("Charged Off Receivable Funds"). The Charged Off Receivable
Funds will be held in the escrow account until an amount equal to the purchase
price, which was equal to one percent of the remaining principal amount of all
receivables charged off prior to or on November 30, 1997, and two percent of the
remaining principal amount of all receivables charged off from December 1, 1997
to and including February 28, 1998, has been deposited to the escrow account at
which time such amount shall be allocated and paid to Securitized Pools from
which the receivables were transferred and, thereafter if the securitized pools
have inadequate funds to satisfy certain payments and distributions with respect
to the senior certificates issued with respect to such pools, then future
deposits to the escrow account shall be withdrawn to satisfy such payments and
distributions. When the aggregate of the spread accounts in the Securitized
Pools reaches a certain coverage (the "Coverage Point"), to the extent
available, all monies previously transferred to the escrow account to satisfy
such payments and distributions will be deposited back into the escrow account
and the Charged Off Receivable Funds will be released from the escrow account
and paid to the Company. Any additional collections with respect to charged-off
receivables relating to a Securitized Pool that has reached the Coverage Point
would be retained by the Company. Following the Split-up, all rights and
obligations with respect to the Charged Off Receivable Funds will be assigned to
the Company.
FMAC has guaranteed to pay UDC $450,000 on a non-recourse basis prior to
any payments pursuant to the Excess Collections Split solely from collections of
the B Pieces, which obligation is secured by a pledge of the stock of FMARC and
FMARC II, subordinate only to the DIP Facility, the Secured Claim Recovery
Amount and prior pledges of the FMARC II stock (the "Modified UDC Fee").
Following the Split-up, the right to receive the Modified UDC Fee will be
assigned to the Company.
UDC entered into a Servicing Agreement dated December 18, 1997 (the "Owned
Contracts Servicing Agreement") between UDC and the Contract Purchaser, pursuant
to which the Owned Contracts would be serviced by UDC in the event that FMAC
ceased to service the Owned Contracts. UDC began servicing the
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Owned Contracts on April 1, 1998, and therefore is entitled to receive a
servicing fee under the Owned Contracts Servicing Agreement. On April 1, 1998,
UDC also entered into amendment(s) with FMAC and other parties to the existing
Pooling and Servicing Agreements and Sale and Servicing Agreements that
currently govern servicing of the receivables in the securitized pools of FMAC,
which amendments provide for UDC to service the receivables in such securitized
pools beginning April 1, 1998. Under these agreements, UDC will receive a
servicing fee equal to the greater of (i) 3.25% per annum of the aggregate
outstanding principal balance of the non-defaulted receivables computed monthly
on the basis of the declining balance of the receivables portfolio or (ii) $15
per receivable per month, plus, in either case, reimbursement of certain costs
and expenses. The Company's right to receive such servicing fee and
reimbursement will be in part contingent on the past and future collections on
each Securitized Pool and the monies available in the applicable spread account
of each such Securitized Pool. All rights and obligations under the Owned
Contracts Servicing Agreement, subject to the consent of the contract purchaser,
and with respect to servicing the arrangements on the Securitized Pools, subject
to the consent of FSA, will be assigned to the Company following the Split-up.
On March 31, 1998, UDC contributed to FMAC all of its shares of FMAC common
stock as additional consideration for UDC's acquisition of the furniture,
leasehold improvements and equipment constituting FMAC's servicing platform.
Following the Split-up, the FMAC servicing platform will be transferred to the
Company.
Following the Split-up, all of UDC's rights and substantially all of UDC's
obligations in connection with the FMAC transaction accruing on or after the
Effective Date will be assigned to the Company, except as described above.
Transactions Regarding Reliance Acceptance Group. On February 9, 1998, UDC
announced that it had agreed to enter into servicing and transition servicing
arrangements with Reliance. Reliance filed a voluntary petition for relief under
Chapter 11 of the Bankruptcy Code on February 9, 1998. Reliance confirmed its
proposed plan in open court on June 29, 1998. The bankruptcy court signed the
order formally confirming the plan on July 2, 1998. The effective date of the
plan confirmed plan is the close of business on July 31, 1998. Reliance is a
national specialty finance company, primarily engaged in the business of
purchasing and servicing finance receivables for the purchase of new or used
automobiles, trucks, vans and sport utility vehicles by Sub-Prime Borrowers.
Pursuant to a servicing agreement entered into between UDC and Reliance
(the "Servicing Agreement"), as amended, on the effective date of the plan, UDC
will begin servicing certain receivables of Reliance in exchange for (i) a
monthly servicing fee of the greater of 4% per annum of the aggregate
outstanding principal balance of all non-defaulted receivables computed monthly
on the basis of the declining balance of the receivables portfolio (consisting
of Reliance's portfolio of (A) prime receivables and (B) sub-prime receivables),
or $15 per receivable per month plus reimbursement of certain costs and
expenses; (ii) $1.3 million in proceeds realized from the sale of a pool of
charged off receivables existing as of the Reliance Petition Date ("Charged-Off
Proceeds"); (iii) a total of (A) 4% of the outstanding principal balance of each
receivable (exclusive of defaulted and certain other receivables) sold in any
bulk sale to a person other than UDC or an affiliate of UDC, and (B) $3.25
million in net collections, recovery and sale proceeds from the receivables
portfolio and certain other cash receipts of Reliance reduced by any amount
previously paid under clause (A) above, following payment of Reliance's primary
bank debt and, if applicable, repayment to Reliance of any proceeds of
litigation, the Reliance Warrants (as defined below) and equity proceeds used by
Reliance to pay its primary bank debt ("Post-Bank Debt Proceeds"); and (iv)
following the Company's receipt of the Post-Bank Debt Proceeds, 15% of the net
collections, recovery and sale proceeds from the receivables portfolio and
certain other cash receipts of Reliance (the "Incentive Fee"). Reliance, in
consideration for entering into the Servicing Agreement, will receive privately
issued warrants (the "Reliance Warrants") to purchase shares of UDC Common Stock
as follows: 50,000 Reliance Warrants will be granted to Reliance upon the
Company's receipt of the Charged-Off Proceeds; up to 100,000 Reliance Warrants
will be granted to Reliance based upon the Company's receipt of up to $3.25
million of Post-Bank Debt Proceeds; and Reliance will be granted an additional
75,000 Reliance Warrants for every $1 million actually received by the Company
through the Incentive Fee. The Reliance Warrants have an exercise price of
$12.50 per share for
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the first 150,000 Reliance Warrants and an exercise price for all other Reliance
Warrants of the greater of $12.50 or 120% of the market price of the UDC Common
Stock on the date of issuance of the Reliance Warrants. The Reliance Warrants
will be exercisable as follows: (i) the first 50,000 Reliance Warrants will be
exercisable for three years from the Reliance Petition Date; and (ii) all
remaining Reliance Warrants will be exercisable for three years from their
respective dates of issuance. The Servicing Agreement has not yet been approved
by the Bankruptcy Court. The Company has agreed to pay to UDC consideration upon
the issuance of each Reliance Warrant equal to the fair value of the Reliance
Warrants (as determined by UDC for financial reporting purposes) on their date
of issuance.
Following the Split-up, all of UDC's rights and substantially all of UDC's
obligations in connection with the Reliance transaction accruing on or after the
Effective Date will be assigned to the Company, except that the Reliance
Warrants will be issued from time to time as required by UDC.
There can be no assurance that the Reliance transaction will be concluded
on the terms and conditions outlined above or at all, or if concluded, that such
transaction will prove profitable to the Company.
CYGNET DEALER PROGRAM
The Company believes that many independent used car dealers have difficulty
obtaining traditional working capital and, as a result, are forced to sell the
finance receivables that they originate from used car sales at significant
discounts in order to obtain the working capital necessary to operate their
businesses. In addition, most financing programs available to independent used
car dealers lessen or terminate the customer relationship between the dealer and
the buyer of the used car, which dealers would otherwise maintain in order to
generate referrals and/or repeat business. To capitalize on this opportunity,
the Company initiated the Cygnet Dealer Program, pursuant to which the Company
provides qualified dealers with warehouse purchase facilities and revolving
lines of credit primarily secured by the dealers' finance receivable portfolios.
Under both of these credit facilities, the dealer remains responsible for
collection of finance receivable payments and retains control of the customer
relationship. The credit facilities are for specified amounts and are subject to
various collateral coverage ratios, maximum advance rates, and performance
measurements depending on the financial condition of the dealer and the quality
of the finance receivables originated. As a condition to providing such
financing, each dealer is required to report its collection activities to the
Company on a daily basis and provide the Company with periodic financial
statements. In addition, the Company has initiated an internal audit program
whereby dealers are audited by its internal audit department on a periodic
basis. The goal of these controls is to allow the Company's account officers,
who oversee the operations of each dealer participating in the program, to
better ensure dealer compliance with program covenants and determine the
appropriateness of continued funding under the credit facilities.
The Company believes that the Cygnet Dealer Program fulfills the need of
independent used car dealers for working capital to expand their businesses
while enabling the Company to earn finance income at favorable rates and
diversify its earning asset base. The Company began full-scale marketing of the
program during the first quarter of 1997. As of March 31, 1998, the Company had
lending relationships with a total of 43 independent dealers with advances
totaling approximately $31 million.
Targeted Dealers. The Company provides credit facilities to qualified "buy
here-pay here" dealers primarily throughout the southeastern and western U.S.
through the Cygnet Dealer Program. To qualify for the Cygnet Dealer Program, a
dealer must generally meet the following minimum requirements:
- Monthly sales of at least 25 cars.
- Established management with "buy here-pay here" experience.
- Net worth of at least $150,000 to qualify for the Dealer Collection
Program and at least $500,000 for the Asset Based Loan Program.
- Computerized inventory, receivable and collection system.
- Satisfactory inventory and facilities.
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The Company's strategy is to establish active relationships with a select
group of qualified dealers to which it is a primary source of funding for their
finance receivables. The Company currently has made advances to dealers in 14
states, and intends to expand its operations in selected markets throughout the
country.
The independent dealer financing industry consists of a number of national
and regional finance companies, plus certain institutional lenders, that
typically fund finance receivables on behalf of dealers based upon either
"collection" or "point of sale" programs. Pursuant to the "collection" program,
the dealer submits finance receivables to a finance company for collection and
the dealer is advanced a portion of the finance receivables stream of payments
as an advance, which is non-recourse to the dealer. These finance receivables
are then placed into a pool for collection. The finance company performs all of
the collection activity on these accounts and retains 20% of each dollar
collected as a servicing fee. The remaining 80% of each dollar collected is paid
to the finance company until the up-front advance to the dealer plus accrued
interest is paid in full. If and when the advance to the dealer plus accrued
interest is paid in full, then 80% of the remaining payments collected are
remitted back to the dealer. Under the "point of sale" program, the dealer
submits credit applications to the finance company, and upon approval, the
finance receivable is forwarded to the finance company for funding. Finance
companies may or may not provide financing depending on their own internal
underwriting guidelines. Assuming financing is approved, finance receivables
typically are purchased at a discount with the finance company assuming all
responsibility for collection and servicing. The Company believes that its
Dealer Collection and Asset Based Loan Programs are preferred by many dealers
because they allow the dealers, rather than the finance company, to control
collection activity and thus allow the dealers to retain servicing income and
maintain the relationship with the purchaser of the automobile, which is
important for customer referrals and repeat business.
Dealer Collection Program. The Dealer Collection Program is the Company's
primary program offered to independent dealers. Pursuant to this program, the
Company purchases finance receivables from a qualified dealer on a full recourse
basis. The dealer remains responsible for the collection of the contract
payments and retains control of the customer relationship. The Company typically
purchases finance receivable contracts at 65% to 75% of the principal balance
subject to a maximum of 170% of the Kelly Blue Book wholesale price. All cash
collections, including regular monthly payments, payoffs and repurchases, are
deposited directly by the dealer into a bank account maintained by the Company.
The Company retains all regular monthly cash payments and payoffs, subject to
the payment of a servicing fee to the dealer generally equal to 20% to 25% of
the regular monthly cash payments collected, payable on the 10th day following
the month of collection. Finance receivables must have a minimum annual
percentage rate of 21% or the maximum allowed by applicable state usury law. If
the interest rate of finance receivables is less than 21%, then the purchase
price is lowered to increase the effective yield to the Company.
Generally, each dealer pays a nonrefundable initial audit fee plus a
processing fee per contract or provides a security deposit. The dealer is
required to repurchase all finance receivable contracts that are 45 days
delinquent at a price equal to the original purchase percentage multiplied by
the outstanding principal balance plus accrued and unpaid interest on that
contract. The Dealer Collection Program is full recourse to the dealer and
typically includes personal guarantees by the principal owners of the
dealership.
Asset Based Loan Program. The Company also provides the Asset Based Loan
Program to dealers pursuant to which the Company provides to qualified dealers a
secured revolving line of credit. Pursuant to the Asset Based Loan Program, the
Company advances to qualified dealers, on a full recourse basis, up to 65% of
the principal amount of finance receivables subject to a maximum of 170% of the
Kelly Blue Book wholesale price of the underlying collateral. The Company also
charges an annual commitment fee of 1% to 2% of the available line and interest
on any amounts outstanding at the rate of prime plus 5% to 9%. In addition, each
dealer generally pays a nonrefundable initial audit fee plus a processing fee
per contract.
Under the Asset Based Loan Program, the dealer is responsible for
collection of contract payments and maintaining the customer relationship. All
cash collections, including regular monthly payments, payoffs and repurchases,
are deposited directly into a bank account maintained by the Company. Finance
receivables that are 45 days delinquent are deemed to be ineligible collateral
and are excluded from the calculation of the
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amount available under the line of credit. If the exclusion of ineligible
collateral causes the line to become over funded, then the dealer must either
pay down the line or assign additional qualifying finance receivables to the
Company. Each line of credit provides for full recourse to the dealer, typically
with full guarantees by the principal owners of the dealership.
In certain instances when a dealer reaches the maximum commitment amount
under the credit facility, the Company will consider purchasing the finance
receivables from the dealer as part of the overall lending relationship. In such
event, the Company typically purchases the finance receivables for an amount
equal to between 70% to 85% of the net principal balance depending on the
interest rates on the finance receivables, the seasoning of the finance
receivables, and the extent of limited recourse to the dealer.
Qualification Process and Underwriting Guidelines. Each dealer that wishes
to qualify to participate in the Cygnet Dealer Program must provide a fully
completed application form and supporting documentation, including financial
statements, tax returns, contract receivable aging reports, and vehicle
inventory reports, among others. After review of the application form and
supporting documentation, assuming compliance with the Company's minimum
requirements, a proposal letter is sent to the dealer outlining the proposed
terms of the financing program. To participate in the program, the dealer then
must sign and deliver the proposal letter to the Company, together with a
non-refundable deposit of $2,500, after which an initial on-site audit is
performed by the Company's internal audit department. The audit consists of
reviewing and testing payments, inventory, down payments, repos/charge-offs,
systems, collections/servicing, and financial statements. In addition, a member
of the Company's Internal Credit Review Committee typically will visit the
dealer and meet with its owners and key personnel to review its operations.
Following the initial on-site audit, a formal written audit report is prepared
and presented to the Company's Internal Credit Review Committee for approval. A
unanimous vote of this committee is required for approval. After approval has
been received, the Company prepares legal documents, which must be signed and
delivered by the dealer prior to participating in the program.
Each dealer participant in the Cygnet Dealer Program must follow certain
guidelines with respect to originating finance receivables. These guidelines
include customer-related guidelines that focus on the customer's stability,
ability to pay, and willingness to pay, and term, vehicle and rate related
guidelines that deal specifically with the minimum requirements for the car's
mileage as related to the term of finance receivables, and the minimum annual
percentage rate of the finance receivables. Each dealer is required to package
originated finance receivables in accordance with guidelines established by the
Company, which require the dealer to provide certain documentation identified on
a checklist from each borrower. The dealer then sends the finance receivable
packages to the Company's processing center where the contents are reviewed to
ensure compliance with the Company's guidelines. After verification of certain
information by the Company's personnel, the information with respect to each
file is keyed into the Company's loan processing system. Typically, the time
from receipt of the finance receivable packages to actual funding takes from 48
to 72 hours.
The Company follows a variety of procedures to limit losses from defaults
under the Dealer Collection and Asset Based Loan Programs. Prior to making an
advance under one of its programs, the Company performs an initial review and
audit of each dealer, verifies finance receivables before funding (which
verification may include an interview of the borrower, verification of the
borrower's employment, residence, and a reference) to ensure compliance with
Cygnet Dealer Program credit guidelines, and obtains agreements and personal
guarantees from the dealer and its owners that provide a variety of remedies to
the Company in case of a default. After an advance has been made, the Company
maintains a loan tracking system that monitors collection activities by the
dealer and keeps track of delinquencies, collections, repurchases and quality of
finance receivables, conducts on-site audits of each dealer at least
semiannually, reviews dealer financial statements on a quarterly basis and, if
advances exceed $2.5 million for a single dealer, requires annual audits to be
performed by an independent certified public accounting firm. In the event of
default by a dealer, the Company is capable of assuming all collection efforts
with respect to the dealer's portfolio. In anticipation of such event, the
Company maintains updated computerized records on all finance receivables and
has the infrastructure in place to directly perform collections with respect to
the portfolio. The Company also may pursue other remedies involving the pursuit
of additional collateral, providing assistance to a dealer
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with respect to the collection of payments and workout related items, and
pursuing personal guarantees of the owners.
PURSUIT OF OPPORTUNITIES IN INSURANCE MARKET
The finance receivables that the Company purchases in bulk generally
require borrowers to obtain casualty insurance within 30 days of their vehicle
purchase. While all borrowers are free to obtain such coverage from an insurer
of their choice, if a borrower fails to obtain the required coverage, the
Company may purchase a policy on the borrower's behalf and charge back to the
customer the cost of the premiums and fees associated with such policy.
To facilitate its ability to force place mandated insurance coverage, and
to provide continual monitoring of the primary insurance status of each loan
within the Company's portfolio, the Company recently began negotiating the
acquisition of or a management agreement with an insurance agency that offers
insurance-related products and services primarily to holders of large portfolios
of vehicle and residential mortgage loans, including banks, savings and loan
associations, finance companies, credit unions, and automobile dealers, among
others. The Company anticipates that this transaction, if completed, would
enable the Company to more effectively manage the risk of loss related to its
portfolios of loan receivables and offer more a comprehensive set of products
and services to financial institutions and independent used car dealers
participating in the sub-prime segment of the automobile financing industry.
SERVICING SYSTEMS AND SOFTWARE
In its bulk purchase and servicing operations, the Company currently uses a
third party service bureau to process loan collection information. The agreement
with this service bureau expires at the end of December 1998, although the
Company may extend this arrangement on a month-to-month basis at increasing
rates. The Company has entered into an agreement with a new third party service
bureau, Affiliated Computer Services, Inc. ("ACS"), and expects to convert its
loan processing and collection systems by year-end 1998. The Company anticipates
that this service bureau will provide enhanced collection support. ACS will also
provide disaster recovery and Year 2000 compliance services. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations -- Year
2000."
In its Cygnet Dealer Program, the Company currently utilizes a proprietary
loan collection system. Pursuant to this system, the Company inputs data on each
finance receivable independently of, but consistently with each dealer's system
in order to effectively monitor portfolio performance. The Company recently
signed a separate agreement with ACS to process the Cygnet Dealer Program. Due
to the unique characteristics of the Cygnet Dealer Program, ACS will make a
number of custom software enhancements to enable the program to run on the ACS
system. The custom software changes and conversion from the Company's in-house
system to ACS is scheduled for completion prior to year end 1998. In addition to
the ACS system, the Company is developing a custom loan underwriting and funding
software module that will also serve as an interface between the individual
dealers' systems and the ACS system. During 1999, the Company intends to migrate
the dealers from their separate, stand alone loan systems to the ACS system for
purposes of loan servicing and collections. Upon full implementation of the ACS
system, dealers will be able to enter transactions directly into the loan
system, eliminating the redundancy of Company input. This system will provide
the Company with real time access to information regarding each dealer's finance
receivable portfolio and allow the Company to audit more closely the activities
of each dealer. In addition, this system will enable the Company to promptly
assume servicing from dealers that go into default to help preserve the
Company's investment. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Year 2000."
COMPETITION
The markets in which the Company competes are highly competitive. With
respect to its Cygnet Dealer Program and bulk purchasing and servicing
operations, the Company competes with a variety of finance companies, financial
institutions, and providers of financial services, many of whom have
significantly greater
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resources, including access to lower priced capital. In addition, there are
numerous financial services companies serving, or capable of serving, these
markets. While traditional financial institutions, such as commercial banks,
savings and loans, credit unions, and captive finance companies of major
automobile manufacturers, have not consistently served the sub-prime markets,
the yields earned by companies involved in sub-prime financing have encouraged
certain of these traditional institutions to enter, or contemplate entering,
these markets. Increased competition may adversely affect the rates earned under
the Cygnet Dealer Program and the Company's yields and fees under its bulk
purchasing and servicing arrangements.
REGULATION, SUPERVISION, AND LICENSING
The Company's operations are subject to ongoing regulation, supervision,
and licensing under various federal, state, and local statutes, ordinances, and
regulations. Among other things, these laws require that the Company obtain and
maintain certain licenses and qualifications, limit or prescribe terms of the
finance receivables that the Company bulk purchases, require specified
disclosures to customers, limit the Company's right to repossess and sell
collateral, and prohibit the Company from discriminating against certain
customers.
The Company believes that it is currently in substantial compliance with
all applicable federal, state, and local laws and regulations. There can be no
assurance, however, that the Company will be able to remain in compliance with
such laws, and such failure could have a material adverse effect on the
operations of the Company. In addition, the adoption of additional statutes and
regulations, changes in the interpretation of existing statutes and regulations,
or the Company's entrance into jurisdictions with more stringent regulatory
requirements could have a material adverse effect on the Company's business.
EMPLOYEES
As of the Effective Date, the Company expects to employ approximately 280
persons. None of the Company's employees are covered by a collective bargaining
agreement.
PROPERTIES
As of the Effective Date, the Company will assume leases, or sublease from
UDC, headquarters facilities located at Phoenix, Arizona and servicing
facilities at Nashville, Tennessee, Denver, Colorado, and Plano, Texas. These
leases have expiration dates ranging from September 30, 1998 to June 14, 2002.
The Company believes these facilities are sufficient for its present operations.
LEGAL PROCEEDINGS
The Company currently is not a party to any material pending legal
proceedings. Notwithstanding the foregoing, the Company, in the ordinary course
of business, expects to receive complaints from borrowers relating to alleged
violations of federal and state consumer lending or other similar laws and
regulations. While most of these complaints typically are made directly to the
lender or to various consumer protection organizations and are subsequently
resolved, the Company may be named occasionally as a defendant in civil suits
filed by borrowers in state, local or small claims courts. There can be no
assurance that the Company will not be a target of similar claims in the future.
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MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
Information concerning the names, ages, terms, positions with the Company,
and business experience of those persons who will become the Company's directors
and executive officers on the Effective Date of the Split-up is set forth below
as of July 1, 1998.
<TABLE>
<CAPTION>
TERM AS
DIRECTOR
NAME AGE POSITION EXPIRES
- ---- --- -------- --------
<S> <C> <C> <C>
Ernest C. Garcia, II................. 41 Chairman of the Board, Chief 1999
Executive Officer, and President
Robert J. Abrahams(1)................ 71 Director 1999
Christopher D. Jennings(1)(2)........ 44 Director 1999
Gary L. Trujillo..................... 37 Director 1999
Frank P. Willey(2)................... 44 Director 1999
Steven P. Johnson.................... 38 Senior Vice President and General
Counsel
Donald L. Addink..................... 48 Senior Vice President and Senior
Analyst
Eric J. Splaver...................... 35 Chief Financial Officer
Raymond C. Fidel..................... 40 President -- Cygnet Dealer Finance,
Inc.
Gregory R. Ciccolini................. 42 Chief Information Officer
</TABLE>
- ---------------
(1) Member of the Audit Committee.
(2) Member of the Compensation Committee.
Ernest C. Garcia II has served as the Chairman of the Board and Chief
Executive Officer of UDC since its founding in 1992, and served as President
from 1992 to 1996. Since 1991, Mr. Garcia has served as President of Verde
Investments, Inc. ("Verde"), a real estate investment corporation that is
wholly-owned by Mr. Garcia. Prior to 1992, when he founded UDC, Mr. Garcia was
involved in various real estate, securities, and banking ventures. Upon the
Effective Date Mr. Garcia will continue as the Chairman of the Board of UDC. Mr.
Garcia's sister is married to Mr. Johnson. See below, "Management -- Involvement
in Certain Legal Proceedings," "Principal Stockholders," and "Certain
Relationships and Related Transactions."
Robert J. Abrahams has served as a director of UDC since June 1996. Mr.
Abrahams has served since 1988 as a consultant to the financing industry,
including service as a consultant to UDC from 1994 to 1995. From 1960 to 1988,
Mr. Abrahams was an executive officer of Heller Financial, Inc., a finance
company. Prior to joining Heller Financial, Inc., Mr. Abrahams co-founded
Financial Acceptance Company in 1948. Upon the Effective Date Mr. Abrahams will
continue as a director of UDC. Mr. Abrahams is also a director of Smart Choice
Automotive Group, Inc., a retail automotive and finance company, and HMI
Industries, Inc., a manufacturing and direct selling company.
Christopher D. Jennings has served as a director of UDC since June 1996.
Mr. Jennings currently serves as Managing Director of Friedman, Billings, Ramsey
& Co., Inc., an investment banking firm. Mr. Jennings served as a managing
director of Cruttenden Roth Incorporated, an investment banking firm, from 1995
to April 1998. From 1992 to 1994, Mr. Jennings served as Managing Director of
investment banking at Sutro & Co., an investment banking firm. From 1989 to
1992, Mr. Jennings served as Senior Managing Director at Maiden Lane Associates,
Ltd., a private equity fund. Prior to 1989, Mr. Jennings served in various
positions with, among others, Dean Witter Reynolds, Inc., and Warburg Paribas
Becker, Inc., both of which are investment banking firms. Upon the Effective
Date Mr. Jennings will continue as a director of UDC. See "Certain Relationships
and Related Transactions" and "-- Principal Stockholders."
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Gary L. Trujillo is the founder of and has served as President and Chief
Executive Officer of Southwest Harvard Group, a privately held company engaged
in asset management and venture capital activities, since 1990. Prior to forming
Southwest Harvard Group, from 1983 to 1990 Mr. Trujillo was a Wall Street
investment banker working in New York City, initially with Salomon Brothers Inc.
Mr. Trujillo currently is a board member at Norwest Bank, N.A.
Frank P. Willey has served as a director of UDC since June 1996. Mr. Willey
has served as the President of Fidelity National Financial, Inc., one of the
nation's largest title insurance underwriters, since January 1995. From 1984 to
1995, Mr. Willey served as the Executive Vice President and General Counsel of
Fidelity National Title. Mr. Willey is also a director of Fidelity National
Financial, Inc., CKE Restaurants, Inc., an operator of various quick-service
restaurant chains, and Southern Pacific Funding Corporation, a specialty finance
company that originates, purchases, and sells high-yield, non-conforming
mortgage loans.
Steven P. Johnson has served as Senior Vice President, Secretary, and
General Counsel of UDC since its founding in 1992. Since 1991, Mr. Johnson has
also served as the Senior Vice President and General Counsel of Verde. Prior to
1991, Mr. Johnson practiced law in Tucson, Arizona. Mr. Johnson is licensed to
practice law in Arizona and Colorado and is married to the sister of Mr. Garcia.
Donald L. Addink has served as the Vice President -- Senior Analyst of UDC
since 1995 and also serves as the Vice President of Verde. From 1988 to 1995,
Mr. Addink served as Executive Vice President of Pima Capital Co., a life
insurance holding company. Prior to 1988, Mr. Addink served in various
capacities with a variety of insurance companies. Mr. Addink is a Fellow of the
Society of Actuaries and a Member of the American Academy of Actuaries.
Eric J. Splaver has served as Corporate Controller of UDC since May 1994.
From 1986 to 1994, Mr. Splaver worked as a certified public accountant with KPMG
Peat Marwick LLP.
Ray Fidel has served as President of Cygnet Dealer Finance, Inc., since
February 1997. On the Effective Date, Mr. Fidel will continue in his position
with Cygnet Dealer Finance, Inc. Prior to February 1997, Mr. Fidel served as
Managing Director of two financial corporations engaged in the asset-based
lending industry. Mr. Fidel was so employed from July 1995 to February 1997 with
Fidelity Funding Corporation and from March 1991 to June 1995 with DVI Business
Credit, a subsidiary of DVI, Inc., a New York Stock Exchange listed company. See
below "Management -- Involvement in Certain Legal Proceedings."
Gregory R. Ciccolini has served as Chief Information Officer since June
1998. From 1997 to 1998, Mr. Ciccolini was a Consulting Manager for SunGard
Planning Solutions, a company engaged in data center disaster recovery planning
and testing for Fortune 500 companies. From 1993 to 1997, Mr. Ciccolini served
as Vice President and Systems Director for Bank of America Arizona. Prior to
1993, Mr. Ciccolini served as Vice President and Information Systems Audit
Manager for several southwestern financial institutions.
Directors of the Company are elected for one year terms. Each director of
the Company serves until the following annual meeting of the Company, until his
successor is duly elected and qualified, or until retirement, resignation, or
removal. Executive officers of the Company serve at the discretion of the Board
of Directors.
INVOLVEMENT IN CERTAIN LEGAL PROCEEDINGS
Prior to 1992, when he founded UDC, Mr. Garcia was involved in various real
estate, securities, and banking ventures. Arising out of two transactions in
1987 between Lincoln Savings & Loan Association ("Lincoln") and entities
controlled by Mr. Garcia, the Resolution Trust Corporation (the "RTC"), which
ultimately took over Lincoln, asserted that Lincoln improperly accounted for the
transactions and that Mr. Garcia's participation in the transactions facilitated
the improper accounting. Facing severe financial pressures, Mr. Garcia agreed to
plead guilty to one count of bank fraud, but, in light of his cooperation with
authorities both before and after he was charged, was sentenced to only three
years probation (which has expired), was fined $50 (the minimum fine the court
could assess), and, during the period of his probation, which ended in 1996, was
banned from becoming an officer, director or employee of any federally-insured
financial institution or a securities firm without governmental approval.
Because Cygnet is not a federally-insured institution and Mr. Garcia's
probationary period has expired, this ban does not apply to Mr. Garcia's
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activities on behalf of Cygnet. In separate actions arising out of this matter,
Mr. Garcia agreed not to violate the securities laws, and filed for bankruptcy
both personally and with respect to certain entities he has controlled. The
bankruptcies were discharged by 1993. In certain circumstances, Mr. Garcia could
acquire a controlling interest in the Company. See "-- Risks Relating to the
Rights Offering -- Ownership of Common Stock by Mr. Garcia." As a result of his
position as Chairman of the Board, Chief Executive Officer, and President of
Cygnet and by virtue of his ability to acquire a significant percentage of the
Common Stock after the Rights Offering, Mr. Garcia will have significant
influence over the Company's activities.
From February 1982 to April 1989, Lincoln employed Mr. Fidel, between 1988
and 1989, as its President. Following the takeover of Lincoln by the RTC in
1989, Mr. Fidel and others were charged with fraud (the "Complaint") arising out
of the sale of bonds at Lincoln of its parent company, American Continental
Corporation ("ACC"). With the filing of the Complaint, Mr. Fidel, without
admitting or denying any of the allegations in the Complaint, consented to the
entry of a permanent injunction against further violations of the securities
laws. Mr. Fidel pled guilty in 1991 to two counts of federal securities fraud,
and to six counts in California State court (five relating to fraud and one
relating to the sale of securities without qualification) arising out of this
matter. In light of Mr. Fidel's cooperation with authorities in their
prosecution of executives of ACC, including Charles H. Keating, Jr., and Mr.
Fidel's efforts in stopping bond sales at Lincoln, Mr. Fidel was given three
years of probation, which has expired.
EXECUTIVE COMPENSATION
The table below sets forth information concerning the annual and long-term
compensation for services rendered in all capacities to UDC during the three
fiscal years ended December 31, 1997, of those persons who will be, as of the
Effective Date: (i) the chief executive officer of the Company and (ii) the
three other executive officers of the Company whose compensation from UDC
exceeded $100,000 in the fiscal year ended December 31, 1997 (the "Named
Executive Officers"). The following information is provided in accordance with
SEC rules and regulations and is not necessarily indicative of the compensation
structure that will exist at the Company following the Split-up, although the
Company does not anticipate that such compensation structure will materially
differ from the information below.
<TABLE>
<CAPTION>
LONG TERM COMPENSATION
----------------------------
ANNUAL COMPENSATION SECURITIES
--------------------------- UNDERLYING ALL OTHER
SALARY BONUS OPTIONS COMPENSATION
NAME AND PRINCIPAL POSITION YEAR ($) ($) AWARDS(#)(1) ($)(2)
--------------------------- ---- -------- ------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Ernest C. Garcia, II................ 1997 $131,677 -- -- $ 3,935(3)
Chairman of the Board, Chief 1996 121,538 -- -- 3,873(3)
Executive Officer, and President 1995 100,000 -- -- 3,151(3)
Donald L. Addink.................... 1997 139,671 $10,000 -- 950
Senior Vice President -- Senior 1996 122,142 10,000 42,000 485
Analyst 1995 71,026 10,000 58,000 984
Steven P. Johnson................... 1997 131,677 -- 20,000 820
Senior Vice President and General 1996 121,538 -- 25,000 566
Counsel 1995 100,000 -- -- 177
Raymond C. Fidel.................... 1997 132,692 -- 75,000 11,000(4)
President -- Cygnet Dealer
Finance, 1996 -- -- -- --
Inc. 1995 -- -- -- --
</TABLE>
- ---------------
(1) The amounts shown in this column represent stock options granted pursuant to
UDC's Long-Term Incentive Plan. Generally, options are subject to vesting
over a five-year period, with 20.0% of the options becoming exercisable on
each successive anniversary of the date of grant.
(2) The amounts shown in this column include the dollar value of 401(k) plan
contributions made by UDC for the benefit of the Named Executive Officers.
(3) This amount includes a $2,985 car allowance during 1997, and a $2,950 car
allowance during both 1996 and 1995, respectively, for Mr. Garcia.
(4) This amount represents a car allowance for Mr. Fidel during 1997.
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<PAGE> 72
OPTION GRANTS IN LAST FISCAL YEAR
The table below sets forth information with respect to UDC options granted
during the fiscal year ended December 31, 1997 to the Named Executive Officers.
As set forth in the Capitalization Agreement between UDC and the Company,
generally, on the Effective Date, each stock option for UDC Common Stock held by
a Cygnet employee will be surrendered and, in exchange therefor, a new option
will be granted under the Cygnet Financial Corporation 1998 Stock Incentive Plan
(the "1998 Plan") for a number of shares of Cygnet Common Stock, and at an
exercise price, intended to preserve for such Cygnet employee the economic value
of the shares subject to the UDC option, including the spread between the
exercise price and the fair market value of the shares subject to the UDC
option. See "-- Cygnet Financial Corporation 1998 Stock Incentive Plan."
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS
----------------------------------------------------
PERCENT
NUMBER OF OF TOTAL POTENTIAL REALIZABLE VALUE AT
SECURITIES OPTIONS/ ASSUMED ANNUAL RATE OF
UNDERLYING SARS STOCK APPRECIATION FOR
OPTIONS/ GRANTED TO EXERCISE OPTION TERM
SARS EMPLOYEES IN PRICE EXPIRATION ------------------------------
NAME GRANTED FISCAL YEAR (PER SHARE) DATE 5% 10%
---- ---------- ------------ ----------- ---------- ------------ --------------
<S> <C> <C> <C> <C> <C> <C>
Ernest C. Garcia, II........ -- -- -- -- -- --
Donald L. Addink(1)......... -- -- -- -- -- --
Steven P. Johnson(2)........ 20,000 3.4% $15.75 5/27/03 $107,130 $ 243,042
Raymond C. Fidel(3)......... 75,000 12.9% 18.75 2/07/07 893,389 2,250,200
</TABLE>
- ---------------
(1) During January 1998, Mr. Addink was granted options to purchase 25,000
shares of UDC Common Stock under the UDC 1998 Executive Incentive Plan (the
"UDC Executive Plan") at an exercise price of $8.25 per share. Such options
will be converted, on the Effective Date, to options to purchase 25,000
shares of Common Stock under the 1998 Plan at an exercise price of $7.00 per
share.
(2) During January 1998, Mr. Johnson was granted options to purchase 25,000
shares of UDC Common Stock under the UDC Executive Plan at an exercise price
of $8.25 per share. Such options will be converted, on the Effective Date,
to options to purchase 25,000 shares of Common Stock under the 1998 Plan at
an exercise price of $7.00 per share. In addition, Mr. Johnson's remaining
options to purchase UDC Common Stock will be cancelled as of the Effective
Date, and in consideration Mr. Johnson will be granted, on the Effective
Date, 15,000 shares of restricted Common Stock vesting over a specified
period of time from the Effective Date. See "-- Contracts with Directors and
Executive Officers."
(3) On the Effective Date, Mr. Fidel's options listed above will be converted to
options to purchase 84,000 shares of Common Stock under the 1998 Plan at an
exercise price of $7.00 per share. In addition, during January 1998 these
UDC Long Term-Incentive Plan options were repriced at an exercise price of
$9.75 per share.
71
<PAGE> 73
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND OPTION VALUES AS OF DECEMBER
31, 1997 OF NAMED EXECUTIVE OFFICERS
The table below sets forth information with respect to UDC Common Stock
options exercised during fiscal year 1997 and held as of December 31, 1997 by
the Named Executive Officers. UDC has never issued any other forms of stock
based awards to its Named Executive Officers.
<TABLE>
<CAPTION>
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING OPTIONS AT IN-THE-MONEY OPTIONS AT
SHARES FISCAL YEAR END(#)(1) FISCAL YEAR END($)(2)
ACQUIRED ON VALUE --------------------------- ---------------------------
NAME EXERCISE(#) REALIZED($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
---- ----------- ----------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Ernest C. Garcia, II... -- -- -- -- -- --
Donald L. Addink....... 63,000 $622,490(3) 17,000 20,000 -- $35,000
Steven P. Johnson(4)... -- -- 5,000 40,000 $3,500 $14,000
Raymond C. Fidel....... -- -- -- -- -- --
</TABLE>
- ---------------
(1) Generally, UDC options are subject to vesting over a five-year period, with
20.0% of the options becoming exercisable on each successive anniversary of
the date of grant under UDC's Long-Term Incentive Plan.
(2) In-the-money UDC options are options for which the option exercise price
(the fair market value on the date of grant) was lower than the market price
of UDC's Common Stock on December 31, 1997, which market price of $8.50 per
share was based on the closing price of UDC's Common Stock on that date as
reported by Nasdaq. The values in the last two columns have not been, and
may never be, received by the Named Executive Officers. Actual gains, if
any, on option exercises will depend on the value of UDC's Common Stock as
applicable on the exercise dates. Accordingly, there can be no assurance
that the values shown in the last two columns will be realized. The closing
price of UDC's Common Stock on July 28, 1998 was $7.6875 per share.
(3) The value realized represents the value of stock options exercised by Mr.
Addink during the last fiscal year. During this period, he exercised options
to acquire 63,000 shares of UDC's Common Stock. The value realized was
calculated by subtracting the exercise price of Mr. Addink's options from
the fair market value of UDC's Common Stock underlying the options as of the
exercise date. The fair market value of UDC's Common Stock was based on the
closing price of the stock on the date of exercise as reported by Nasdaq.
Pursuant to UDC's Long-Term Incentive Plan documents, the exercise date was
the date Mr. Addink provided notice of his exercise to the Company and
method of payment.
(4) Does not include $105,000 worth of restricted Common Stock at the $7.00
Subscription Price (15,000 shares) to be issued to Mr. Johnson upon the
Effective Date of the Split-up. The restricted stock will vest over a
specified period from the Effective Date. See "-- Contracts with Directors
and Executive Officers."
CYGNET FINANCIAL CORPORATION 1998 STOCK INCENTIVE PLAN
The Compensation Committee of the Company's Board of Directors will
administer the 1998 Plan. Under the 1998 Plan, the Company may grant incentive
stock options, non-qualified stock options, stock appreciation rights,
performance shares, restricted stock, and performance-based awards to employees,
consultants, independent directors, and advisors of the Company. The Company
believes that the 1998 Plan will promote the success and enhance the value of
the Company by linking the personal interests of participants to those of the
Company's stockholders and providing participants with an incentive for
outstanding performance. Upon the Effective Date, the total number of shares of
Common Stock available for awards under the 1998 Plan will be 1,050,000, subject
to a proportionate increase or decrease in the event of a stock split, reverse
stock split, stock dividend, or other adjustment to the Company's total number
of issued and outstanding shares of Common Stock. Except with respect to options
to purchase UDC Common Stock held by Mr. Splaver and another employee, each
option to purchase UDC Common Stock held by each employee of UDC who will become
an employee of the Company will be cancelled as of the Effective Date and new
options to purchase Common Stock will be issued under the 1998 Plan
("Replacement Options").
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<PAGE> 74
Thus, it is expected that as of the Effective Date, Replacement Options to
purchase approximately 284,000 shares of Common Stock will be outstanding under
the 1998 Plan. For additional information concerning the Replacement Options,
see "-- Aggregated Option Exercises in the Last Fiscal Year and Option Values as
of December 31, 1997 of Named Executive Officers."
The 1998 Plan is administered by the Board of Directors or a committee of
the Board who qualify as non-employee directors and outside directors, which has
the authority to administer the 1998 Plan, including the power to determine
eligibility, the type and number of awards to be granted, and the terms and
conditions of any award granted, including the price and timing of awards,
vesting, and acceleration of such awards (other than performance-based awards).
The 1998 Plan limits the awards that can be granted to a single participant to
no more than 250,000 shares of Common Stock during any single calendar year. The
exercise price of options granted under the 1998 Plan will generally equal the
fair market value of the Common Stock on the date of grant except that the
committee is permitted to grant options at below fair market value. However, the
Replacement Options will be granted with exercise prices designed to approximate
the value of the UDC options previously held by the optionees. The committee
may, with the Board's approval, terminate, amend, or modify the 1998 Plan at any
time but no such termination, amendment, or modification may affect any stock
options, SARs, or restricted stock awards then outstanding under the 1998 Plan
without the participant's consent. Also, any such termination, amendment, or
modification is subject to any stockholder approval required under applicable
law or by any national securities exchange or association on which the Common
Stock is then listed or reported. The committee may amend the term of any award
or option theretofore granted, retroactively or prospectively, but no such
amendment shall adversely affect any such award or option without the holder's
consent.
401(k) PLAN
The Company anticipates that it will adopt a 401(k) plan, under which
eligible employees may direct that a portion of their compensation, up to a
legally established maximum, be withheld by the Company and contributed to their
account. All 401(k) plan contributions will be placed in a trust fund to be
invested by the 401(k) plan's trustee, although the 401(k) plan will permit
participants to direct the investment of their account balances among mutual or
investment funds available under the plan. The 401(k) plan will provide a
matching contribution of 10% of a participant's contributions and discretionary
additional matchings if authorized by the Company.
CHANGE OF CONTROL ARRANGEMENTS
In the event of a "Change of Control" of the Company: (i) all options and
other share-based awards granted under the 1998 Plan will become immediately
exercisable; (ii) any restriction periods and restrictions imposed on restricted
stock granted under the 1998 Plan will lapse; and (iii) the target value
attainable under all performance units and other performance-based awards
granted under the 1998 Plan shall be deemed to have been fully earned, unless,
in each case, the surviving entity agrees to assume the awards in a manner that
substantially preserves the participants' rights and benefits. Under the 1998
Plan, a Change in Control occurs upon any of the following events: (a) any
person (other than a current stockholder or any employee benefit plan) becoming
the beneficial owner of 20% or more of the Company's Common Stock; (b) during
any two-year period, the persons who are on the Company's Board of Directors at
the beginning of such period and any new person elected by two-thirds of such
directors cease to constitute a majority of the persons serving on the Board of
Directors; or (c) the Company's stockholders approve (1) a merger or
consolidation of the Company with another corporation where the Company is not
the surviving entity other than a merger in which the Company's stockholders
before the merger have the same proportionate ownership after the merger, (2) a
plan of complete liquidation or dissolution, or (3) any sale, lease, or other
transfer of 40% or more of the Company's assets, other than pursuant to a
sale-leaseback, structured finance, or other form of financing transaction. See
also additional change of control arrangements at "Management -- Contracts with
Directors and Executive Officers."
73
<PAGE> 75
CONTRACTS WITH DIRECTORS AND EXECUTIVE OFFICERS
On January 1, 1996, UDC entered into a three-year employment agreement with
Mr. Ernest C. Garcia II. The agreement establishes Mr. Garcia's base salary for
1997 at $132,000 per year and provides a minimum 10.0% increase in the base
salary each year throughout the term of the agreement. In addition, the
agreement provides for the continuation of Mr. Garcia's base salary and certain
benefits for a period of one year in the event Mr. Garcia is terminated by UDC
without cause prior to the expiration of that agreement. The agreement also
contains confidentiality and non-compete covenants. On the Effective Date, Mr.
Garcia's employment agreement will be assigned to and assumed by the Company.
On June 1, 1995, UDC entered into a five-year employment agreement with Mr.
Donald L. Addink, which was amended and restated effective August 1, 1997. The
restated agreement establishes Mr. Addink's base salary at $165,000 per year
beginning on or around the effective date of the restated employment agreement,
a $10,000 bonus payment upon execution of the restated employment agreement,
certain benefits, and the continuation of Mr. Addink's base salary and certain
benefits for a period of one year in the event Mr. Addink is terminated by UDC
without cause prior to expiration of the restated employment agreement. The
restated employment agreement also contains confidentiality and non-compete
covenants. On the Effective Date, Mr. Addink's employment agreement will be
assigned to and assumed by the Company.
On May 14, 1998, the Company entered into an employment agreement with Mr.
Gregory R. Ciccolini, the Company's chief information officer. The agreement
establishes Mr. Ciccolini's base salary at $120,000 per year, beginning on or
around the effective date of the agreement and other benefits. The agreement
also provides for a stock option grant of 20,000 shares of Common Stock, and a
grant of 7,143 shares (estimated value of $50,000) of restricted Common Stock,
both effective as of the Effective Date. The option grant and restricted stock
grant were made at the $7.00 Subscription Price. The initial option grant
consisted of a NQSO under the 1998 Plan, with terms and conditions consistent
with the plan's general terms. The restricted stock award consisted of Common
Stock of the Company, which vests on June 1, 2002, provided Mr. Ciccolini is
then employed by the Company. The agreement provides for the continuation of Mr.
Ciccolini's base salary for a six month period in the event Mr. Ciccolini is
terminated by the Company without cause prior to his one year anniversary date
with the Company (i.e., prior to June 1, 1999) ("Severance Benefit"). The
agreement contains a "Change of Control" provision that provides that upon such
an event occurring and either (a) Mr. Ciccolini himself terminates his
employment with the Company within 12 months after the change of control; or (b)
the Company terminates Mr. Ciccolini without cause within 90 days prior to the
change of control or within 12 months after the change of control, then in any
such event, Mr. Ciccolini's initial NQSO award and restricted stock grant under
the agreement will automatically fully vest. If this automatic vesting occurs,
no Severance Benefit shall be due to Mr. Ciccolini. The agreement provides for a
definition of a "Change of Control" substantially similar to the 1998 Plan's
definition, but adds an additional change of control event if Ernest C. Garcia,
II is removed and/or resigns as Chairman of the Board of the Company. See
"Management -- Change of Control Arrangements."
In June 1998, the Company agreed, subject to certain conditions, to grant
Mr. Johnson 15,000 shares (estimated value of $105,000) of restricted Company
Common Stock on or around the Effective Date at the $7.00 Subscription Price.
On June 16, 1998, the Company entered into an employment agreement with Mr.
Eric J. Splaver, the Company's chief financial officer. The agreement
establishes Mr. Splaver's base salary at $120,000 per year, beginning on or
around the Effective Date and other benefits. The agreement also provides for a
stock option grant of 30,000 shares of Common Stock and a grant of 14,286 shares
(estimated value of $100,000) of restricted Common Stock, both effective as of
the Effective Date. The option grant and restricted stock grant were made at the
$7.00 Subscription Price. The initial option grant is made under the 1998 Plan,
with terms and conditions consistent with the plan's general terms. The
restricted stock award consisted of Common Stock of the Company, which vests pro
rata over a four-year period. The agreement provides for the continuation of Mr.
Splaver's base salary and certain benefits for one year in the event Mr. Splaver
is terminated by the Company without cause prior to the third anniversary of the
Effective Date. The agreement contains a "Change of Control" provision that
provides that upon such an event occurring and either
74
<PAGE> 76
(a) Mr. Splaver himself terminates his employment with the Company within 12
months after the change of control; or (b) the Company terminates Mr. Splaver
without cause within 90 days prior to the change of control or within 12 months
after the change of control, then in any such event all stock option and
restricted stock granted under the agreement and thereafter, which are not yet
vested, shall automatically be fully vested. The agreement provides for a
definition of a "Change of Control" substantially similar to the 1998 Plan's
definition, but adds an additional change of control event if Ernest C. Garcia,
II is removed and/or resigns as Chairman of the Board of the Company. See
"Management -- Change of Control Arrangements."
COMMITTEES OF THE BOARD OF DIRECTORS
The Company will establish a Compensation Committee and an Audit Committee.
The Compensation Committee will consist of Messrs. Jennings and Willey, and will
review executive salaries and administer any bonus, incentive compensation, and
stock option plans of the Company, including the 1998 Plan. In addition, the
Compensation Committee will consult with management of the Company regarding
compensation policies and practices of the Company. The Audit Committee will
consist of Messrs. Abrahams and Jennings, and will review the professional
services provided by the Company's independent auditors, the annual financial
statements of the Company, and the Company's system of internal controls.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
There will be no compensation committee interlocks and no Company officer
or former officer will be a member of the Company's Compensation Committee.
COMPENSATION OF DIRECTORS
The Company's independent directors will be compensated $1,000 for physical
attendance at meetings of the Board of Directors and at meetings of committees
of the Board of Directors of which they are members, and will be reimbursed for
reasonable travel expenses incurred in connection with attendance at each Board
and committee meeting. Board and committee members will not be compensated for
their telephonic attendance at meetings. If a Board and committee meeting are
held on the same day, a member who attends both meetings will receive combined
total compensation of only $1,000. In addition, pursuant to the 1998 Plan
expected to be adopted by the Company, upon initial appointment or initial
election to the Board of Directors, each independent director of the Company
will receive Company Common Stock valued at $50,000, which will be subject to
vesting in equal annual increments over a three-year period as provided for
under the 1998 Plan. Directors who are also officers of the Company will not be
compensated for their services as directors and will not be entitled to
participate in the directors' portion of the 1998 Plan.
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<PAGE> 77
PRINCIPAL STOCKHOLDERS
UDC currently owns all of the outstanding shares of the Company's Common
Stock. The following table sets forth the estimated beneficial ownership of the
Company's Common Stock immediately following the Effective Date, based on
beneficial ownership of UDC Common Stock on July 1, 1998 (unless another date is
indicated), by: (1) each director of the Company; (2) the Named Executive
Officers of the Company; (3) all directors and executive officers of the Company
as a group; and (4) each anticipated beneficial owner of more than 5% of the
outstanding Common Stock immediately following the completion of the Rights
Offering. To the knowledge of the Company, each person listed below has sole
voting and investment power with respect to his share of UDC Common Stock,
except (a) to the extent that authority is shared by his spouse under applicable
law, or (b) as otherwise indicated below. The estimated number of shares
beneficially owned and the percentage of ownership each assume the sale of
4,750,000 shares of Common Stock in the Rights Offering, 714,286 shares of
Common Stock to Mr. Garcia pursuant to the Additional Purchase Right, 500,000
additional shares of Common Stock that Mr. Garcia has the right to purchase
pursuant to the exercise of the Standby Warrants, and the issuance of 36,429
restricted shares of Common Stock to certain officers of the Company.
<TABLE>
<CAPTION>
NUMBER OF SHARES PERCENTAGE OF
NAME OF BENEFICIAL OWNER(2)(3) BENEFICIALLY OWNED(1) OWNERSHIP(1)
- ------------------------------ --------------------- -------------
<S> <C> <C>
Ernest C. Garcia II(4)(5)................................... 2,386,161 39.6%
Robert J. Abrahams(6)....................................... 7,143 *
Christopher D. Jennings(6).................................. 7,143 *
Gary L. Trujillo(6)......................................... 7,143 *
Frank P. Willey(6).......................................... 7,143 *
Steven P. Johnson........................................... 77,750 1.3%
Donald L. Addink............................................ 24,500 *
Raymond C. Fidel............................................ 2,500 *
Harris Associates L.P.(5)(7)................................ 456,250 9.9%
Wellington Management Company, LLP(5)(8).................... 416,125 9.0%
Merrill Lynch & Co., Inc.(5)(9)............................. 403,750 8.8%
FMR Corp.(5)(10)............................................ 321,000 6.9%
All directors and executive officers as a group (10
persons).................................................. 2,532,833 42.0%
</TABLE>
- ---------------
* Represents less than one percent of the outstanding Common Stock.
(1) A person is deemed to be the beneficial owner of securities that can be
acquired within 60 days following July 1, 1998 through the exercise of any
option, warrant, or right. Shares of Common Stock subject to options,
warrants, or rights that are currently exercisable or exercisable within 60
days are deemed outstanding for computing the percentage of the person
holding such options, warrants, or rights, but are not deemed outstanding
for computing the percentage of any other person. As described above, the
amounts and percentages are based upon an estimate of 6,029,287 shares of
Common Stock outstanding immediately following the completion of the Rights
Offering, including 500,000 shares of the Company's Common Stock that Mr.
Garcia has the right to purchase pursuant to the Standby Warrants.
(2) Unless otherwise noted, the address of each of the listed stockholders is
2525 East Camelback Road, Suite 1150, Phoenix, Arizona 85016.
(3) Excludes 214,286 shares of Common Stock that may be purchased pursuant to
the D&O Purchase Right as described herein. Also excludes certain
restricted Common Stock of the Company held by its officers, which has not
vested and will not vest within 60 days following July 1, 1998.
(4) Includes 714,286 shares of Common Stock that Mr. Garcia has the right to
purchase at the Subscription Price and 500,000 additional shares of Common
Stock that Mr. Garcia has the right to purchase pursuant to the exercise of
the Standby Warrants. Also includes shares of Common Stock held indirectly
by Mr. Garcia through a nonprofit corporation and Verde Investments, Inc.
("Verde"), an
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<PAGE> 78
affiliate of Mr. Garcia. Mr. Garcia has sole voting and dispositive power
over these shares of Common Stock.
(5) The Company knows of no other person who would beneficially own more than
five percent of the Common Stock as of the Effective Date based upon
beneficial ownership of UDC Common Stock as of July 1, 1998 (unless another
date is indicated).
(6) The total for each independent Board of Director member includes 7,143
shares of Common Stock granted under the Company's 1998 Plan. Shares having
a total value of $50,000 on or about the date of grant (i.e., approximately
7,143 shares of Common Stock) will be granted and issued to each
independent Board member upon his appointment or election to the Board of
Directors as of the Effective Date. Pursuant to the 1998 Plan, these shares
generally vest over a three-year period at an annual rate of 33%, beginning
on the first anniversary date after the date of grant.
(7) Beneficial ownership was estimated based on Schedule 13G filings reporting
beneficial ownership of UDC Common Stock as of December 31, 1997, by Harris
Associates L.P. ("Harris") and an affiliate of Harris, Harris Associates
Investment Trust and related funds ("Harris Trust"), all located at Two
North LaSalle Street, Suite 500, Chicago, Illinois 60602. According to
these Schedule 13Gs, Harris has shared voting and dispositive power over
1,825,000 shares of UDC Common Stock (including 1,750,000 shares
attributable to Harris Trust) and Harris Trust has shared voting and
dispositive power over 1,750,000 shares of UDC Common Stock. The Company
makes no representation as to the accuracy or completeness of the
information provided in this footnote or the above beneficial ownership
table related to the same, which is based solely on the Schedule 13G
filings of Harris and Harris Trust.
(8) Beneficial ownership was estimated based on Schedule 13G filings reporting
beneficial ownership of UDC Common Stock as of December 31, 1997, by
Wellington Management Company, LLP, at 75 State Street, Boston,
Massachusetts 02109. According to the Schedule 13G filings, Wellington
Management Company, LLP has shared voting power over 767,100 shares of UDC
Common Stock and shared dispositive power over 1,664,500 shares of UDC
Common Stock. The Company makes no representation as to the accuracy or
completeness of the information provided in this footnote or the above
beneficial ownership table related to the same, which is based solely on
Wellington Management Company, LLP's Schedule 13G filing.
(9) Beneficial ownership was estimated based on Schedule 13G filings reporting
beneficial ownership of UDC Common Stock as of December 31, 1997, by
Merrill Lynch & Co., Inc. ("Merrill Parent") and four (4) of its
subsidiaries and/or affiliates, including Merrill Lynch Global Allocation
Fund, Inc. ("Merrill Global"). Merrill Parent and one of its
subsidiary/affiliates that is included within this Merrill Schedule 13G
filing are located at 250 Vesey Street, New York, New York 10281. Merrill
Global and the other two (2) subsidiaries/affiliates that are included
within this Merrill Schedule 13G filing are located at 800 Scudders Mill
Rd., Plainsboro, New Jersey 08536. According to the Schedule 13G, Merrill
Global has shared voting and dispositive power over 1,530,000 shares of UDC
Common Stock and Merrill Parent along with each of its other three
subsidiaries and/or affiliates have shared voting and dispositive power
over 1,615,000 shares of UDC Common Stock. The Company makes no
representation as to the accuracy or completeness of the information
provided in this footnote or the above beneficial ownership table related
to the same, which is based solely on Merrill's Schedule 13G filing.
(10) Beneficial ownership was estimated based on Schedule 13G filings reporting
beneficial ownership of UDC Common Stock as of December 31, 1997, by FMR
Corp., along with certain of its affiliates ("FMR"), at 82 Devonshire
Street, Boston, Massachusetts 02019. According to the Schedule 13G, FMR has
no voting power over shares and has sole dispositive power over 1,284,000
shares of UDC Common Stock. The Company makes no representation as to the
accuracy or completeness of the information provided in this footnote or
the above beneficial ownership table related to the same, which is based
solely on FMR's Schedule 13G filing.
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<PAGE> 79
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The Company will engage in certain transactions with the affiliated parties
described below. Any future transactions between the Company and its affiliated
entities, executive officers, directors, or significant stockholders will
require the approval of a majority of the independent directors of the Company
and will be on terms no less favorable to the Company than the Company could
obtain from non-affiliated parties.
Ernest C. Garcia, II, the Chairman of the Board, Chief Executive Officer,
and President of Cygnet, will be granted on the Effective Date, in consideration
for the Standby Purchase Obligation, the Standby Warrants, which will entitle
Mr. Garcia to purchase up to 500,000 additional shares of Common Stock at an
exercise price equal to 120% of the Subscription Price, or $8.40 per share. In
addition, on the Effective Date, Mr. Garcia will have the Additional Purchase
Right, which gives him the right, at his election, to purchase up to an
additional 714,286 shares of Common Stock at the Subscription Price. As the
Standby Purchaser, Mr. Garcia may be able to purchase significant amounts of
Common Stock at the Subscription Price to the extent such stock is not purchased
upon exercise of the Rights or pursuant to the Over-Subscription Privilege by
holders of the Rights, which could result in Mr. Garcia's acquiring a
controlling interest in the Company. In addition, the Cash Payment by the
Company to UDC may be used in whole or in part to repay the Verde Note currently
held by a corporation wholly owned by Mr. Garcia.
On the Effective Date, certain directors and officers of the Company
(excluding Mr. Garcia) will be able to exercise the D&O Purchase Right which
will give them the right, at their election, to purchase in the aggregate
214,286 shares of Common Stock at the Subscription Price.
Prior to the Effective Date, the Company and UDC will enter into the
Capitalization Agreement. The Capitalization Agreement sets forth, among other
things, and assuming the satisfaction or waiver of specified contingencies, (i)
the obligation of the Company to issue the Rights, (ii) the obligation of the
Company to issue the Common Stock on the Effective Date upon exercise of the
Rights, the Over-Subscription Privilege, and the Standby Purchase Obligation,
(iii) the obligation of UDC and its subsidiaries to transfer the Transferred
Assets to the Company on the Effective Date, (iv) the obligation of the Company
to issue the Preferred Stock to UDC and to make the Cash Payment, (v) the
obligation of the Company to issue other capital stock and warrants as described
herein, (vi) the operational arrangements and agreements between the Company and
UDC during a transition period, including arrangements for the sharing of
certain assets, leases, licenses, and employees, (vii) agreements between the
Company and UDC relating to employee matters, including the issuance or
adjustment of stock options under employee benefit plans, (viii) tax sharing and
indemnity matters, and (ix) certain agreements between the Company and UDC
relating to the FMAC and Reliance transactions.
The Company currently is a wholly-owned subsidiary of UDC. After the
successful completion of the Rights Offering, UDC will hold $40 million of the
Company's Preferred Stock. In connection with the Split-up, UDC will transfer
substantially all of the rights and liabilities related to the FMAC and Reliance
transactions. However, UDC will remain liable with respect to certain
liabilities related to these transactions. As consideration for retaining these
liabilities, UDC will be entitled to certain rights from the Company. For a
description of the respective rights and liabilities of UDC and the Company as
they relate to the FMAC and Reliance transactions, see "Business -- Bulk
Purchasing and Servicing Operations -- Transactions Regarding First Merchants
Acceptance Corporation" and "-- Transactions Regarding Reliance Acceptance
Group."
78
<PAGE> 80
DESCRIPTION OF CAPITAL STOCK
The Company is a Delaware corporation and its affairs are governed by its
Certificate of Incorporation and Bylaws and the Arizona Revised Statutes. The
following description of the Company's capital stock, which is complete in all
material respects, is qualified in its entirety by reference to the provisions
of the Company's Certificate of Incorporation and Bylaws.
The authorized capital stock of the Company consists of 14,000,000 shares
of Common Stock, par value $.001 per share, and 500,000 shares of Preferred
Stock, par value $.001 per share. At July 29, 1998, one share of Common Stock
(issued to UDC) and no shares of Preferred Stock were issued and outstanding.
COMMON STOCK
Holders of Common Stock are entitled to one vote for each share held of
record on all matters on which stockholders are entitled to vote. Holders of
Common Stock do not have cumulative voting rights, and therefore holders of a
majority of the shares voting for the election of directors can elect all of the
directors. In such event, the holders of the remaining shares will not be able
to elect any directors.
Holders of Common Stock are entitled to receive such dividends as may be
declared from time to time by the Board of Directors out of funds legally
available therefor. The Company does not anticipate paying cash dividends in the
foreseeable future. See "Dividend Policy." In the event of liquidation,
dissolution, or winding up of the Company, the holders of Common Stock are
entitled to share ratably in any corporate assets remaining after payment of all
debts, subject to any preferential rights of any outstanding Preferred Stock.
Holders of Common Stock have no preemptive, conversion, or redemption
rights and are not subject to further calls or assessments by the Company. All
of the outstanding shares of Common Stock are validly issued, fully paid, and
nonassessable.
PREFERRED STOCK
If the Rights Offering is successfully concluded, Cygnet will issue to UDC
40,000 shares of Cumulative Convertible Preferred Stock, Series A, $.001 par
value per share (the "Preferred Stock") with an aggregate liquidation preference
of $40 million. The Preferred Stock, in preference to the Common Stock, will be
entitled to receive cumulative cash dividends, from the Effective Date through
the first anniversary of such date, at the initial annual rate of 7% of the Base
Liquidation Amount (defined below), and escalating 1% per annum on each
anniversary thereafter to a maximum rate of 11% per annum on the aggregate Base
Liquidation Amount, in each case payable quarterly in arrears on the first day
of March, June, September, and December of each year, beginning December 1,
1998, when and as declared by the Board of Directors of Cygnet out of funds
legally available for such payment. The Preferred Stock, in preference to the
Common Stock, will be entitled to receive, in the event of dissolution or
liquidation of Cygnet, $1,000 per share (the "Base Liquidation Amount") plus
accrued and unpaid dividends thereon (the "Liquidation Preference Amount").
The Preferred Stock will be redeemable at Cygnet's option in whole or in
part at a redemption price of $1,000 per share, plus dividends accrued and
unpaid thereon to the redemption date; provided, however, that no such
redemption will be authorized unless, in the judgment of the Company and UDC,
the proceeds of such redemption will be treated for federal income tax purposes
as proceeds from a sale of such stock and not as dividends paid with respect to
such stock. As a consequence, redemptions of the Preferred Stock may be limited
and may be confined to a single redemption of all outstanding Preferred Stock.
The Company will be authorized to redeem shares of Common Stock held by holders
of Preferred Stock to the extent necessary to assure that the proceeds from a
redemption of Preferred Stock will receive favorable income tax treatment.
The Preferred Stock will be convertible in whole or in part at any time
after the third anniversary following issuance at the option of UDC into that
number of shares of Common Stock determined by dividing the Liquidation
Preference Amount of the shares of Preferred Stock to be converted by the lower
of (a) the Subscription Price or (b) 80% of the average Market Price (defined
below) for the 10 consecutive trading days ending two business days prior to the
date notice of conversion is given, subject to adjustment upon
79
<PAGE> 81
certain extraordinary events. In addition, the Preferred Stock will be
convertible during any period following the date that an amount equal to six
quarterly dividend payments on the Preferred Stock has accrued and is unpaid,
until the payment in full of all accrued dividends. For purposes of the
conversion of the Preferred Stock, "Market Price" means (i) if the Common Stock
is quoted on the Nasdaq National Market or the Nasdaq SmallCap Market or on a
national securities exchange, the daily per share closing price of the Common
Stock as quoted on the Nasdaq National Market or the Nasdaq SmallCap Market or
on the principal stock exchange on which it is listed on the trading day in
question, as the case may be, whichever is the higher, or (ii) if the Common
Stock is traded in the over-the-counter market and not quoted on the Nasdaq
National Market or the Nasdaq SmallCap Market or on any national securities
exchange, the closing bid price of the Common Stock on the trading day in
question, as reported by Nasdaq or an equivalent generally accepted reporting
service. The Preferred Stock will not have any pre-emptive or other subscription
rights.
Except as described below, holders of the Preferred Stock will not be
entitled to vote for the election of directors or for other matters on which
holders of the Common Stock are entitled to vote. In the event that an amount
equal to two quarterly dividend payments on the Preferred Stock shall have
accrued and be unpaid, the holders of the Preferred Stock will have the right,
voting separately as a class, to elect two members to the Board of Directors of
Cygnet (in addition to the then authorized number of directors) at the next
meeting of stockholders of Cygnet and thereafter until all accrued dividends on
the Preferred Stock have been paid in full. The Preferred Stock shall also have
voting rights on certain extraordinary matters including: (i) the authorization,
creation, or issuance, or the increase in the authorized or issued amount, of
any class or series of stock senior to the Preferred Stock as to the payment of
dividends and distribution of assets upon dissolution, liquidation, or winding
up of the Company; or (ii) the amendment, alteration, or repeal of the
Certificate of Incorporation or the certificate of designation through which the
Preferred Stock will be issued, that would materially and adversely change the
voting powers, rights or preferences of the Preferred Stock. In such case, each
share of Preferred Stock shall have one vote per Base Liquidation Amount.
If the Preferred Stock were converted to Common Stock at the Subscription
Price of $7.00 per share, UDC would obtain 5,714,286 shares, or approximately
61.6% of the then outstanding shares of the Company, assuming the sale by the
Company pursuant to the Rights Offering of 3,562,500 shares of Common Stock (the
Required Purchase Amount) and that no additional shares of Common Stock are
issued either on the Effective Date of the Split-up or thereafter. If the
Preferred Stock were converted to Common Stock at the Subscription Price of
$7.00 per share, and assuming the sale by the Company of 4,750,000 shares of
Common Stock pursuant to the Rights Offering and the sale of 714,286 additional
shares to Ernest C. Garcia, II and 214,286 additional shares available for
purchase by officers and directors of Cygnet (other than Mr. Garcia) and that no
additional shares of Common Stock are then outstanding, UDC would obtain
approximately 50.2% of the then outstanding shares of the Company.
The Preferred Stock and the Common Stock into which it is convertible are
not registered under the Securities Act and may not be sold by UDC unless such
securities are registered or unless an exemption from registration is available.
The Company has agreed to register the resale of the Common Stock issued upon
conversion of the Preferred Stock under the Securities Act, at its expense upon
request of UDC.
LIMITATION OF LIABILITY AND INDEMNIFICATION OF DIRECTORS AND OFFICERS
The Company's Certificate of Incorporation provides that to the fullest
extent permitted by Delaware law, a director of the Company shall not be
personally liable to the Company or its stockholders for monetary damages for
breach of such director's fiduciary duty, except for liability: (i) for any
breach of the director's duty of loyalty to the Company or its stockholders;
(ii) for acts or omissions not in good faith or that involve intentional
misconduct or a knowing violation of law; (iii) in respect of certain unlawful
dividend payments or stock redemptions or repurchases; and (iv) for any
transaction from which the director derives an improper benefit. The effect of
the provision of the Company's Certificate of Incorporation is to eliminate the
rights of the Company and its stockholders (through stockholders' derivative
suits on behalf of the Company) to recover monetary damages against a director
for breach of the fiduciary duty of care as a director (including breaches
resulting from negligent or grossly negligent behavior), except in the
situations described in
80
<PAGE> 82
clauses (i) through (iv) above. This provision does not limit or eliminate the
rights of the Company or any stockholder to seek nonmonetary relief such as an
injunction or recision in the event of a breach of a director's duty of care. In
addition, the Company's Certificate of Incorporation provides that the Company
shall indemnify any person who is or was a director or officer of the Company,
or who is or was serving at the request of the Company as a director, officer,
employee, or agent of another corporation or entity, against expenses,
liabilities, and losses incurred by any such person by reason of the fact that
such person is or was acting in such capacity. The Company will obtain insurance
on behalf of its directors and officers for any liability arising out of such
person's actions in such capacity.
The Company will enter into agreements to indemnify its directors and
officers. These agreements, among other things, will indemnify the Company's
directors and officers for certain expenses (including attorneys' fees),
judgments, fines, and settlement amounts incurred by any such person in any
action or proceeding, including any action by or in the right of the Company,
arising out of such person's services as a director or officer of the Company,
any subsidiary of the Company, or any other company or enterprise to which such
person provides services at the request of the Company. To the extent that the
Board of Directors or the stockholders of the Company may in the future wish to
limit or repeal the ability of the Company to provide indemnification as set
forth in the Company's Certificate of Incorporation, such repeal or limitation
may not be effective as to directors or officers who are parties to the
indemnification agreements because their rights to full protection would be
contractually assured by such agreements. It is anticipated that similar
contracts may be entered into, from time to time, with future directors of the
Company. The Company believes that the indemnification provisions in its
Certificate of Incorporation and in the indemnification agreements are necessary
to attract and retain qualified persons as directors and officers.
CERTAIN BYLAW PROVISIONS
The Company's Bylaws, as amended, contain several provisions that regulate
the nomination of directors and the submission of proposals in connection with
stockholder meetings. The Company's Bylaws require that, subject to certain
exceptions, any stockholder desiring to propose business or nominate a person to
the Board of Directors at a stockholders meeting must give notice of any
proposals not less than 60 days nor more than 90 days prior to the anniversary
date of the immediately preceding annual meeting of stockholders. Such notice is
required to contain certain information as set forth in the Bylaws. No business
matter shall be transacted nor shall any person be eligible for election as a
director of the Company unless proposed or nominated, as the case may be, in
strict accordance with this procedure set forth in the Company's Bylaws.
Although the Bylaws do not give the Board of Directors any power to approve
or disapprove of stockholder nominations for the election of directors or of any
other business desired by stockholders to be conducted at an annual or any other
meeting, the Bylaws may have the effect of precluding a nomination for the
election of directors or the conduct of business at a particular annual meeting
if the proper procedures are not followed or may discourage or deter a third
party from conducting a solicitation of proxies to elect its own slate of
directors or otherwise attempting to obtain control of the Company, even if the
conduct of such solicitation or such attempt might be beneficial to the Company
and its stockholders. The Company's procedures with respect to all stockholder
proposals and the nomination of directors will be conducted in accordance with
Section 14 of the Exchange Act and the rules promulgated thereunder.
TRANSFER AGENT AND REGISTRAR
The Transfer Agent and Registrar for the Common Stock of the Company is
Norwest Bank Minnesota, National Association.
SHARES ELIGIBLE FOR FUTURE SALE
Assuming the maximum potential issuance of shares of Common Stock pursuant
to the Rights Offering (and no purchase of shares pursuant to the Standby
Purchase Obligation), the Additional Purchase Right, and the D&O Purchase Right,
the Company will have 5,678,573 shares of Common Stock outstanding as of the
Effective Date. Of these shares, 1,863,025 will be freely tradeable without
restriction or further registration under the Act and 3,815,547 shares of Common
Stock (the "Control Shares") will be subject to certain restrictions as on
resale under Rule 144 as described below. Certain restrictions apply to any
shares of
81
<PAGE> 83
Common Stock purchased pursuant to the Rights Offering by affiliates of the
Company, which may generally only be sold in compliance with the limitations of
Rule 144, except for the holding period requirements thereunder.
In general, under Rule 144 as currently in effect, if two years have
elapsed since the date of acquisition of restricted securities from the Company
or any affiliate and the acquiror or subsequent holder is not deemed to have
been an affiliate of the Company for at least 90 days prior to a proposed
transaction, such person would be entitled to sell such shares under Rule 144(k)
without regard to the limitations described below. If one year has elapsed since
the date of acquisition of restricted securities from the Company or any
affiliate, the acquiror or subsequent holder thereof (including persons who may
be deemed affiliates of the Company) is entitled to sell within any three-month
period a number of shares that does not exceed the greater of 1% of the then-
outstanding shares of Common Stock or the average weekly trading volume in the
Common Stock an exchange during the four calendar weeks preceding such sale.
Sales under Rule 144 are also subject to certain provisions regarding the manner
of sale, notice requirements and the availability of current public information
about the Company. Approximately 3,815,547 Control Shares will be eligible for
future sale subject to the holding period and other conditions imposed by Rule
144. In addition, as of the Effective Date, up to 969,000 additional shares of
Common Stock will be issued pursuant to restricted stock grants or will be
subject to issuance upon the exercise of certain options and warrants.
Substantially all of the shares of Common Stock to be issued pursuant to the
restricted stock grants, options and warrants are subject to certain
registration rights agreements that will enable the holders thereof to resell
the shares without restriction or will be covered by a registration statement on
Form S-8 enabling resale without restriction.
Rule 144A under the Act provides a nonexclusive safe harbor exemption from
the registration requirements of the Act of specified resales of restricted
securities to certain institutional investors. In general, Rule 144A allows
unregistered resales of restricted securities to a "qualified institutional
buyer," which generally includes an entity, acting for its own account or for
the account of other qualified institutional buyers, that in the aggregate owns
or invests on a discretionary basis at least $100 million in securities of
issuers that are not affiliated with the entity, as long as these securities
when issued were not of the same class as securities listed on a national
securities exchange or quoted on the Nasdaq National Market or Nasdaq SmallCap
Market. The shares of Common Stock outstanding as of the date of this Prospectus
would be eligible for resale under Rule 144A because such shares, when issued,
were not of the same class as any listed or quoted securities.
LEGAL MATTERS
The validity of the securities offered hereby is being passed upon for the
Company by Snell & Wilmer L.L.P., Phoenix, Arizona.
AVAILABLE INFORMATION
The Company has filed with the Securities and Exchange Commission (the
"Commission") a registration statement on Form S-1 (the "Registration
Statement") under the Securities Act with respect to the Rights and shares of
Common Stock offered hereby. This Prospectus constitutes a part of the
Registration Statement and does not contain all of the information set forth
therein and in the exhibits thereto, certain portions of which have been omitted
as permitted by the rules and regulations of the Commission. For further
information with respect to the Company and the Rights and shares of Common
Stock offered hereby, reference is hereby made to such Registration Statement
and exhibits. Statements contained in this Prospectus as to the contents of any
document are not necessarily complete and in each instance are qualified in
their entirety by reference to the copy of the appropriate document filed with
the Commission. The Registration Statement, including the exhibits thereto, may
be examined without charge at the Commission's public reference facility at Room
1024, Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549. In
addition, copies of all or any part of the Registration Statement, including
such exhibits thereto, may be obtained from the Commission at its principal
office in Washington, D.C., upon payment of the fees prescribed by the
Commission.
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<PAGE> 84
EXPERTS
The combined financial statements of the Company as of December 31, 1997
and for the year then ended, have been included herein and in the Registration
Statement 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.
The statements in this Prospectus under the captions "Prospectus
Summary -- The Rights Offering," "The Rights Offering -- Opinion of Appraiser,"
and "Federal Income Tax Consequences," insofar as they relate to the Appraisal,
have been reviewed and approved by Willamette Management Associates, as experts
in such matters, and are included herein in reliance on such review and
approval.
83
<PAGE> 85
CYGNET FINANCIAL CORPORATION
INDEX TO COMBINED FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Independent Auditors' Report................................ F-2
Combined Financial Statements:
Combined Balance Sheets as of June 30, 1998 (unaudited)
and December 31, 1997.................................. F-3
Combined Statements of Operations for the six months ended
June 30, 1998 (unaudited) and 1997 (unaudited) and the
year ended December 31, 1997........................... F-4
Combined Statements of Stockholder's Equity for the year
ended December 31, 1997, and the six months ended June
30, 1998 (unaudited)................................... F-5
Combined Statements of Cash Flows for the six months ended
June 30, 1998 (unaudited) and 1997 (unaudited) and the
year ended December 31, 1997........................... F-6
Notes to Combined Financial Statements.................... F-7
</TABLE>
F-1
<PAGE> 86
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholder
Cygnet Financial Corporation:
We have audited the accompanying combined balance sheet of Cygnet Financial
Corporation as of December 31, 1997, and the related combined statements of
operations, stockholder's equity, and cash flows for the year ended December 31,
1997. These combined financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
combined financial statements based on our audit.
We conducted our audit 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 audit provides a reasonable basis for our opinion.
In our opinion, the combined financial statements referred to above present
fairly, in all material respects, the financial position of Cygnet Financial
Corporation as of December 31, 1997, and the results of their operations and
their cash flows for the year ended December 31, 1997 in conformity with
generally accepted accounting principles.
/s/ KPMG PEAT MARWICK LLP
Phoenix, Arizona
June 5, 1998
F-2
<PAGE> 87
CYGNET FINANCIAL CORPORATION
COMBINED BALANCE SHEETS
JUNE 30, 1998 AND DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1998 1997
----------- ------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Cash and Cash Equivalents................................. $ 232 $ 1,225
Finance Receivables, Net.................................. 26,333 19,274
Notes Receivable, Net..................................... 23,027 21,861
Property and Equipment, Net............................... 2,335 646
Goodwill, Net............................................. 1,138 1,178
Other Assets.............................................. 5,515 5,850
------- -------
$58,580 $50,034
======= =======
LIABILITIES AND STOCKHOLDER'S EQUITY
Liabilities:
Accrued Expenses and Other Liabilities................. $ 2,464 $ 548
Advances from Affiliate................................ 15,818 9,106
Note Payable........................................... 298 380
------- -------
Total Liabilities................................. 18,580 10,034
------- -------
Stockholder's Equity:
Preferred Stock; $.001 par value, 500,000 shares
authorized, none issued and outstanding............... -- --
Common Stock; $.001 par value, 14,000,000 shares
authorized, one share issued and outstanding.......... -- --
Additional Paid-in Capital............................. 40,000 40,000
Retained Earnings...................................... -- --
------- -------
Total Stockholder's Equity........................ 40,000 40,000
------- -------
Commitments and Contingencies............................. -- --
------- -------
$58,580 $50,034
======= =======
</TABLE>
See accompanying notes to Combined Financial Statements.
F-3
<PAGE> 88
CYGNET FINANCIAL CORPORATION
COMBINED STATEMENTS OF OPERATIONS
SIX MONTHS ENDED JUNE 30, 1998 AND 1997 AND
YEAR ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT EARNINGS (LOSS) PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED YEAR
JUNE 30, ENDED
---------------- DECEMBER 31,
1998 1997 1997
------ ------ ------------
(UNAUDITED)
<S> <C> <C> <C>
Revenues:
Interest Income........................................... $6,382 $ 137 $ 7,472
Servicing Fees............................................ 4,937 -- --
Net Gain on Sale of Repossessed Collateral................ 1,108 -- --
Gain on Sale of Notes Receivable.......................... -- -- 8,132
Other Income.............................................. 123 -- 355
------ ------ -------
12,550 137 15,959
------ ------ -------
Operating Expenses:
Provision for Credit Losses............................... 965 -- 691
Selling and Marketing..................................... 36 9 18
General and Administrative................................ 9,001 1,008 3,766
Depreciation and Amortization............................. 230 62 153
------ ------ -------
10,232 1,079 4,628
------ ------ -------
Earnings (Loss) before Interest Expense..................... 2,318 (942) 11,331
Interest Expense............................................ 1,714 37 2,067
------ ------ -------
Earnings (Loss) before Income Taxes......................... 604 (979) 9,264
Income Taxes (Benefit)...................................... 244 (394) 3,728
------ ------ -------
Net Earnings (Loss)......................................... $ 360 $ (585) $ 5,536
====== ====== =======
Basic/Diluted Earnings (Loss) per share..................... $ 360 $ (585) $ 5,536
====== ====== =======
Shares used in computation.................................. 1 1 1
====== ====== =======
Pro Forma Basic Earnings (Loss) per Share (unaudited)....... $(0.18) $(0.35) $0.48
------ ------ --------
------ ------ --------
Pro Forma Diluted Earnings (Loss) per Share (unaudited)..... $(0.18) $(0.35) $0.48
------ ------ --------
------ ------ --------
Pro Forma Shares used in computation - basic (unaudited).... 5,679 5,679 5,679
----- ----- --------
----- ----- --------
Pro Forma Shares used in computation - diluted
(unaudited)............................................... 5,679 5,679 5,683
----- ----- --------
----- ----- --------
</TABLE>
See accompanying notes to Combined Financial Statements.
F-4
<PAGE> 89
CYGNET FINANCIAL CORPORATION
COMBINED STATEMENTS OF STOCKHOLDER'S EQUITY
SIX MONTHS ENDED JUNE 30, 1998 AND
YEAR ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT SHARES)
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL TOTAL
---------------- PAID-IN RETAINED STOCKHOLDER'S
SHARES AMOUNT CAPITAL EARNINGS EQUITY
------ ------ ---------- -------- -------------
<S> <C> <C> <C> <C> <C>
Balances at December 31, 1996............ -- $-- $ -- $ -- $ --
Issuance of Common Stock................. 1 -- -- -- --
Contributed Capital...................... -- -- 40,000 -- 40,000
Distributions to Ugly Duckling
Corporation............................ -- -- -- (5,536) (5,536)
Net Earnings for the Year................ -- -- -- 5,536 5,536
-- -- ------- ------ -------
Balances at December 31, 1997............ 1 -- 40,000 -- 40,000
Six Months Ended June 30, 1998
(unaudited)
Distributions to Ugly Duckling
Corporation (unaudited)................ -- -- -- (360) (360)
Net Earnings for the Period
(unaudited)............................ -- -- -- 360 360
-- -- ------- ------ -------
Balances at June 30, 1998 (unaudited).... 1 $-- $40,000 $ -- $40,000
== == ======= ====== =======
</TABLE>
See accompanying notes to Combined Financial Statements.
F-5
<PAGE> 90
CYGNET FINANCIAL CORPORATION
COMBINED STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED JUNE 30, 1998 AND 1997 AND
YEAR ENDED DECEMBER 31, 1997
(IN THOUSANDS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30,
------------------- DECEMBER 31,
1998 1997 1997
-------- ------- ------------
(UNAUDITED)
<S> <C> <C> <C>
Cash Flows from Operating Activities:
Net Earnings (Loss)..................................... $ 360 $ (585) $ 5,536
Adjustments to Reconcile Net Earnings (Loss) to Net
Cash Provided by Operating Activities:
Provision for Credit Losses.......................... 965 -- 691
Depreciation and Amortization........................ 230 62 153
Increase in Other Assets............................. (1,116) (7) (87)
Increase in Accrued Expenses and Other Liabilities... 1,916 129 396
-------- ------- --------
Net Cash Provided by (Used In) Operating
Activities.................................... 2,355 (401) 6,689
-------- ------- --------
Cash Flows from Investing Activities:
Increase in Finance Receivables......................... (17,213) -- (20,941)
Collections of Finance Receivables...................... 9,219 -- 9,330
Increase in Notes Receivable............................ (16,937) (8,829) (12,700)
Collections of Notes Receivable......................... 15,741 504 6,900
Purchase of Property and Equipment...................... (428) -- (146)
Payment for Acquisition of Assets....................... -- -- (9,098)
-------- ------- --------
Net Cash Used in Investing Activities........... (9,618) (8,325) (26,655)
-------- ------- --------
Cash Flows from Financing Activities:
Payment of note payable................................. (82) (120) (120)
Advances from Affiliate................................. 6,352 8,900 9,106
Contribution of Additional Paid-in Capital.............. -- -- 12,205
-------- ------- --------
Net Cash Provided by Financing Activities....... 6,270 8,780 21,191
-------- ------- --------
Net Increase (Decrease) in Cash and Cash Equivalents...... (993) 54 1,225
Cash and Cash Equivalents at Beginning of Period.......... 1,225 -- --
-------- ------- --------
Cash and Cash Equivalents at End of Period................ $ 232 $ 54 $ 1,225
======== ======= ========
Supplemental Statement of Cash Flows Information:
Contribution of certain assets to the Company........... $ -- $ 601 $ 27,795
======== ======= ========
Assumption of note payable.............................. $ -- $ 500 $ 500
======== ======= ========
</TABLE>
See accompanying notes to Combined Financial Statements.
F-6
<PAGE> 91
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS
JUNE 30, 1998 AND DECEMBER 31, 1997
(1) ORGANIZATION, PURPOSE, BASIS OF PRESENTATION AND ACQUISITION
Cygnet Financial Corporation (the Company), a wholly-owned subsidiary of
Ugly Duckling Corporation (Ugly Duckling), was formed on June 1, 1998 for the
purpose of consummating a transaction whereby Ugly Duckling would split-up its
operations into two publicly-held companies (the split-up). The Company will
purchase from Ugly Duckling, substantially all of Ugly Duckling's non-dealership
operations including, the bulk purchasing and certain servicing operations
(excluding the branch office network), it's third party dealer financing
operations, and substantially all other non-dealership assets and contract
rights including those acquired in the First Merchants Acceptance Corporation
Transaction and assume the liabilities related thereto (collectively referred to
as the acquired assets). In exchange for the acquired assets, the Company will
issue $40.0 million of its cumulative, convertible preferred stock and a cash
payment equivalent to the greater of the appraised value or the book value of
the acquired assets, which the Company does not expect to materially differ.
These combined financial statements reflect the results of operations, financial
position, changes in stockholder's equity and cash flows of the Company, as if
the Company were a separate entity operating the acquired assets for all periods
presented. The combined financial statements have been prepared using the
historical basis in the assets and liabilities and historical results of
operations of the Company. In connection with the split-up, the Company intends,
through a rights offering to Ugly Duckling stockholders, to issue up to 5.6
million shares of common stock at an offering price of $7.00 per share.
The accompanying unaudited combined financial statements of the Company as
of June 30, 1998 and for the six month periods ended June 30, 1998 and 1997,
have been prepared in accordance with generally accepted accounting principles
for interim financial information and pursuant to rules and regulations of the
Securities and Exchange Commission. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for a complete financial statement presentation. In the opinion of management,
such unaudited interim information reflects all adjustments, consisting only of
normal recurring adjustments, necessary to present the Company's financial
position and results of operations for the periods presented. The results of
operations for interim periods are not necessarily indicative of the results to
be expected for a full fiscal year.
General corporate overhead related to the Company's corporate headquarters
and common support functions has been allocated to the Company, to the extent
such amounts are applicable to the Company. However, the costs of these services
charged to the Company are not necessarily indicative of the costs that would
have been incurred if the Company had performed these functions as a stand-alone
entity. As a result of the split-up, the Company will be required to perform
these functions using its own resources or purchased services and will be
responsible for the costs and expenses associated with the management of a
public corporation. The financial information included herein may not
necessarily reflect the combined results of operations, financial position,
changes in stockholder's equity and cash flows of the Company in the future or
amounts that would have been reported had it been a separate, stand-alone entity
during the periods presented.
The Company operates various business segments. The Company operates it's
Cygnet Dealer Program, whereby the Company provides independent used car dealers
(Third Party Dealers) with warehouse purchase facilities and operating credit
lines primarily secured by the dealers' retail installment contract portfolio.
In addition, the Company operates a bulk purchasing business segment in which
the Company acquires via bulk purchase large portfolios of retail installment
contract loan portfolios. Further, in conjunction with acquisition of the
contributed assets, the Company received certain rights to service the finance
receivable portfolios of various parties. The Third Party Dealers' retail
installment contract portfolios are substantially comprised of loans to persons
who have limited credit histories, low incomes, or past credit problems.
In August 1997, the Company acquired substantially all of the assets of
American National Acceptance Corporation (ANAC) in exchange for approximately
$9.1 million in cash. The acquisition was recorded in accordance with the
"purchase method" of accounting, and, accordingly, the purchase price has been
F-7
<PAGE> 92
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
allocated to the assets purchased and the liabilities assumed based upon the
estimated fair values at the date of acquisition. The excess of the purchase
price over the fair values of the net assets acquired was approximately $1.2
million and has been recorded as goodwill, which is being amortized over a
period of 15 years. The results of operations of ANAC have been included in the
accompanying statement of operations from the acquisition date.
The following summary, prepared on a pro forma basis, combines the results
of operations (unaudited) as if the acquisition had taken place on January 1,
1997. Such pro forma amounts are not necessarily indicative of what the actual
results of operations might have been if the acquisition had been effective on
January 1, 1997, (in thousands, except per share amounts):
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1997
------------
<S> <C>
Interest Income............................................. $ 10,920
Fee Income.................................................. $ 861
Other Income................................................ $ 8,198
Total Revenues.............................................. $ 19,979
Net Earnings................................................ $ 4,210
Basic/Diluted Earnings Per Share............................ $ 4,210
Proforma Basic Earnings Per Share........................... $ 0.25
Proforma Diluted Earnings Per Share......................... $ 0.25
</TABLE>
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amount of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Concentration of Credit Risk
As of December 31, 1997, the Company had warehouse purchase facilities and
revolving lines of credit with a total of 42 Third Party Dealers. The finance
receivables balance of loans the Company had purchased from one third party
dealer totaled $7,756,000, representing approximately 28.1% of the Company's
total finance receivables portfolio as of December 31, 1997. There were no other
Third Party Dealer's loans which exceeded 10% of the Company's total finance
receivables portfolio as of December 31, 1997.
Periodically during the year, the Company maintains cash in financial
institutions in excess of the amounts insured by the federal government.
Cash Equivalents
The Company considers all highly liquid debt instruments purchased with
maturities of three months or less to be cash equivalents. Cash equivalents
generally consist of interest bearing money market accounts.
Revenue Recognition
Interest income is recognized using the interest method. Direct loan
origination costs are deferred and charged against finance income over the life
of the related installment sales contract as an adjustment of yield
F-8
<PAGE> 93
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
using the interest method. The accrual of interest is suspended if collection
becomes doubtful, generally 90 days past due, and is resumed when the loan
becomes current.
Fee income generally represents revenues from services such as periodic
audits of borrowers, collateral monitoring and maintenance fees and is
recognized when the services have been performed.
Servicing income is recognized when earned. Servicing costs are charged to
expense as incurred. In the event delinquencies and/or losses on the respective
serviced portfolios exceed specified levels, the Company may be required to
transfer the servicing of the portfolio to another servicer.
Net gain on sale of repossessed collateral is recognized using the cost
recovery method.
Finance Receivables and Allowance for Credit Losses
The largest portion of the Company's business is with Third Party Dealers
who participate in the "Dealer Collection Program." Under this program, the
Company purchases retail installment sales contracts from Third Party Dealers on
a full recourse basis. The dealer retains servicing rights and collects the
contract on behalf of the Company. The purchase price of the contracts is
generally 65% to 75% of the principal balance of the respective contracts. The
difference between the par value of the purchased contracts and the amount paid
by the Company is nonrefundable acquisition discount (the "acquired allowance").
The acquired allowance is allocated between acquired allowance available for
credit losses and acquired allowance available for accretion to interest income.
The portion of acquired allowance allocated to the allowance for credit losses
is based upon historical performance and write-offs of contracts acquired from
Third Party Dealers, as well as the general credit worthiness of the borrowers
and the wholesale value of the vehicle. The remaining acquired allowance, if
any, is deferred and accreted to income using the interest method.
Finance receivables consist of contractually scheduled payments from the
installment sales contracts net of unearned finance charges, accrued interest
receivable, direct loan origination costs, and an allowance for credit losses,
including acquired allowances.
Notes Receivable
Notes receivable are recorded at cost, less related allowance for impaired
notes receivable. Management, considering information and events regarding the
borrowers ability to repay their obligations, including an evaluation of the
estimated value of the related collateral, considers a note to be impaired when
it is probable that the Company will be unable to collect all amounts due
according to the contractual terms of the note agreement. When a loan is
considered to be impaired, the amount of impairment is measured based on the
present value of expected future cash flows discounted at the note's effective
interest rate. Impairment losses are included in the allowance for credit losses
through a charge to provision for credit losses. Cash receipts on impaired notes
receivable are applied to reduce the principal amount of such notes until the
principal has been received and are recognized as interest income, thereafter.
The Company follows the provisions of Statement of Financial Accounting
Standards No. 91, "Accounting for Nonrefundable Fees and Costs Associated with
Originating or Acquiring Loans and Initial Direct Costs of Leases". Accordingly,
direct loan origination costs are offset against loan origination fees with the
difference capitalized and amortized to finance income using a method.
Property and Equipment
Property and Equipment are stated at cost. Depreciation is computed using
straight-line and accelerated methods over the estimated useful lives of the
assets which range from three to ten years for equipment. Leasehold improvements
are amortized using straight-line and accelerated methods over the shorter of
the lease term or the estimated useful lives of the related improvements.
F-9
<PAGE> 94
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Goodwill
Goodwill, which represents the excess of purchase price over fair value of
net assets acquired, is amortized on a straight-line basis over the expected
periods to be benefited, generally fifteen years.
Income Taxes
The Company utilizes the asset and liability method of accounting for
income taxes. Under the asset and liability method, deferred tax assets and
liabilities are recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of existing assets
and liabilities and their respective tax bases. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income in the period that includes the
enactment date.
The Company has recognized income taxes pursuant to a Tax Sharing Agreement
between the Company and its parent. Under the terms of the agreement, the
Company is obligated to pay to its parent, amounts approximating the federal and
state income taxes incurred by the parent as a result of the Company's actual
contribution to the consolidated income taxes of its parent.
Stock Option Plan
The Company has adopted SFAS No. 123, Accounting for Stock-Based
Compensation, which permits entities to recognize as expense over the vesting
period the fair value of all stock-based awards on the date of grant.
Alternatively, SFAS No. 123 also allows entities to continue to apply the
provisions of APB Opinion No. 25 and provide pro forma net earnings and pro
forma earnings per share disclosures for employee stock option grants as if the
fair-value-based method defined in SFAS No. 123 had been applied. The Company
has elected to continue to apply the provisions of APB Opinion No. 25 and
provide the pro forma disclosure provisions of SFAS No. 123.
The Company uses one of the most widely used option pricing models, the
Black-Scholes model (the Model), for purposes of valuing its stock option
grants. The Model was developed for use in estimating the fair value of traded
options which have no vesting restrictions and are fully transferable. In
addition, it requires the input of highly subjective assumptions, including the
expected stock price volatility, expected dividend yields, the risk free
interest rate, and the expected life. Because the Company's stock options have
characteristics significantly different from those of traded options, and
because changes in subjective input assumptions can materially affect the fair
value estimate, in management's opinion, the value determined by the Model is
not necessarily indicative of the ultimate value of the granted options.
Earnings Per Share
Basic earnings per share is computed by dividing income available to the
common stockholder by the weighted-average number of common shares outstanding
for the period. Diluted earnings per share reflects the potential dilution that
could occur if securities or contracts to issue common stock were exercised or
converted into common stock or resulted in the issuance of common stock that
then shared in the earnings of the Company. For purposes of computing the pro
forma earnings per share for the periods presented, the Company has assumed the
maximum potential issuance of shares of common stock pursuant to its planned
rights offering, and the payment of dividends at a rate of 7.0% per annum as if
preferred stock totaling $40.0 million was outstanding for the periods
presented.
Impairment of Long-Lived Assets and Long-Lived Assets to Be Disposed Of
The Company reviews long-lived assets and certain identifiable intangibles
for impairment whenever events or changes in circumstances indicate the carrying
amount of an asset may not be recoverable.
F-10
<PAGE> 95
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Recoverability of assets to be held and used is measured by a comparison of the
carrying amount of an asset to future undiscounted net cash flows expected to be
generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceed the fair value of the assets. Assets to be disposed
of are reported at the lower of the carrying amount or fair value less costs to
sell.
(3) FINANCE RECEIVABLES AND ALLOWANCE FOR CREDIT LOSSES
A summary of finance receivables as of June 30, 1998 and December 31, 1997
follows (in thousands):
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1998 1997
----------- ------------
(UNAUDITED)
<S> <C> <C>
Installment Sales Contract Principal Balances....... $38,010 $27,481
Add: Accrued Interest Receivable.................... 209 147
------- -------
Principal Balances, Net............................. 38,219 27,628
Allowance for Credit Losses:
Finance Receivables............................... (1,202) (485)
Acquired Allowance................................ (10,394) (7,706)
Refundable Security Deposits...................... (290) (163)
------- -------
Finance Receivables, Net............................ $26,333 $19,274
======= =======
</TABLE>
A summary of allowance for credit losses on finance receivables for the
periods ended June 30, 1998 and December 31, 1997 follows (in thousands):
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1998 1997
----------- ------------
(UNAUDITED)
<S> <C> <C>
Balance, Beginning of Period......................... $ 8,191 $ --
Provision for Credit Losses........................ 935 491
Acquired Allowance................................. 3,410 7,706
Net Charge Offs.................................... (940) (6)
------- ------
Balance, End of Period............................... $11,596 $8,191
======= ======
</TABLE>
(4) NOTES RECEIVABLE
In July 1997, First Merchants Acceptance Corporation (FMAC) filed for
bankruptcy. Immediately subsequent to the bankruptcy filing, the Company
executed a loan agreement with FMAC to provide FMAC with up to $10.0 million in
debtor in possession (the DIP facility) financing. The DIP facility accrues
interest at 12.0%, was initially scheduled to mature on February 28, 1998, and
is secured by substantially all of FMAC's assets. The Company and FMAC
subsequently amended the DIP facility to increase the maximum commitment to
$21.5 million, decrease the interest rate to 10.0% per annum, and extend the
maturity date indefinitely. In connection with the amendment, FMAC pledged the
first $10.0 million of income tax refunds receivable, which FMAC anticipates
collecting in 1998, to the Company. The maximum commitment under the DIP
facility had been reduced to $12.4 million (unaudited) at June 30, 1998. Once
the proceeds from the income tax refunds are remitted to the Company, such
amounts permanently reduce the maximum commitment under the DIP facility.
Thereafter, the Company anticipates collecting the balance of the DIP facility
from distributions to FMAC from FMAC's residual interests in certain
securitization transactions. The outstanding balance on the DIP facility totaled
$10,312,000 (unaudited) and $10,868,000 at June 30, 1998 and December 31, 1997,
respectively.
F-11
<PAGE> 96
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
During the third and fourth fiscal quarters of 1997, the Company acquired
the senior bank debt of FMAC from the bank group members holding such debt. In
December 1997, a credit bid for the outstanding balance of the senior bank debt
plus certain fees and expenses (the "credit bid purchase price") was entered and
approved in the bankruptcy court resulting in the transfer of the senior bank
debt for the loan portfolio which secured the senior bank debt (the "owned
loans"). Simultaneous with the transfer to the Company, General Electric Capital
Corporation purchased the owned loans for 86% of the principal balance of the
loan portfolio, and the Company retained a 14% participation in the loan
portfolio (See note 7). FMAC has guaranteed that the Company will receive an
11.0% return on the credit bid purchase price from the cash flows generated by
the owned loans, and further collateralized by FMAC's residual interests in
certain securitization transactions. The balance of the participation totaled
$6,155,000 (unaudited) and $5,399,000 at June 30, 1998 and December 31, 1997,
respectively.
Various revolving notes receivable from used car dealers with a total
commitment of $11,700,000 (unaudited) and $8,750,000 at June 30, 1998 and
December 31, 1997, respectively, expiring through September 1999 with interest
rates ranging from prime plus 5.50% to prime plus 9.75% per annum (14% to 18.25%
at December 31, 1997), interest payable monthly. The respective revolving notes
subject the borrower to borrowing base requirements with advances on eligible
collateral (retail installment contracts) of sixty-five percent of the par value
of the underlying collateral. The balance outstanding on these revolving notes
receivable totaled $6,560,000 (unaudited), net of allowance for credit losses of
$230,000 (unaudited), at June 30, 1998 and $5,594,000, net of an allowance for
credit losses of $200,000, at December 31, 1997.
A summary of the allowance for credit losses for notes receivable for the
periods ended June 30, 1998 and December 31, 1997 follows (in thousands):
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1998 1997
----------- ------------
(UNAUDITED)
<S> <C> <C>
Balance, Beginning of Period...... $200 $ --
Provision for Credit Losses....... 30 200
Net Charge Offs................... -- --
---- ----
Balance, End of Period............ $230 $200
==== ====
</TABLE>
(5) PROPERTY AND EQUIPMENT
A summary of Property and Equipment as of June 30, 1998 and December 31,
1997 follows (in thousands):
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1998 1997
----------- ------------
(UNAUDITED)
<S> <C> <C>
Furniture and Equipment (note
7).............................. $2,545 $ 666
Leasehold Improvements............ 44 44
Vehicles.......................... 63 63
------ ------
2,652 773
Less Accumulated Depreciation and
Amortization.................... (317) (127)
------ ------
Property and Equipment, Net....... $2,335 $ 646
====== ======
</TABLE>
Depreciation expense relating to property and equipment totaled $190,000
(unaudited) and $127,000 for the periods ended June 30, 1998 and December 31,
1997, respectively.
F-12
<PAGE> 97
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
(6) GOODWILL
A summary of goodwill as of June 30, 1998 and December 31, 1997 follows (in
thousands):
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1998 1997
----------- ------------
(UNAUDITED)
<S> <C> <C>
Goodwill.......................... $1,204 $1,204
Accumulated Amortization.......... (66) (26)
------ ------
Goodwill, Net..................... $1,138 $1,178
====== ======
</TABLE>
Amortization expense relating to goodwill totaled $40,000 (unaudited) and
$26,000 for the periods ended June 30, 1998 and December 31 1997, respectively.
(7) OTHER ASSETS
A summary of Other Assets as of June 30, 1998 and December 31, 1997 follows
(in thousands):
<TABLE>
<CAPTION>
JUNE 30, 1998 DECEMBER 31, 1997
------------- -----------------
(UNAUDITED)
<S> <C> <C>
Servicing Fees Receivable...... $2,983 $ --
Due from GE Capital
Corporation.................. 700 3,000
Offering Costs................. 601 --
Investment in Marketable
Securities (note 5).......... -- 1,451
Due from First Merchants
Acceptance Corp.............. -- 971
Other Assets................... 1,231 428
------ ------
$5,515 $5,850
====== ======
</TABLE>
In connection with the GE Capital Corporation purchase of the owned loans,
a sum of $3,000,000 was held in escrow pending completion of certain conditions
precedent. Such conditions were substantially satisfied subsequent to December
31, 1997 and $2.3 million of the funds were remitted to the Company. The Company
expects to begin collecting the remaining balance in December 1998.
During March 1998, the Bankruptcy Court handling the bankruptcy of FMAC
(note 4) approved the exchange of the $1,451,000 investment in common stock of
FMAC held by the Company for the property and equipment that constitute FMAC's
loan servicing platform.
(8) ADVANCES FROM AFFILIATE
Advances from Affiliate represent balances due to Ugly Duckling to fund the
Company's bulk purchase, servicing and third party dealer financing operations.
The balance will be paid in full at such time that the Company consummates the
split-up. The Advances to Affiliate balance outstanding to Ugly Duckling totaled
$15,818,000 (unaudited) and $9,106,000 at June 30, 1998 and December 31, 1997,
respectively.
The Company recorded interest expense totaling $1,696,000 (unaudited)
during the six month period ended June 30, 1998 and $2,017,000 during the year
ended December 31, 1997 related to this advance.
(9) NOTE PAYABLE
The Company has executed a note payable with an unrelated party which calls
for annual payments of $120,000. Interest has been imputed at 10%. The note
which matures in May 2000 is secured by certain
F-13
<PAGE> 98
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
furniture and equipment. The balance related to this note payable totaled
$298,000 (unaudited) and $380,000 at June 30, 1998 and at December 31, 1997,
respectively.
(10) INCOME TAXES
Income taxes amounted to $3,728,000, for the year ended December 31, 1997
(an effective corporate income tax rate of 40.2%). A reconciliation between
taxes computed at the federal statutory rate of 34% in 1997 (the "Expected"
income taxes) and the Company's effective taxes follows (in thousands):
<TABLE>
<CAPTION>
AMOUNT
------
<S> <C>
Computed "Expected" Income Taxes.................... $3,150
State Income Taxes, Net of Federal Effect........... 585
Other, Net.......................................... (7)
------
$3,728
======
</TABLE>
Components of income taxes (benefit) for the year ended December 31, 1997
follows (in thousands):
<TABLE>
<CAPTION>
CURRENT DEFERRED TOTAL
------- -------- ------
<S> <C> <C> <C>
Federal.................................................. $2,841 $ -- $2,841
State.................................................... 887 -- 887
------ ----- ------
$3,728 $ -- $3,728
====== ===== ======
</TABLE>
(11) LEASE COMMITMENTS
The Company leases certain office space and equipment from unrelated
entities under various operating leases which expire through August 2001. The
leases require monthly rental payments aggregating approximately $30,000 and
contain various renewal options from one to ten years. The Company is also
responsible for occupancy and maintenance costs, including real estate taxes,
insurance, and utility costs. Rent expense totaled $315,000 (unaudited) for the
six months ended June 30, 1998 and $270,000 for the year ended December 31,
1997.
A summary of future minimum lease payments required under noncancelable
operating leases with remaining lease terms in excess of one year as of December
31, 1997 follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31, AMOUNT
- ------------ ------
<S> <C>
1998................................................ $ 293
1999................................................ 302
2000................................................ 320
2001................................................ 213
------
Total..................................... $1,128
======
</TABLE>
(12) STOCKHOLDER'S EQUITY
The Company has authorized 14,000,000 shares of $.001 par value common
stock. There was one share issued and outstanding at December 31, 1997. However,
in connection with the proposed split-up, the Company expects to issue up to a
maximum number of shares of common stock totaling approximately 5,679,000 upon
closure of the proposed rights offering. The accompanying proforma earnings per
share
F-14
<PAGE> 99
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
amounts included in these combined financial statements have been presented to
reflect the expected issuance of these shares.
The Company has authorized 500,000 shares of $.001 par value preferred
stock. There were no shares issued and outstanding at June 30, 1998 or at
December 31, 1997.
(13) STOCK OPTION PLAN
Concurrent with the split-up of Ugly Duckling, the Company will adopt a
long-term incentive plan (stock option plan). The stock option plan will set
aside 1,050,000 shares of common stock to be granted to employees at a price of
not less than fair market value of the stock at the date of grant. Options are
to vest over a period to be determined by the Board of Directors upon grant and
will generally expire ten years after the date of grant. The options generally
vest over a period of five years.
Concurrent with the establishment of the plan, the Company's Board of
Directors intend to approve the grant of certain options to employees of the
Company who had formerly received stock option grants under the Ugly Duckling
long-term incentive plan. These employees forfeited their Ugly Duckling stock
options in exchange for the grants they received under this plan. In the opinion
of management, the value of these grants approximates the value of the options
forfeited by the respective employees.
The Company applies APB Opinion 25 in accounting for its Plan, and
accordingly, no compensation cost has been recognized for its stock options in
the combined financial statements. Had the Company determined compensation cost
based on the fair value at the grant date for its stock options under SFAS No.
123, the Company's net earnings and earnings per share for the year ended
December 31, 1997, as if the options granted by Ugly Duckling had been granted
by the Company, would have been reduced to the pro forma amounts indicated
below:
<TABLE>
<CAPTION>
AMOUNT
----------
<S> <C> <C>
Net Earnings As reported.......................... $5,536,000
Pro forma............................ $5,397,000
Basic/Diluted Earnings As reported.......................... $5,536,000
per share Pro forma............................ $5,397,000
Proforma Basic Earnings As reported.......................... $ 0.48
per Share Pro forma as adjusted................ $ 0.46
Proforma Diluted Earnings As reported.......................... $ 0.48
per Share Pro forma as adjusted................ $ 0.46
</TABLE>
F-15
<PAGE> 100
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
(14) EARNINGS (LOSS) PER SHARE
A reconciliation from basic earnings (loss) per share to diluted earnings
(loss) per share for the periods ended June 30, 1998, June 30 1997 and December
31, 1997 follows:
<TABLE>
<CAPTION>
JUNE 30, JUNE 30, DECEMBER 31,
1998 1997 1997
----------- ----------- ------------
(UNAUDITED)
<S> <C> <C> <C>
Net Earnings (Loss)................. $ 360,000 $ (585,000) $5,536,000
=========== =========== ==========
Income (Loss) available to Common
Stockholders...................... $ 360,000 $ (585,000) $5,536,000
=========== =========== ==========
Basic EPS -- Weighted Average Shares
Outstanding....................... 1 1 1
=========== =========== ==========
Basic EPS -- Proforma Weighted
Average Shares Outstanding........ 5,679,000 5,679,000 5,679,000
=========== =========== ==========
Basic/Diluted EPS -- Weighted
Average Shares Outstanding........ 5,679,000 5,679,000 5,679,000
Effect of Dilutive Securities:
Stock Options..................... -- -- 4,000
----------- ----------- ----------
Diluted EPS -- Proforma Weighted
Average Shares Outstanding........ 5,679,000 5,679,000 5,683,000
=========== =========== ==========
Basic/Diluted Earnings (Loss) Per
Share............................. $ 360,000 $ (585,000) $5,536,000
=========== =========== ==========
Net Earnings (Loss)................. $ 360,000 $ (585,000) $5,536,000
Proforma Dividends on Preferred
Stock............................. (1,400,000) (1,400,000) (2,800,000)
----------- ----------- ----------
Proforma Net Earnings (Loss)
Available to Common
Stockholders...................... $(1,040,000) $(1,985,000) $2,736,000
=========== =========== ==========
Proforma Basic Earnings (Loss) Per
Share............................. $(0.18) $(0.35) $0.48
------ ------ ------
------ ------ ------
Proforma Diluted Earnings (Loss) Per
Share............................. $(0.18) $(0.35) $0.48
------ ------ ------
------ ------ ------
</TABLE>
Pro forma net earnings (loss) per share calculations give effect to the
maximum potential issuance of shares of common stock totaling approximately
5,679,000 shares offered pursuant to the rights offering and annual preferred
dividends of 7% paid quarterly.
(15) COMMITMENTS AND CONTINGENCIES
The Company has commenced a study of its computer systems in order to
assess its exposure to year 2000 issues. The Company expects to make the
necessary modifications or changes to its computer information systems to enable
proper processing of transactions relating to the year 2000 and beyond. The
Company will evaluate appropriate courses of action, including replacement of
certain systems whose associated costs would be recorded as assets and
subsequently amortized, or modification of its existing systems which costs
would be expensed as incurred.
The Company is involved in various claims and actions arising in the
ordinary course of business. In the opinion of management, based on consultation
with legal counsel, the ultimate disposition of these matters will not have a
material adverse effect on the Company. No provision has been made in the
accompanying
F-16
<PAGE> 101
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
combined financial statements for losses, if any, that might result from the
ultimate disposition of these matters.
During 1997, the Company acquired certain notes receivable collateralized
by a loan portfolio. Thereafter, the Company exchanged the notes receivable for
the underlying collateral (the acquired collateral) and received a guarantee
from the borrower of an 11.0% return on the acquired collateral. General
Electric Capital Corporation purchased the acquired collateral, and Ugly
Duckling guaranteed to General Electric Capital Corporation a return of 10.35%,
not to exceed $10,000,000. The Company has agreed to indemnify Ugly Duckling
related to this guarantee.
During 1997, the Company acquired approximately 2.5% of the outstanding
common stock of FMAC with a cost of approximately $1,450,000. In connection with
FMAC's proposed plan of reorganization, and subject to bankruptcy court
approval, the Company and FMAC have agreed to exchange the Company's common
stock in FMAC for the property and equipment that constitute FMAC's servicing
platform. The Company received bankruptcy court approval for the plan of
reorganization during the first fiscal quarter of 1998 and exchanged the common
stock in FMAC for the servicing platform immediately thereafter.
The Company has executed agreements with FMAC and other interested parties
whereby the Company has agreed to replace FMAC as servicer on loan portfolios
which totaled approximately $525 million at December 31, 1997. The agreements
were approved by the bankruptcy court and the Company began servicing the loan
portfolios on April 1, 1998.
(16) RETIREMENT PLAN
During 1995, Ugly Duckling established a qualified 401(k) retirement plan
(defined contribution plan) which became effective on October 1, 1995. Under the
terms of the plan, employees of the Company are eligible to participate in the
plan subject to the eligibility criteria of the plan. The plan, as amended,
covers substantially all employees having no less than three months of service,
have attained the age of 21, and work at least 1,000 hours per year.
Participants may voluntarily contribute to the plan up to the maximum limits
established by Internal Revenue Service regulations. The Company will match 10%
of the participants' contributions. Participants are immediately vested in the
amount of their direct contributions and vest over a five-year period, as
defined by the plan, with respect to the Company's contribution. Pension expense
for the six months ended June 30, 1998 and year ended December 31, 1997 was
immaterial. Concurrent with the completion of the planned split-up of Ugly
Duckling, the Company expects to adopt a separate plan which will be similar in
all material respects to the plan described herein.
(17) DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107, "Disclosures about
Fair Value of Financial Instruments," requires that the Company disclose
estimated fair values for its financial instruments. The following summary
presents a description of the methodologies and assumptions used to determine
such amounts.
Limitations
Fair value estimates are made at a specific point in time and are based on
relevant market information and information about the financial instrument; they
are subjective in nature and involve uncertainties, matters of judgment and,
therefore, cannot be determined with precision. These estimates do not reflect
any premium or discount that could result from offering for sale at one time the
Company's entire holdings of a particular instrument. Changes in assumptions
could significantly affect these estimates.
Since the fair value is estimated as of December 31, 1997, the amounts that
will actually be realized or paid in settlement of the instruments could be
significantly different.
F-17
<PAGE> 102
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Cash and Cash Equivalents
The carrying amount is estimated to be the fair value because of the
liquidity of these instruments.
Finance Receivables and Notes Receivable
The carrying amount is estimated to be the fair value because of the
relative short maturity and repayment terms of the portfolio as compared to
similar instruments.
Accrued Expenses and Other Liabilities and Note Payable
The carrying amount approximates fair value because of the short maturity
of these instruments. The terms of the Company's note payable approximate the
terms in the market place at which it could be replaced. Therefore, the fair
market value approximates the carrying value of these financial instruments.
(18) BUSINESS SEGMENTS
Operating results and other financial data are presented for the principal
business segments of the Company for the year ended December 31, 1997. The
Company has three distinct business segments. These consist of finance income
generated from third party finance receivables, bulk purchasing operations, and
corporate and other operations.
In computing operating profit by business segment, the following items were
considered in the Corporate and Other category: portions of administrative
expenses, interest expense and other items not considered direct operating
expenses. Identifiable assets by business segment are those assets used in each
segment of Company operations.
<TABLE>
<CAPTION>
CYGNET BULK CORPORATE
PROGRAM PURCHASING AND OTHER TOTAL
------- ---------- --------- -------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Interest Income................................... $ 3,654 $ 3,818 $ -- $ 7,472
Gain on Sale of Loans............................. -- 8,132 -- 8,132
Other Income...................................... 355 -- -- 355
------- ------- --------- -------
4,009 11,950 -- 15,959
------- ------- --------- -------
Operating Expenses:
Provision for Credit Losses..................... 691 -- -- 691
Selling and Marketing........................... 18 -- -- 18
General and Administrative...................... 2,194 437 1,135 3,766
Depreciation and Amortization................... 28 -- 125 153
------- ------- --------- -------
2,931 437 1,260 4,628
------- ------- --------- -------
Earnings (Loss) before Interest Expense........... $ 1,078 $11,513 $ (1,260) $11,331
======= ======= ========= =======
Capital Expenditures.............................. $ 17 $ -- $ 129 $ 146
======= ======= ========= =======
Identifiable Assets............................... $27,539 $21,525 $ 970 $50,034
======= ======= ========= =======
</TABLE>
F-18
<PAGE> 103
CYGNET FINANCIAL CORPORATION
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
(19) QUARTERLY FINANCIAL DATA -- UNAUDITED
A summary of the quarterly data for the year ended December 31, 1997
follows (in thousands, except per share amounts):
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER TOTAL
------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
Total Revenue............................... $ 5 $ 132 $3,337 $12,485 $15,959
====== ====== ====== ======= =======
Operating Expenses.......................... 509 570 1,332 2,217 4,628
====== ====== ====== ======= =======
Earnings (Loss) before Interest Expense..... (504) (438) 2,005 10,268 11,331
====== ====== ====== ======= =======
Net Earnings (Loss)......................... $ (306) $ (279) $ 757 $ 5,364 $ 5,536
====== ====== ====== ======= =======
Basic/Diluted Earnings (Loss) Per Share..... $ (306) $ (279) $ 757 $ 5,364 $ 5,536
====== ====== ====== ======= =======
Proforma Basic Earnings (Loss) Per Share.... $(0.18) $(0.17) $0.01 $0.82 $0.48
====== ====== ====== ======= =======
Proforma Diluted Earnings (Loss) Per
Share..................................... $(0.18) $(0.17) $0.01 $0.82 $0.48
====== ====== ====== ======= =======
</TABLE>
A summary of the quarterly data for the six months ended June 30, 1998
follows (in thousands, except per share amounts):
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER TOTAL
------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
Total Revenue............................... $3,382 $9,168 $ -- $ -- $12,550
====== ====== ====== ======= =======
Operating Expenses.......................... 2,526 7,706 -- -- 10,232
====== ====== ====== ======= =======
Earnings before Interest Expense............ 856 1,462 -- -- 2,318
====== ====== ====== ======= =======
Net Earnings................................ $ 2 $ 358 $ -- $ -- $ 360
====== ====== ====== ======= =======
Basic/Diluted Earnings Per Share............ $ 2 $ 358 $ -- $ -- $ 360
====== ====== ====== ======= =======
Proforma Basic Earnings (Loss) Per Share.... $(0.12) $(0.06) $ -- $ -- $ (0.18)
====== ====== ====== ======= =======
Proforma Diluted Earnings (Loss) Per
Share..................................... $(0.12) $(0.06) $ -- $ -- $ (0.18)
====== ====== ====== ======= =======
</TABLE>
F-19
<PAGE> 104
- ------------------------------------------------------
- ------------------------------------------------------
NO DEALER, SALESMAN, OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATION NOT CONTAINED IN THIS PROSPECTUS AND,
IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS
HAVING BEEN AUTHORIZED BY THE COMPANY OR ANY OTHER PERSONS. NEITHER THE DELIVERY
OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES,
CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF THE
COMPANY SINCE THE DATE HEREOF. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER OF
ANY SECURITIES OTHER THAN THOSE TO WHICH IT RELATES OR AN OFFER TO SELL, OR A
SOLICITATION OF AN OFFER TO BUY, TO ANY PERSON IN ANY JURISDICTION WHERE SUCH AN
OFFER OR SOLICITATION WOULD BE UNLAWFUL.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Prospectus Summary.................... 3
Risk Factors.......................... 13
The Rights Offering................... 26
Federal Income Tax Consequences....... 39
Use of Proceeds....................... 41
Dividend Policy....................... 41
Capitalization........................ 42
Selected Combined Financial Data...... 43
Management's Discussion and Analysis
of Financial Condition and Results
of Operations....................... 45
Business.............................. 54
Management............................ 68
Principal Stockholders................ 76
Certain Relationships and Related
Transactions........................ 78
Description of Capital Stock.......... 79
Shares Eligible for Future Sale....... 81
Legal Matters......................... 82
Available Information................. 82
Experts............................... 83
Index to Financial Statements......... F-1
</TABLE>
- ------------------------------------------------------
- ------------------------------------------------------
- ------------------------------------------------------
- ------------------------------------------------------
5,678,572
SHARES OF COMMON STOCK
AND
4,750,000
RIGHTS TO PURCHASE COMMON STOCK
[CYGNET FINANCIAL CORP. LOGO]
------------------------
PROSPECTUS
------------------------
August , 1998
- ------------------------------------------------------
- ------------------------------------------------------
<PAGE> 105
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
Other expenses in connection with the issuance and distribution of the
securities to be registered hereunder, all of which will be paid by the
registrant, will be substantially as follows:
<TABLE>
<CAPTION>
ITEM AMOUNT
- ---- ----------
<S> <C>
SEC Registration Fee........................................ $ 11,726
*Exchange Filing Fee........................................ 58,725
*Blue Sky Fees and Expenses (including legal fees).......... 10,000
*Accounting Fees and Expenses............................... 75,000
*Legal Fees and Expenses.................................... 250,000
*Printing and Engraving..................................... 200,000
*Registrar and Transfer Agent's Fees........................ 10,000
*Investment Banker and Appraisal Fees....................... 610,000
*Miscellaneous Expenses..................................... 49,549
----------
Total............................................. $1,275,000
==========
</TABLE>
- ---------------
* Estimated
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS
The Company's Certificate of Incorporation provides that to the fullest
extent permitted by Delaware law, a director of the Company shall not be
personally liable to the Company or its stockholders for monetary damages for
breach of such director's fiduciary duty except (i) for any breach of the
director's duty of loyalty to the Company or its stockholders; (ii) for acts or
omissions not in good faith or that involve intentional misconduct or a knowing
violation of law; (iii) for payments of dividends or stock purchases or
redemptions in violation of Section 174 of the Delaware General Corporation Law;
or (iv) for any transaction from which the director derived an improper personal
benefit. In addition, the Company's Certificate of Incorporation provides that
the Company shall to the fullest extent authorized by the Delaware General
Corporation Law, as the same exists or may hereafter be amended (but, in the
case of any such amendment, only to the extent that such amendment permits the
corporation to provide broader indemnification rights than such law permitted
the corporation to provide prior to such amendment), indemnify and hold harmless
any person who was or is a party, or is threatened to be made a party to or is
otherwise involved in any threatened, pending or completed action, suit or
proceeding, whether civil, criminal, administrative or investigative by reason
of the fact that such person is or was a director or officer of the corporation,
or is or was serving at the request of the corporation as a director, officer,
employee or agent of another corporation, partnership, joint venture, trust or
other enterprise, including service with respect to an employee benefit plan
(hereinafter an "Indemnitee") against expenses, liabilities and losses
(including attorneys' fees, judgments, fines, excise taxes or penalties paid in
connection with the Employee Retirement Income Security Act of 1974, as amended,
and amounts paid in settlement) reasonably incurred or suffered by such
Indemnitee in connection therewith; provided, however, that except as otherwise
provided with respect to proceedings to enforce rights to indemnification, the
Company shall indemnify any such Indemnitee in connection with a proceeding (or
part thereof) initiated by such Indemnitee only if such proceeding or part
thereof was authorized by the board of directors of the Company.
The right to indemnification set forth above includes the right to be paid
by the Company the expenses (including attorneys' fees) incurred in defending
any such proceeding in advance of its final disposition; provided, however,
that, if the Delaware General Corporation Law requires, an advancement of
expenses incurred by an Indemnitee in his capacity as a director or officer (and
not in any other capacity in which
II-1
<PAGE> 106
service was or is rendered by such Indemnitee, including, without limitation,
service to an employee benefit plan) shall be made only upon delivery to the
Company of an undertaking, by or on behalf of such Indemnitee, to repay all
amounts so advanced if it shall ultimately be determined by final judicial
decision from which there is not further right to appeal that such Indemnitee is
not entitled to be indemnified for such expenses under this section or
otherwise. The rights to indemnification and to the advancement of expenses
described above are contract rights and continue as to an Indemnitee who has
ceased to be a director, officer, employee or agent and inure to the benefit of
the Indemnitee's heirs, executors and administrators.
The Delaware General Corporation Law provides that indemnification is
permissible only when the director, officer, employee, or agent acted in good
faith and in a manner reasonably believed to be in or not opposed to the best
interests of the Company, and, with respect to any criminal action or
proceeding, had no reasonable cause to believe the conduct was unlawful. The
Delaware General Corporation Law also precludes indemnification in respect of
any claim, issue, or matter as to which an officer, director, employee, or agent
shall have been adjudged to be liable to the Company unless and only to the
extent that the Court of Chancery or the court in which such action or suit was
brought shall determine that, despite such adjudication of liability but in view
of all the circumstances of the case, such person is fairly and reasonably
entitled to indemnity for such expenses which the Court of Chancery or such
other court shall deem proper.
For information regarding the Company's undertaking to submit to
adjudication the issue of indemnification for violation of the securities laws,
see Item 17 hereof.
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES
The Company issued one share of Common Stock to UDC in consideration for
which UDC will pay $10,000. Exemption from registration for this transaction was
claimed pursuant to Section 4(2) of the Securities Act regarding transactions by
an issuer not involving any public offering. The Company believes that the sale
of the single share of Common Stock to UDC was a transaction not involving a
public offering because UDC was the sole purchaser, purchased the share without
a view to further distribution, and is uniquely positioned to understand the
merits and risks of the business to be conducted by the Company.
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULE
(a) Exhibits:
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
- ------- ----------------------
<C> <S>
3.1(a) Amended and Restated Certificate of Incorporation of the
Registrant*
3.1(b) Certificate of Amendment to the Certificate of Incorporation
of the Registrant*
3.2 Bylaws of the Registrant*
4.1(a) Amended and Restated Certificate of Incorporation of the
Registrant (filed as Exhibit 3.1(a))
4.1(b) Certificate of Amendment to the Certificate of Incorporation
of the Registrant (filed as Exhibit 3.1(b))
4.2 Form of Certificate representing Common Stock*
4.3 Form of Certificate representing Rights and correspondence
regarding same*
4.4 Form of Certificate representing Preferred Stock*
4.5 Form of Preferred Stock Certificate of Designations*
4.6 Form of Warrant Agreement, by and between the Registrant and
Ernest C. Garcia II*
5 Opinion of Snell & Wilmer L.L.P. regarding the legality of
the securities being registered*
8 Opinion of Snell & Wilmer L.L.P. regarding tax matters*
10.1(a) Assignment of Loan and Bank Claim dated as of August 20,
1997 among Ugly Duckling Corporation ("UDC") and certain
banks, as assignors(1)*
10.1(b) Security Agreement dated as of August 20, 1997 among UDC, as
obligor, and certain banks(1)*
10.1(c) Payment Guaranty dated as of August 20, 1997 of certain
affiliates of UDC, as guarantors(1)*
10.2 Cygnet Financial Corporation 1998 Stock Incentive Plan*
10.3 Restricted Stock Grant from the Registrant to S. Johnson*
10.4 Employment Agreement between UDC and Ernest C. Garcia II*
10.5 Amended and Restated Employment Agreement between Duck
Ventures, Inc. and Donald L. Addink*
</TABLE>
II-2
<PAGE> 107
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
- ------- ----------------------
<C> <S>
10.6 Employment Agreement between the Registrant and Eric J.
Splaver*
10.7 Employment Agreement between the Registrant and Gregory R.
Ciccolini*
10.8 Binding Agreement to Propose and Support Modified Plan
Agreement dated as of December 15, 1997 among UDC, FMAC and
the Official Committee of Unsecured Creditors of FMAC(2)*
10.9 Purchase Agreement dated as of December 18, 1997 by and
among the Contract Purchaser, UDC and LaSalle National Bank,
as Agent(2)*
10.10 Guaranty dated as of December 18, 1997 by UDC in favor of
the Contract Purchaser(2)*
10.11 Servicing Agreement dated as of December 18, 1997 between
UDC and the Contract Purchaser(2)*
10.12 FMAC Guaranty and Stock Pledge Agreement among FMAC, UDC and
certain banks(3)*
10.13 Contribution Agreement between UDC and FMAC(4)*
10.14 Building Lease Agreement for property located at the
Principal Executive Offices*
10.15 Building Sublease Agreement #1 with Consent to Sublease, for
property located at Principal Executive Offices*
10.16 Building Sublease Agreement #2 with Consent to Sublease, for
property located at Principal Executive Offices*
10.17 Credit and Security Agreement between UDC and First
Merchants Acceptance Corp. ("FMAC"), dated as of July 17,
1997(5)*
10.18(a) First Amendment to Credit and Security Agreement between UDC
and FMAC, dated as of January 21, 1998(5)*
10.18(b) Second Amendment to Credit and Security Agreement between
UDC and FMAC, dated as of April 1, 1998(5)*
10.19 Loan Agreement by and among the Registrant, Kayne Anderson
Non-Traditional Investments, L.P. ("Kayne Anderson"), and
certain other lenders (the "Lenders"), dated July 20, 1998*
10.20 Payment Guaranty by UDC in favor of Kayne Anderson and the
Lenders, dated as of July 20, 1998*
10.21 Servicing Agreement by and among Reliance Acceptance
Corporation, UDC, and certain lenders*
10.22 Agreement of Understanding by and among Reliance Acceptance
Corporation, UDC and others*
10.23 Form of Capitalization Agreement relating to the Split-up,
by and among the Registrant, UDC and certain of their
affiliates*
10.24 Form of Escrow Agreement relating to the Rights Offering, by
and between the Registrant and Norwest Bank Minnesota,
National Association, as Escrow Agent*
10.25 Form of Rights Exercise and Standby Purchase Agreement, by
and between the Registrant and Ernest C. Garcia II*
11 Earnings (Loss) per Share Computation (see Note 14 to Notes
to Consolidated Financial Statements)*
21 List of subsidiaries*
23.1 Consent of KPMG Peat Marwick LLP
23.2 Consent of Snell & Wilmer L.L.P. (included in Exhibit 5)*
23.3 Consent of Willamette Management Associates
24 Power of Attorney (included in signature pages)
27 Financial Data Schedule*
</TABLE>
- ---------------
* Previously filed.
(1) Incorporated by reference to UDC's Current Report on Form 8-K, filed
September 5, 1997.
(2) Incorporated by reference to UDC's Current Report on Form 8-K, filed January
2, 1998.
(3) Incorporated by reference to UDC's Annual Report on Form 10-K, filed March
1, 1998.
(4) Incorporated by reference to UDC's Registration Statement on Form S-1
(Registration No. 333-42973) effective February 11, 1998.
(5) Incorporated by reference to UDC's Quarterly Report on Form 10-Q, filed May
15, 1998.
II-3
<PAGE> 108
ITEM 17. UNDERTAKINGS
The undersigned Registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being
made, a post-effective amendment to this registration statement:
(i) To include any prospectus required by section 10(a)(3) of the
Securities Act of 1933;
(ii) To reflect in the prospectus any facts or events arising after
the effective date of the registration statement (or the most recent
post-effective amendment thereof) which, individually or in the
aggregate, represent a fundamental change in the information set forth
in the registration statement. Notwithstanding the foregoing, any
increase or decrease in volume of securities offered (if the total
dollar value of securities offered would not exceed that which was
registered) and any deviation from the low or high end of the estimated
maximum offering range may be reflected in the form of prospectus filed
with the Commission pursuant to Rule 424(b) if, in the aggregate, the
changes in volume and price represent no more than a 20% change in the
maximum aggregate offering price set forth in the "Calculation of
Registration Fee" table in the effective registration statement;
(iii) To include any material information with respect to the plan
of distribution not previously disclosed in the registration statement
or any material change to such information in the registration
statement;
(2) That, for the purpose of determining any liability under the
Securities Act of 1933, each such post-effective amendment shall be deemed
to be a new registration statement relating to the securities offered
therein, and the offering of such securities at that time shall be deemed
to be the initial bona fide offering thereof.
(3) To remove from registration by means of a post-effective amendment
any of the securities being registered which remain unsold at the
termination of the offering.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the foregoing provisions, or otherwise, the Registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Act and is,
therefore, unenforceable. In the event that a claim for indemnification against
such liabilities (other than the payment by the Registrant of expenses incurred
or paid by a director, officer or controlling person of the Registrant in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the Registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Act and will be governed by the final adjudication of
such issue.
The undersigned registrant hereby undertakes to supplement the prospectus,
after the expiration of the subscription period, to set forth the results of the
subscription offer, the transactions by the underwriters during the subscription
period, the amount of unsubscribed securities to be purchased by the
underwriters, and the terms of any subsequent reoffering thereof. If any public
offering by the underwriters is to be made on terms differing from those set
forth on the cover page of the prospectus, a post-effective amendment will be
filed to set forth the terms of such offering.
The undersigned registration hereby undertakes to deliver or cause to be
delivered with the prospectus, to each person to whom the prospectus is sent or
given, the latest annual report, to security holders that is incorporated by
reference in the prospectus and furnished pursuant to and meeting the
requirements of Rule 14a-3 or Rule 14c-3 under the Securities Exchange Act of
1934; and, where interim financial information required to be presented by
Article 3 of Regulation S-X is not set forth in the prospectus, to deliver, or
cause to be delivered to each person to whom the prospectus is sent or given,
the latest quarterly
II-4
<PAGE> 109
report that is specifically incorporated by reference in the prospectus to
provide such interim financial information.
The undersigned Registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities Act
of 1933, the information omitted from the form of prospectus filed as part
of this Registration Statement in reliance upon Rule 430A and contained in
a form of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or
(4), or 497(h) under the Securities Act shall be deemed to be part of this
Registration Statement as of the time it was declared effective.
(2) For the purpose of determining any liability under the Securities
Act of 1933, each post-effective amendment that contains a form of
prospectus shall be deemed to be a new Registration Statement relating to
the securities offered therein, and the offering of such securities at that
time shall be deemed to be the initial bona fide offering thereof.
II-5
<PAGE> 110
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the registrant
has duly caused this Amendment No. 2 to the Registration Statement to be signed
on its behalf by the undersigned, thereunto duly authorized, in the City of
Phoenix, State of Arizona, on August 3, 1998.
Cygnet Financial Corporation
By: /s/ ERNEST C. GARCIA, II
------------------------------------
Ernest C. Garcia, II
Chairman of the Board,
Chief Executive Officer, and
President
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS that each person whose signature appears
below constitutes and appoints Ernest C. Garcia, II and Steven P. Johnson, and
each of them, as his true and lawful attorneys-in-fact and agents, with full
power of substitution and resubstitution, for him and in his name, place and
stead, in any and all capacities, to sign any and all amendments to this Form
S-1 Registration Statement and to sign any registration statement for the same
offering that is to be effective upon filing pursuant to Rule 462(b) of the
Securities Act, and to file the same, with all exhibits thereto, and all
documents in connection therewith, with the Commission, granting unto said
attorneys-in-fact and agents, and each of them, in full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in and about the premises, as fully and to all intents and purposes as he might
or could do in person hereby ratifying and confirming that all said
attorneys-in-fact and agents, or his substitute or substitutes, may lawfully do
or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons in the
capacities and on the dates indicated.
<TABLE>
<CAPTION>
NAME AND SIGNATURE TITLE DATE
------------------ ----- ----
<C> <S> <C>
/s/ ERNEST C. GARCIA, II Chairman of the Board, Chief August 3, 1998
- --------------------------------------------------- Executive Officer, and President
Ernest C. Garcia, II (Principal executive officer)
* Director August 3, 1998
- ---------------------------------------------------
Robert J. Abrahams
* Director August 3, 1998
- ---------------------------------------------------
Christopher D. Jennings
* Director August 3, 1998
- ---------------------------------------------------
Gary L. Trujillo
* Director August 3, 1998
- ---------------------------------------------------
Frank P. Willey
* Chief Financial Officer (Principal August 3, 1998
- --------------------------------------------------- financial officer and principal
Eric J. Splaver accounting officer)
By: /s/ ERNEST C. GARCIA, II
---------------------------------------------
*Ernest C. Garcia, II
(Attorney-in-fact)
</TABLE>
II-6
<PAGE> 111
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
- ------- ----------------------
<C> <S>
3.1(a) Amended and Restated Certificate of Incorporation of the
Registrant
3.1(b) Certificate of Amendment to the Certificate of Incorporation
of the Registrant
3.2 Bylaws of the Registrant (previously filed)
4.1(a) Amended and Restated Certificate of Incorporation of the
Registrant (filed as Exhibit 3.1(a))
4.1(b) Certificate of Amendment to the Certificate of Incorporation
of the Registrant (filed as Exhibit 3.1(b))
4.2 Form of Certificate representing Common Stock
4.3 Form of Certificate representing Rights and correspondence
regarding same
4.4 Form of Certificate representing Preferred Stock
4.5 Form of Preferred Stock Certificate of Designations
4.6 Form of Warrant Agreement, by and between the Registrant and
Ernest C. Garcia II (previously filed)
5 Opinion of Snell & Wilmer L.L.P. regarding the legality of
the securities being registered (previously filed)
8 Opinion of Snell & Wilmer L.L.P. regarding tax matters
10.1(a) Assignment of Loan and Bank Claim dated as of August 20,
1997 among Ugly Duckling Corporation ("UDC") and certain
banks, as assignors(1)
10.1(b) Security Agreement dated as of August 20, 1997 among UDC, as
obligor, and certain banks(1)
10.1(c) Payment Guaranty dated as of August 20, 1997 of certain
affiliates of UDC, as guarantors(1)
10.2 Cygnet Financial Corporation 1998 Stock Incentive Plan
10.3 Restricted Stock Grant from the Registrant to S. Johnson
10.4 Employment Agreement between UDC and Ernest C. Garcia II
(previously filed)
10.5 Amended and Restated Employment Agreement between Duck
Ventures, Inc. and Donald L. Addink (previously filed)
10.6 Employment Agreement between the Registrant and Eric J.
Splaver (previously filed)
10.7 Employment Agreement between the Registrant and Gregory R.
Ciccolini (previously filed)
10.8 Binding Agreement to Propose and Support Modified Plan
Agreement dated as of December 15, 1997 among UDC, FMAC and
the Official Committee of Unsecured Creditors of FMAC(2)
10.9 Purchase Agreement dated as of December 18, 1997 by and
among the Contract Purchaser, UDC and LaSalle National Bank,
as Agent(2)
10.10 Guaranty dated as of December 18, 1997 by UDC in favor of
the Contract Purchaser(2)
10.11 Servicing Agreement dated as of December 18, 1997 between
UDC and the Contract Purchaser(2)
10.12 FMAC Guaranty and Stock Pledge Agreement among FMAC, UDC and
certain banks(3)
10.13 Contribution Agreement between UDC and FMAC(4)
10.14 Building Lease Agreement for property located at the
Principal Executive Offices
10.15 Building Sublease Agreement #1 with Consent to Sublease, for
property located at Principal Executive Offices
10.16 Building Sublease Agreement #2 with Consent to Sublease, for
property located at Principal Executive Offices
10.17 Credit and Security Agreement between UDC and First
Merchants Acceptance Corp. ("FMAC"), dated as of July 17,
1997(5)
10.18(a) First Amendment to Credit and Security Agreement between UDC
and FMAC, dated as of January 21, 1998(5)
10.18(b) Second Amendment to Credit and Security Agreement between
UDC and FMAC, dated as of April 1, 1998(5)
10.19 Loan Agreement by and among the Registrant, Kayne Anderson
Non-Traditional Investments, L.P. ("Kayne Anderson"), and
certain other lenders (the "Lenders"), dated July 20, 1998
</TABLE>
<PAGE> 112
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
- ------- ----------------------
<C> <S>
10.20 Payment Guaranty by UDC in favor of Kayne Anderson and the
Lenders, dated as of July 20, 1998
10.21 Servicing Agreement by and among Reliance Acceptance
Corporation, UDC, and certain lenders
10.22 Agreement of Understanding by and among Reliance Acceptance
Corporation, UDC and others
10.23 Form of Capitalization Agreement relating to the Split-up,
by and among the Registrant, UDC and certain of their
affiliates
10.24 Form of Escrow Agreement relating to the Rights Offering, by
and between the Registrant and Norwest Bank Minnesota,
National Association, as Escrow Agent
10.25 Form of Rights Exercise and Standby Purchase Agreement, by
and between the Registrant and Ernest C. Garcia II
11 Earnings (Loss) per Share Computation (see Note 14 to Notes
to Consolidated Financial Statements)
21 List of subsidiaries
23.1 Consent of KPMG Peat Marwick LLP
23.2 Consent of Snell & Wilmer L.L.P. (included in Exhibit 5)
23.3 Consent of Willamette Management Associates
24 Power of Attorney (included in signature pages)
27 Financial Data Schedule
</TABLE>
- ---------------
(1) Incorporated by reference to UDC's Current Report on Form 8-K, filed
September 5, 1997.
(2) Incorporated by reference to UDC's Current Report on Form 8-K, filed January
2, 1998.
(3) Incorporated by reference to UDC's Annual Report on Form 10-K, filed March
1, 1998.
(4) Incorporated by reference to UDC's Registration Statement on Form S-1
(Registration No. 333-42973) effective February 11, 1998.
(5) Incorporated by reference to UDC's Quarterly Report on Form 10-Q, filed May
15, 1998.
<PAGE> 1
EXHIBIT 23.1
INDEPENDENT AUDITORS' CONSENT
The Board of Directors
Cygnet Financial Corporation:
We consent to the use of our report included herein and to the reference to
our firm under the headings "Experts" and "Selected Combined Financial Data" in
the prospectus.
/s/ KPMG PEAT MARWICK LLP
Phoenix, Arizona
August 3, 1998
<PAGE> 1
EXHIBIT 23.3
INDEPENDENT APPRAISER'S CONSENT
The Boards of Directors of
Ugly Duckling Corporation and
Cygnet Financial Corporation:
We have reviewed and approved the summary of our appraisal report referred
to in the Cygnet Financial Corporation ("Cygnet") prospectus found within
Cygnet's Amendment No. 3 to Form S-1 and to the reference to our firm under the
headings "Experts," "Prospectus Summary -- The Rights Offering," "The Rights
Offering -- Opinion of Appraiser," "Federal Income Tax Consequences," and
elsewhere therein.
/s/ WILLAMETTE MANAGEMENT
ASSOCIATES
San Francisco, California
August 4, 1998
