<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2000
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______ to _________.
0-26019
(Commission File Number)
NEXTCARD, INC.
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 68-0384-606
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
595 MARKET STREET, SUITE 1800, SAN FRANCISCO, CALIFORNIA 94105
(Address of Principal Executive Offices) (Zip Code)
(415) 836-9700
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
As of April 30, 2000 there were 52,809,431 shares of the registrant's Common
Stock, par value $.001 per share, outstanding, of which 1,873,888 were
nonvoting.
<PAGE> 2
NEXTCARD, INC. AND SUBSIDIARIES
FORM 10-Q
FOR THE QUARTER ENDED MARCH 31, 2000
INDEX
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
PART I. FINANCIAL INFORMATION
ITEM 1. Financial Statements (Unaudited):
Consolidated Balance Sheets.............................................. 1
Consolidated Statements of Operations................................... 2
Consolidated Statements of Changes
in Shareholders' Equity................................................ 3
Consolidated Statements of Cash Flows.................................... 4
Notes to Consolidated Financial
Statements............................................................. 5
ITEM 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations........................................ 8
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk................... 28
PART II. OTHER INFORMATION
Item 1. Legal Proceedings............................................................ 29
Item 2. Changes in Securities and Use of Proceeds.................................... 29
Item 3. Defaults Upon Senior Securities Holders...................................... 29
Item 4. Submission of Matters to a Vote of Security Holders.......................... 29
Item 5. Other Information............................................................ 29
Item 6. Exhibits and Reports on Form 8-K............................................. 29
Signatures........................................................................... 30
</TABLE>
<PAGE> 3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
NEXTCARD, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except per share amounts) (Unaudited)
<TABLE>
<CAPTION>
MARCH 31, DECEMBER
2000 31, 1999
--------- ---------
<S> <C> <C>
ASSETS:
Cash and cash equivalents $ 187,073 $ 189,178
Cash and cash equivalents, restricted 11,796 31,811
Credit card loans receivable 304,420 416,315
Less allowance for loan losses (9,158) (11,500)
--------- ---------
Net loans 295,262 404,815
Interest receivable 1,850 2,160
Equipment and leasehold improvements, net 9,995 8,385
Due from securitizations 63,947 --
Prepaid and other assets 30,047 25,961
--------- ---------
Total assets $ 599,970 $ 662,310
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY:
Liabilities:
Deposits:
Non-interest bearing $ 2,000 $ 2,000
Interest bearing 109,568 1,800
--------- ---------
Total Deposits 111,568 3,800
Accounts payable 6,633 7,962
Accrued expenses and other liabilities 16,585 14,554
Other borrowings 10,349 11,359
Secured borrowings 192,000 346,000
--------- ---------
Total liabilities 337,135 383,675
--------- ---------
Shareholders' equity:
Convertible preferred stock -- --
Common stock, par value $.001 per share
(authorized: 87,433 shares; issued and outstanding:
March 31, 2000 - 51,957 shares; December 31, 1999 -
51,022 shares) 52 51
Additional paid-in capital 384,420 385,745
Deferred stock compensation (8,782) (12,003)
Notes receivable from shareholders (13) (13)
Accumulated deficit (112,842) (95,145)
--------- ---------
Total shareholders' equity 262,835 278,635
--------- ---------
Total liabilities and shareholders' equity $ 599,970 $ 662,310
========= =========
</TABLE>
See notes to consolidated financial statements.
1
<PAGE> 4
NEXTCARD, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)(Unaudited)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
-----------------------
2000 1999
-------- --------
<S> <C> <C>
Interest income:
Credit card loans $ 13,034 $ 380
Cash and investments 2,776 280
-------- --------
Total interest income 15,810 660
-------- --------
Interest expense:
Borrowings 5,901 647
Deposits 744 --
-------- --------
Total interest expense 6,645 647
-------- --------
Net interest income 9,165 13
Provision for loan losses 8,600 995
-------- --------
Net interest income (loss) after provision
for loan losses 565 (982)
-------- --------
Non-interest income:
Securitization and servicing income 9,830 --
Interchange fee 1,743 96
Credit card fees and other 1,276 43
Profit and loss sharing -- 204
-------- --------
Total non-interest income 12,849 343
-------- --------
Non-interest expenses:
Salaries and employee benefits 8,384 3,309
Marketing, advertising and branding 11,235 2,555
Credit card activation and servicing costs 4,831 1,522
Occupancy and equipment 1,832 552
Professional fees 977 255
Amortization of loan structuring fee 572 568
Amortization of deferred stock compensation 1,178 1,366
Other 2,102 216
-------- --------
Total non-interest expenses 31,111 10,343
-------- --------
Loss before income taxes (17,697) (10,982)
Provision for income taxes -- --
-------- --------
Net loss $(17,697) $(10,982)
======== ========
Basic and diluted net loss per common share $ (0.34) $ (2.84)
======== ========
Weighted average common shares used in
net loss per common share calculation 51,382 3,867
</TABLE>
See notes to consolidated financial statements.
2
<PAGE> 5
NEXTCARD, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
(in thousands) (Unaudited)
<TABLE>
<CAPTION>
CONVERTIBLE NOTES
PREFERRED RECEIVABLE
STOCK SERIES A-D COMMON STOCK ADDITIONAL DEFERRED FROM TOTAL
---------------- -------------- PAID-IN STOCK SHARE- ACCUMULATED SHAREHOLDERS'
SHARES AMOUNT SHARES AMOUNT CAPITAL COMPENSATION HOLDERS DEFICIT EQUITY
------ ------ ------ ------ --------- ------------ ------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCES AT DECEMBER 31, 1998 ... 32,626 33 4,932 5 63,875 (6,000) (26) (17,950) 39,937
Issuance of common stock upon
exercise of stock options and
warrants ..................... -- -- 109 -- 59 -- -- -- 59
Issuance of stock warrants ..... -- -- -- -- 2,436 -- -- -- 2,436
Deferred stock compensation ..... -- -- -- -- 10,700 (10,700) -- -- --
Amortization for deferred stock
compensation ................. -- -- -- -- -- 1,366 -- -- 1,366
Net loss ........................ -- -- -- -- -- -- -- (10,982) (10,982)
------ ------ ------ --- --------- -------- ---- --------- ---------
BALANCES AT MARCH 31, 1999 ...... 32,625 $ 33 5,041 $ 5 $ 77,070 $(15,334) $(26) $ (28,932) $ 32,816
BALANCES AT DECEMBER 31 , 1999... -- $ -- 51,022 $51 $ 385,745 $(12,003) $(13) $ (95,145) $ 278,635
Issuance of common stock upon
exercise of stock options and
warrants ..................... -- -- 935 1 718 -- -- -- 719
Deferred stock compensation ..... (2,043) 2,043 -- -- --
Amortization for deferred stock
compensation ................. 1,178 -- -- 1,178
Net loss ........................ -- -- -- -- -- -- -- (17,697) (17,697)
------ ------ ------ --- --------- -------- ---- --------- ---------
BALANCES AT MARCH 31, 2000 ...... -- $ -- 51,957 $52 $ 384,420 $ (8,782) $(13) $(112,842) $ 262,835
====== ====== ====== === ========= ======== ==== ========= =========
</TABLE>
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3
<PAGE> 6
NEXTCARD, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands) (Unaudited)
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
----------------------------
2000 1999
--------- --------
<S> <C> <C>
OPERATING ACTIVITIES:
Net loss $ (17,697) $(10,982)
Adjustments to net loss to arrive at cash used in
operating activities:
Provision for loan losses 8,600 995
Deprecation and amortization 1,695 704
Amortization of deferred acquisition costs 528 65
Amortization of deferred stock compensation 1,178 1,366
Securitization gains (8,550) --
Change in operating assets and liabilities:
Increase (decrease) in accounts payable (1,329) (645)
Increase in accrued expenses and other liabilities 2,048 179
(Increase) decrease in prepaid and other assets (4,678) 112
--------- --------
Net cash used in operating activities (18,205) (8,206)
--------- --------
INVESTING ACTIVITIES:
Net loan originations (224,953) (68,417)
Increase in amounts due from securitizations (30,018) --
Change in due to Heritage -- 3,599
Purchase of equipment and leasehold improvements (2,420) (1,435)
--------- --------
Net cash used in investing activities (257,391) (66,253)
--------- --------
FINANCING ACTIVITIES:
Net increase in deposits 107,768 --
Net change in secured borrowings 146,000 54,069
Proceeds from other borrowings -- 5,693
Payments made on other borrowings (1,010) (40)
Proceeds from issuance of common stock 718 59
--------- --------
Net cash provided by financing activities 253,476 59,781
--------- --------
Net decrease in cash and cash equivalents (22,120) (14,678)
Cash and cash equivalents at the beginning of the 220,989 40,134
period
--------- --------
Cash and cash equivalents at the end of the period $ 198,869 $ 25,456
========= ========
SUPPLEMENTAL DISCLOSURES:
Cash paid during the period for interest $ 7,150 $ 640
SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING AND
FINANCING ACTIVITIES:
Unearned stock based compensation $ (2,042) $ 10,700
Issuance of preferred stock warrants for loan -- $ 2,436
structuring/origination fee
Securitization of loans $ 333,929 --
</TABLE>
See notes to consolidated financial statements.
4
<PAGE> 7
NEXTCARD, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The consolidated financial statements include NextCard, Inc. and its wholly
owned subsidiaries, NextBank, N.A. and NextCard Limited (collectively "the
Company"). The Company is an Internet-based provider of consumer credit.
The unaudited interim consolidated financial statements and related unaudited
financial information in the footnotes have been prepared in accordance with
accounting principles generally accepted in the United States and the rules and
regulations of the Securities and Exchange Commission (the "SEC") for interim
financial statements. Such interim financial statements reflect all adjustments
consisting of normal recurring adjustments which, in the opinion of management,
are necessary to present fairly the consolidated financial position of the
Company and the results of its operations and its cash flows for the interim
periods. These consolidated financial statements should be read in conjunction
with the Company's financial statements and the notes thereto contained in the
Annual Report on Form 10-K for the year ended December 31, 1999. The nature of
the Company's business is such that the results of any interim period may not be
indicative of the results to be expected for the entire year.
All significant intercompany transactions and balances have been eliminated.
Certain reclassifications have been made to prior year financial statements to
conform to the current presentation.
2. EARNINGS PER SHARE
Basic and diluted net loss per common share are presented in conformity with
Statement of Financial Accounting Standards No. 128, "Earnings Per Share" ("FAS
128"), for all periods presented. In accordance with FAS 128, basic and diluted
net loss per common share has been computed using the weighted-average number of
shares of common stock outstanding during the period, less shares subject to
repurchase. The following table sets forth the computation of both basic and
diluted earnings per share.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
------------------------
(in thousands, except per share data) 2000 1999
-------- --------
<S> <C> <C>
Net loss available to common stockholders $(17,697) $(10,982)
======== ========
Basic and diluted:
Weighted average shares of common stock outstanding 51,542 4,958
Less: Weighted average shares subject to repurchase (160) (1,091)
-------- --------
Weighted average common shares used in basic and
diluted net loss per common share calculation 51,382 3,867
-------- --------
Basic and diluted net loss per common shares $ (0.34) $ (2.84)
======== ========
</TABLE>
5
<PAGE> 8
NEXTCARD, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. ALLOWANCE FOR LOAN LOSSES
The activity in the allowance for loan is as follows:
<TABLE>
<CAPTION>
THREE MONTHS ENDED
(in thousands) MARCH 31,
------------------------
2000 1999
-------- --------
<S> <C> <C>
Balance at January 1 $ 11,500 $ --
Provision for loan losses 8,600 995
Allowance related to loans securitized (8,983) --
Charge-offs (2,027) --
Recoveries 68 --
-------- --------
Net charge-offs (1,959) --
-------- --------
Balance at March 31 $ 9,158 $ 995
======== ========
</TABLE>
4. ASSETS SECURITIZATION
The Company securitizes all of its eligible Company issued credit card
receivables through the NextCard Master Trust (the "Master Trust"). These credit
card receivables are transferred to the Master Trust, which issues certificates
representing undivided ownership interests in the assets of the Master Trust to
third party commercial paper conduits. To date, the Company has issued three
series of investor certificates, one of which qualified for sales treatment in
the three month period ended March 31, 2000. As a result, $300.0 million of
qualifying receivables related to this one series' transfers was treated as a
sale as they satisfied the sales treatment requirements of Statement of
Financial Accounting Standards No. 125, "Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities" ("Statement No. 125").
When the Company sells receivables in securitizations which qualify for
off-balance sheet sales treatment, it retains certain undivided ownership
interests, interest-only strips and servicing rights. Although the Company
continues to service the underlying credit card accounts and maintains the
customer relationships, these transactions are treated as sales and the
securitized receivables are not reflected on the consolidated balance sheet. The
retained ownership interests are included in "Due from Securitizations" which
also includes amounts deposited in accounts held by the trust for the benefit of
the trust's security holders', servicing fee receivables, and interest-only
strip receivables.
Investors in the Company's securitization transactions have no recourse against
the Company for its customers' failure to pay their credit card loans; however,
the Company retains interests which are subordinated to the investors' interests
until the investors have been fully paid.
Under Statement No. 125, gains are recognized at the time of each sale and are
recorded in "Securitization and Servicing Income". These gains, which generally
represent interest-only strip receivables, are based on the estimated fair value
of the retained interests which are based on the estimated present value of the
cash flows the Company expects to receive over the estimated outstanding life of
the receivables. These cash flows represent estimates of finance charges and
late fees, servicing fees, costs of funds paid to investors, payment rates, and
credit losses.
6
<PAGE> 9
NEXTCARD, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The securitization income recorded by the Company and the measurement of the
Company's retained interests are dependent upon management's estimates of future
cash flows. The cash flows are discounted based on the timing of when the
Company expects to receive the cash flows. The discount rates are based on
management's estimates of returns that would be required by investors in an
investment with similar terms and credit quality. Finance charges and fees
received on the credit card receivables are estimated based on the stated annual
percentage rates in the credit card agreements. Estimated default and payment
rates are based on historical results, adjusted for expected changes based on
the Company's credit risk models.
Subsequent to each sale, the Company's retained interests are carried at
estimated fair market value with changes in fair value reported as a component
of cumulative other comprehensive income. Since quoted market prices are
generally not available, the Company estimates fair value based on the estimated
present value of future cash flows using management's best estimates of key
assumptions. Changes in any of these assumptions could impact the fair value
estimates and the realization of future cash flows.
7
<PAGE> 10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The Company is a leading Internet-based provider of consumer credit. The Company
was the first to offer an online approval system for a Visa(R) card and to
provide interactive, customized offers to credit card applicants.
The Company combines expertise in consumer credit, an exclusive Internet focus
and sophisticated direct marketing techniques with the aim of attracting
profitable customer segments on the Internet. The Company's product, the
NextCard(R) Visa, which the Company calls the First True Internet Visa, is
marketed to consumers exclusively through its website, www.nextcard.com. The
Company offers credit card customers a unique combination of convenience,
customization, shopping enhancements and online customer service. The NextCard
Visa can be used for both online and offline purchases.
FORWARD-LOOKING INFORMATION
This quarterly report contains forward-looking statements within the meaning of
the Private Securities Litigation Reform Act of 1995. These statements include
statements regarding intent, belief or current expectations of the Company and
its management. In some cases, you can identify forward-looking statements by
terminology such as "may," "will," "should," "expect," "plan," "anticipate,"
"believe," "estimate," "predict," "potential" or "continue," the negative of
such terms or other comparable terminology. These statements are only
predictions. Actual events or results may differ materially. Stockholders and
prospective investors are cautioned that any such forward-looking statements are
not guarantees of future performance and involve a number of risks and
uncertainties that may cause the Company's actual results to differ materially
from the results discussed in the forward-looking statements. Among the factors
that could cause actual results to differ materially from those indicated by
such forward-looking statements are those factors discussed below.
EARNINGS SUMMARY
Net loss for the three months ended March 31, 2000, was $17.7 million, or $0.34
per share, up 61% from $11.0 million, or $2.84 per share (or $0.30 per pro-forma
share), for the three months ended March 31, 1999. The increase in net loss is
the result of increases in interest expense, the provision for loan losses and
non-interest expenses. These increases were partially offset by increases in net
interest income and other operating income, primarily servicing and
securitization income. These increases are largely attributable to the growth in
average managed loans to $530.0 million for the three months ended March 31,
2000 from $81.8 million for same period in 1999.
SECURITIZATION AND FINANCIAL STATEMENT IMPACT
The Company securitizes all of its eligible Company issued credit card
receivables through the NextCard Master Trust (the "Master Trust"). These credit
card receivables are transferred to the Master Trust, which issues certificates
representing undivided ownership interests in the assets of the Master Trust to
third party commercial paper conduits. To date, the Company has issued three
series of investor certificates, one of which qualified for sales treatment in
the three month period ended March 31, 2000. As a result, $300.0 million of
qualifying receivables related to this
8
<PAGE> 11
one series' transfers was treated as a sale as they satisfied the requirements
of Statement of Financial Accounting Standards No. 125, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities"
("Statement No. 125").
When the Company sells receivables in securitizations which qualify for
off-balance sheet sales treatment, it retains certain undivided ownership
interests, interest-only strips and servicing rights. Although the Company
continues to service the underlying credit card accounts and maintains the
customer relationships, these transactions are treated as sales and the
securitized receivables are not reflected on the consolidated balance sheet. The
retained ownership interests are included in "Due from Securitizations" which
also includes amounts deposited in accounts held by the trust for the benefit of
the trust's security holders', servicing fee receivables, and interest-only
strip receivables.
Investors in the Company's securitization transactions have no recourse against
the Company for its customers' failure to pay their credit card loans; however,
the Company retains interests which are subordinated to the investors' interests
until the investors have been fully paid.
Under Statement No. 125, gains are recognized at the time of each sale and are
recorded in "Securitization and Servicing Income". These gains, which generally
represent interest-only strip receivables, are based on the estimated fair value
of the retained interests which are based on the estimated present value of the
cash flows the Company expects to receive over the estimated outstanding life of
the receivables. These cash flows represent estimates of finance charges and
late fees, servicing fees, costs of funds paid to investors, payment rates, and
credit losses.
The Company services the accounts underlying the securitized loans and earns a
monthly fee. The finance charges and fees generated by the securitized loans in
excess of the interest paid to investors, related credit losses, servicing fees,
and other transaction expenses is referred to as "excess servicing income."
Revenue resulting from excess servicing income is recognized each month first as
a reduction of the interest-only strip receivable and then, to the extent the
amount received exceeds the related component of the interest only strip
receivable (which was recorded at present value), as servicing and
securitization income.
The securitization income recorded by the Company and the measurement of the
Company's retained interests are dependent upon management's estimates of future
cash flows, The cash flows are discounted based on the timing of when the
Company expects to receive the cash flows. The discount rates are based on
management's estimates of returns that would be required by investors in an
investment with similar terms and credit quality. Finance charges and fees
received on the credit card receivables are estimated based on the stated annual
percentage rates in the credit card agreements. Estimated default and payment
rates are based on historical results, adjusted for expected changes based on
the Company's credit risk models.
Subsequent to each sale, the Company's retained interests are carried at
estimated fair market value with changes in fair value reported as a component
of cumulative other comprehensive income. Since quoted market prices are
generally not available, the Company estimates fair value based on the estimated
present value of future cash flows using management's best estimates of key
assumptions. Changes in any of these assumptions could impact the fair value
estimates and the realization of future cash flows.
The Company allocates resources on a managed basis and financial information
provided to management reflects the Company's results on a managed basis.
Therefore, an adjustment is required to reconcile the managed financial
information to the Company's reported financial
9
<PAGE> 12
information in its consolidated financial statements. This adjustment
reclassifies securitization and servicing income into interest income,
interchange, other fees, interest paid to investors, credit losses, and other
trust expenses. The managed results also include the impact of Statement No.
125.
<TABLE>
<CAPTION>
For the three months ended March 31, 2000
-------------------------------------------
TOTAL SECURITIZATION TOTAL
(in thousands) MANAGED ADJUSTMENTS OWNED
--------- --------- ---------
<S> <C> <C> <C>
Interest income $ 19,093 $ (3,283) $ 15,810
Interest expense 8,343 (1,698) 6,645
--------- --------- ---------
Net interest income 10,750 (1,585) 9,165
Provision for loan losses 9,195 (595) 8,600
--------- --------- ---------
Net interest income after
provision for loan losses 1,555 (990) 565
Non-interest income 11,926 923 12,849
Non-interest expense 31,178 (67) 31,111
--------- --------- ---------
Net income $ (17,697) $ -- $ (17,697)
========= ========= =========
Ending loans outstanding $ 638,781 $ 334,361 $ 304,420
========= ========= =========
</TABLE>
MANAGED LOAN PORTFOLIO
The Company's managed loan portfolio is comprised of all credit card loan
receivables generated under the NextCard Visa, including all securitized loans
and loans previously funded by Heritage Bank. Prior to October of 1999, Heritage
Bank funded and owned a portion of the Company's managed loan portfolio, that
portion of the credit card loan portfolio was not an asset of the Company, and
therefore, was not shown on the Company's consolidated balance sheets. The
following table summarizes the Company's managed loan portfolio:
<TABLE>
<CAPTION>
MARCH 31,
----------------------
(in thousands) 2000 1999
-------- -------
<S> <C> <C>
PERIOD-END BALANCES
Credit card loans:
On-balance sheet $304,420 $68,353
Securitized loans 334,361 --
Heritage owned -- 27,940
-------- -------
Total managed loan portfolio $638,781 $96,293
======== =======
AVERAGE BALANCES
Credit card loans:
On-balance sheet $446,437 $38,370
Securitized loans 83,590 --
Heritage owned -- 43,411
-------- -------
Total managed loan portfolio $530,027 $81,781
======== =======
</TABLE>
NET INTEREST INCOME
Net interest income consists of interest earned on the Company's credit card
loan portfolio, cash and investment securities less interest expense on
borrowings to fund these earning assets.
10
<PAGE> 13
Reported net interest income for the three months ended March 31, 2000, was $9.2
million compared to $13,000 for the same period in 1999. This increase was
primarily due to a $409.1 million increase in on balance sheet average loans and
a $169.1 million increase in average cash and investments, over the comparable
period in 1999. The annualized net interest margin on average earning assets for
the three months ended March 31, 2000 was 5.68% compared with 0.07% for the
three months ended March 31, 1999. The first quarter net interest margin was
favorably impacted by the increase in fixed rate credit card products, the
repricings of the Company's credit card loan portfolio due to the expiration of
introductory rate periods, and a lower cost of funds. The net interest margin
was negatively impacted by loan fee amortization expense related to warrants
paid to a finance company in 1999 in connection with a financing transaction.
This loan fee is being amortized over a three-year period. The net interest
spread for the three months ended March 31, 2000 was 3.13% compared with a
negative 4.01% for the three months ended March 31, 1999. The net interest
spread is the annualized yield on average interest-earning assets minus the
annualized funding rate on average interest-bearing liabilities. The net
interest spread is expected to continue to improve as the Company's loan
portfolio seasons; however, there can be no assurances that such spread will
improve.
Managed net interest income for the three-month period ended March 31, 2000 was
$10.8 million, which represents a net interest margin of 5.89%. The managed net
interest spread was 3.43%.
The following tables provide an analysis of interest income and expense, net
interest spread, net interest margin and average balance sheet data for the
three-month periods ended March 31, 2000 and 1999.
11
<PAGE> 14
STATEMENTS OF AVERAGE BALANCES, INCOME AND EXPENSES, YIELDS AND RATES
(in thousands)
<TABLE>
<CAPTION>
THREE MONTHS ENDED THREE MONTHS ENDED
MARCH 31, 2000 MARCH 31, 1999
---------------------------------------- ----------------------------------------
AVERAGE INCOME/ YIELD/ AVERAGE INCOME/ YIELD/
BALANCE EXPENSE RATE BALANCE EXPENSE RATE
--------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
OWNED BASIS:
ASSETS:
Interest-Earning assets
Credit card loans $ 446,437 $ 13,034 11.68% $ 38,370 $ 380 3.96%
Interest-earning cash 199,636 2,776 5.56% 30,578 280 3.67%
--------- --------- --------- --------- --------- ---------
Total interest-earning assets 646,073 15,810 9.79% 68,948 660 3.83%
Allowance for loan losses (12,367) (522)
Other assets 55,921 6,948
--------- ---------
Total assets $ 689,627 $ 75,374
========= =========
LIABILITIES AND EQUITY
Interest-bearing liabilities
Borrowings $ 350,850 5,901 6.73% 33,026 647 7.84%
Deposits 48,543 744 6.13% -- -- --
--------- --------- --------- --------- --------- ---------
Total interest-bearing liabilities 399,393 6,645 6.66% 33,026 647 7.84%
Other liabilities 22,436 6,183
--------- ---------
Total liabilities 421,829 39,209
Equity 267,798 36,165
========= =========
Total liabilities and equity $ 689,627 $ 75,374
========= =========
NET INTEREST SPREAD 3.13% (4.01%)
========= =========
Interest income to average
interest-earning assets 9.79% 3.83%
Interest expense to average
interest-earning assets 4.11% 3.75%
--------- ---------
Net Interest Margin 5.68% 0.07%
========= =========
MANAGED BASIS:
Credit card loans $ 530,027 $ 16,300 12.30% -- -- --
Total interest-earning assets 729,663 19,093 10.47% -- -- --
Total interest-bearing liabilities 474,393 8,343 7.03% -- -- --
Net interest rate spread -- -- 3.43% -- -- --
Net interest margin -- 10,750 5.89% -- -- --
</TABLE>
INTEREST VARIANCE ANALYSIS
Net interest income is affected by changes in the average interest rate earned
on earning assets and the average interest rate paid on interest-bearing
liabilities. In addition, net interest income is affected by changes in the
volume of earning assets and interest-bearing liabilities. The following table
sets forth the dollar amount of the increases (decreases) in interest income and
interest expense resulting from changes in the volume of earning assets and
interest-bearing liabilities and from changes in yields and rates.
12
<PAGE> 15
<TABLE>
<CAPTION>
THREE MONTHS ENDED
(in thousands) MARCH 31, 2000 VS 1999
-----------------------------------
CHANGE DUE TO (1)
----------------------
INCREASE VOLUME YIELD/RATE
------- ------- ----------
<S> <C> <C> <C>
Interest Income
Credit card loans $12,654 $10,658 $ 1,996
Interest-earning cash 2,496 2,282 214
------- ------- -------
Total interest income 15,150 12,940 2,210
------- ------- -------
Interest-Expense :
Borrowings 5,254 5,332 (78)
Deposits 744 744 --
------- ------- -------
Total interest expense 5,998 6,076 (78)
------- ------- -------
Net interest income $ 9,152 $ 6,864 $ 2,288
======= ======= =======
</TABLE>
(1) The change in interest due to both volume and rates has been allocated in
proportion to the relationship of the absolute dollar amounts of the change
in each. The changes in income and expense are calculated independently for
each line in the table.
NON-INTEREST INCOME
Interchange and other credit card fees consist of income from the Visa system
for purchases made with the NextCard Visa and fees paid by the Company's
cardholders, such as late fees, over-limit fees and program fees. Such reported
income for the three months ended March 31, 2000, was $3.0 million. As discussed
more fully above in "Securitization and Financial Statement Impact", interchange
and other credit card fees associated with loans which have been sold are no
longer reported as "Interchange and credit cards fees" but instead are now
reported as part of "Servicing and Securitization Income." Interchange and other
credit card fees are expected to continue to increase in the future as the
credit card portfolio grows.
NON-INTEREST EXPENSE
Total non-interest expense for the three months ended March 31, 2000, increased
$20.8 million over the comparable period in 1999, primarily due to higher
employee compensation, credit card activation and servicing costs, marketing and
branding expenses. Employee compensation increased due to staffing needs to
support the increase in credit card accounts and other functions. In addition,
the amortization of deferred stock compensation, which represents the difference
between the exercise price of certain stock options grants and the fair value of
the Company's common stock at the time of such grants, for the three months
ended March 31, 2000, was $1.2 million. The increase in credit card activation
and servicing costs was largely due to the increased number of credit card
accounts, transaction volumes and loan balances. The increase in other expenses
is primarily due to general growth in the business and the building of an
infrastructure to support this growth.
ASSET QUALITY
The Company's delinquency and net loan charge-off rates reflect, among other
factors, the credit risk of loans, the average age of the Company's credit card
account portfolio, the success of the
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<PAGE> 16
Company's collection and recovery efforts and general economic conditions.
Additionally, the credit risk of the loans is effected by the underwriting
criteria utilized by the Company to approve customers. The average age of the
Company's credit card portfolio affects the level and stability of delinquency
and loss rates of the portfolio. The Company continues to focus its resources on
refining its credit underwriting standards for new accounts, as well as on
collections and post charge-off recovery efforts, to minimize net losses. At
March 31, 2000, the majority of the loan portfolio was less than twelve months
old. Accordingly, the Company believes that its loan portfolio will experience
increasing or fluctuating levels of delinquency and loan losses as the average
age of the Company's accounts and balances increase.
For the three months ended March 31, 2000, the Company's managed net charge-off
ratio was 1.93% compared to 0.86% for the three months ended March 31, 1999. The
Company believes, consistent with its statistical models and other credit
analyses, that this rate will continue to fluctuate but generally rise over the
next year as the portfolio ages and becomes more seasoned.
The Company's primary strategy for managing loan losses is the development of
underwriting criteria and credit scoring algorithms to assess the
creditworthiness of new customers and provide conservative customer credit-line
assignments. In addition, the Company monitors credit lines closely and has
built a collections department, as well as using outside parties, to pursue
delinquent customers. Under these strategies, interest rates and credit line
assignments are established for each credit card account based on its perceived
risk profile. Individual accounts and their related credit lines are also
continually managed using various marketing, credit and other management
processes in order to continue to maximize the profitability of accounts.
DELINQUENCIES
Delinquency levels are monitored on a managed basis, since delinquency on either
an owned or managed basis subjects the Company to credit loss exposure. A credit
card account is contractually delinquent if the minimum payment is not received
by the specified date on the cardholder's statement. It is the Company's policy
to continue to accrue interest and fee income on all credit card accounts,
except in limited circumstances, until the account and all related loans,
interest and other fees are reversed. Credit card loans are generally charged
off when the loan becomes contractually past due 180 days, with the exception of
bankrupt accounts, which are charged off no later than the month after formal
notification of bankruptcy. The following table presents the delinquency trends
of the Company's credit card loan portfolio on a managed portfolio basis:
<TABLE>
<CAPTION>
(in thousands) March 31, 2000 March 31, 1999
------------------------- -------------------------
LOANS % OF TOTAL LOANS % OF TOTAL
-------- ---------- -------- ----------
<S> <C> <C> <C> <C>
Managed loan portfolio $638,781 100.00% $ 96,293 100.00%
Loans delinquent:
31 - 60 days 4,624 0.72% 464 0.48%
61 - 90 days 3,236 0.51% 267 0.28%
91 or more 3,805 0.59% 262 0.27%
======== ======== ======== ========
Total $ 11,665 1.82% $ 993 1.03%
======== ======== ======== ========
</TABLE>
NET CHARGE-OFFS
Net charge-offs include the principal amount of losses from cardholders
unwilling or unable to pay their loan balances, as well as bankrupt and deceased
cardholders, less current period recoveries. Net charge-offs exclude finance
charges and fees, which are charged against the
14
<PAGE> 17
related income at the time of charge-off. Losses from new account fraud and
fraudulent cardholder activity are included in non-interest expense.
The following table presents the Company's net charge-offs for the periods
indicated as reported in the consolidated financial statements and on a managed
portfolio basis:
<TABLE>
<CAPTION>
THREE MONTHS ENDED
(in thousands) MARCH 31,
------------------------
2000 1999
-------- -------
<S> <C> <C>
ON-BALANCE SHEET:
Average loans outstanding $446,437 $38,370
Net charge-offs 1,959 --
Net charge-offs as a percentage of
average loans outstanding 1.76% 0.00%
MANAGED:
Average loans outstanding 530,027 81,781
Net charge-offs 2,554 175
Net charge-offs as a percentage of
average loans outstanding 1.93% 0.86%
</TABLE>
PROVISION AND ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is maintained for on-balance sheet loans.
Provisions for loan losses are made in amounts necessary to maintain the
allowance at a level estimated to be sufficient to absorb probable losses
inherent in the existing on-balance sheet loan portfolio. For loans maintained
on Heritage's balance sheet until July 1999, anticipated losses and related
reserves were reflected in the calculations of the profit-and-loss sharing
income from Heritage.
The provision for loan losses for on-balance sheet loans for the three months
ended March 31, 2000, totaled $8.6 million. The Company anticipates that the
provision for loan losses will increase as the credit card loan portfolio
continues to increase and season. The following table presents the change in the
Company's allowance for loan losses for the periods presented:
<TABLE>
<CAPTION>
Three months ended
(in thousands) March 31,
------------------------
2000 1999
-------- -------
<S> <C> <C>
Balance at January 1 $ 11,500 $ --
Provision for loan losses 8,600 995
Allowance related to loans securitized (8,983) --
Charge-offs (2,027) --
Recoveries 68 --
-------- -------
Net charge-offs (1,959) --
-------- -------
Balance at March 31 $ 9,158 $ 995
======== =======
</TABLE>
LIQUIDITY, FUNDING AND CAPITAL RESOURCES
The Company finances the growth of its credit card loan portfolio through cash
flow from operations, asset securitization, secured bank loans, subsidiary bank
deposits, and equity issuance.
15
<PAGE> 18
Through March 31, 2000 and 1999, the Company had received cumulative net
proceeds of approximately $492.0 million and $54.1 million, respectively from
sales of credit card loans to the conduits. Cash generated from these
transactions were used exclusively to fund credit card loan portfolio growth. To
date, the Company has utilized three third-party paper conduits provided by
Barclays Bank PLC for $300.0 million, ING Barings (U.S.) Capital Markets LLC for
$150.0 million and First Union Securities, Inc. for $220.0 million. The Company
will have the ability to fund new receivables during the revolving period of
these conduits. After the revolving period, the Company will use principal
collections generated by its receivables to pay the principal amount outstanding
under these conduits. The revolving period ends in June 2001 for the Barclay's
facility, January 2002 for the ING Baring's facility and February 2003 for the
First Union facility.
The Company relies upon the securitization of its credit card loans to fund
portfolio growth and, to date, has completed securitization transactions on
terms that it believes are satisfactory. The Company's ability to securitize its
assets depends on the favorable investor demand and legal, regulatory and tax
conditions for securitization transactions, as well as continued favorable
performance of the Company's securitized portfolio of receivables. Any adverse
change could force the Company to rely on other potentially more expensive
funding sources, and in the worst case scenario, could create liquidity risks if
other funding is unavailable or significantly limit the Company's ability to
grow.
Beginning in the last quarter of 1999, NextBank, N.A. began issuing jumbo
certificates of deposit ("CDs"). These CDs are generally issued to institutional
and retail customers in increments of $100,000. As of March 31, 2000, $111.6
million of CDs were outstanding with maturities as follows:
<TABLE>
<S> <C>
(in thousands)
Three months or less $ 25,398
Over three months through twelve months 71,570
Over one year through five years 14,600
========
Total Deposits $111,568
========
</TABLE>
As the portfolio of credit card loans grows, or as the conduit securitization
funding amortize, the Company's funding needs will increase accordingly. The
Company believes that its cash flow from operations and asset securitization
programs, together with the secured bank borrowings, subsidiary bank deposit
program and equity issuance, will provide adequate liquidity to the Company for
meeting anticipated cash needs, although no assurance can be given to that
effect.
CAPITAL ADEQUACY
The Company's banking subsidiary, NextBank, N.A., is subject to capital adequacy
guidelines adopted by the Office of the Comptroller of the Currency (the "OCC").
The capital adequacy guidelines and the regulatory framework for prompt
corrective action require NextBank to maintain specific capital levels based
upon quantitative measures of its assets, liabilities and off-balance sheet
items. Core capital (Tier 1) consists principally of stockholders' equity less
goodwill. Total risk-based capital (Tier 1 + Tier 2) includes a portion of the
allowance for loan losses. Based on these classifications, the capital adequacy
regulations establish three capital ratios that are used to measure whether a
financial institution is "well capitalized". As of March
16
<PAGE> 19
31, 2000, NextBank was "well capitalized" in all regulatory capital ratio
categories, as set forth below:
<TABLE>
<CAPTION>
ACTUAL TO BE "WELL
CAPITAL RATIO RATIO CAPITALIZED"
- ------------------------- ---- ----
<S> <C> <C>
Tier 1 Capital 10.6% 6.0%
Total Capital 11.8% 10.0%
Tier 1 Leverage 15.3% 5.0%
</TABLE>
In addition to the above capital ratios, the OCC requires that for the first
three years of operations, NextBank maintain a ratio of stockholders' equity
plus the allowance for loan losses to total managed assets of no less than 6.5%.
As of March 31, NextBank was in compliance with this capital requirement.
17
<PAGE> 20
ADDITIONAL FACTORS WHICH MAY AFFECT FUTURE RESULTS
As discussed in the Company's Annual Report on Form 10-K, as filed with the SEC,
the following additional risk factors could materially affect the Company's
business, operating results and financial condition.
RISKS RELATED TO OUR BUSINESS
The Company's Limited Operating History Makes Evaluation of its Business and
Prospects Difficult
The Company was formed in June 1996. The Company introduced the NextCard Visa in
December 1997. The Company has only a limited operating history on which to base
an evaluation of its business and prospects. The Company's business and
prospects must be considered in light of the risks, uncertainties, expenses and
difficulties frequently encountered by companies in their early stages of
development, particularly companies in new and rapidly evolving markets such as
the market for Internet products and services.
The Company has a History of Losses and It Anticipate Significant Future Losses
The Company incurred net losses of $1.9 million for the period from its
inception through December 31, 1997, $16.1 million for the year ended December
31, 1998, $77.2 million for the year ended December 31, 1999 and $17.7 million
for the three month period ended march 31, 2000. As of March 31, 2000, the
Company had an accumulated deficit of $112.8 million. To date, the Company has
not achieved profitability and the Company expects to incur significant net
losses for at least the next three years. The Company intends to continue to
invest significantly in marketing, operations, technology and the development of
statistical analyses. As a result, the Company will need to generate significant
revenue to achieve profitability. The Company cannot be certain that it will be
able either to maintain its recent revenue growth rates or to generate adequate
revenue to achieve profitability. If the Company does achieve profitability, it
cannot be certain that it can sustain or increase profitability on a quarterly
or annual basis in the future. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
The Company's Limited Operating History Makes Its Financial Forecasting
Difficult
Due to the Company's limited operating history, it cannot forecast operating
expenses based on our historical results. Accordingly, the Company bases its
forecast of operating expenses, in part, on future revenue projections. Most of
these expenses are fixed in the short term and the Company may not be able to
quickly reduce spending if it achieves lower than anticipated revenue. The
Company's ability to accurately forecast its revenue is limited. If the
Company's revenue does not meet its internally developed projections, its net
losses will be even greater than the Company anticipates and its business,
operating results and financial condition may be materially and adversely
affected.
The Company's Unseasoned Credit Card Portfolio Makes Its Prediction of
Delinquency and Loss Levels Difficult
As of March 31, 2000, the majority of the Company's credit card balances were
generated in the last twelve months. As a result, the Company cannot accurately
predict the levels of delinquencies and losses that can be expected from its
portfolio over time. As the Company's
18
<PAGE> 21
portfolio becomes more seasoned, the level of losses may increase. Any material
increase in delinquencies or losses above the Company's expectations could
materially and adversely impact the Company's results of operations and
financial condition.
The Company May Be Unable To Retain Customers When the Company Increase Their
Introductory Or Fixed Interest Rates
To attract new customers, the Company has offered and may continue to offer low
introductory interest rates that increase after expiration of the introductory
period. In addition, the Company offers fixed rate products that may increase if
customers fail to pay their credit card bills on a timely, consistent basis.
Given the Company's limited operating history, it does not know what percentage
of its customers will continue to use their NextCard Visa after they are
repriced. If fewer customers than the Company expects continue to use their
NextCard Visa after they are repriced, the Company's results of operations could
be adversely affected. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
The Company May Encounter Difficulties Due to Its Untested Customer Base
The Company targets its credit card products to Internet users. Lenders
historically have not solicited this market to the same extent as more
traditional market segments. As a result, there is less historical experience
with respect to the credit risk and performance of these consumers. The Company
may not be able to successfully target and evaluate the creditworthiness of
these consumers. Therefore, the Company may encounter difficulties managing the
expected delinquencies and losses and appropriately pricing its products. In
addition, the Company may consider using additional internally developed
criteria to enhance or replace its existing criteria. The Company has limited
experience developing and implementing credit criteria. As a result, as compared
to issuers targeting traditional market segments, the Company could experience
any or all of the following:
- a greater number of cardholder payment defaults or other
unfavorable payment behavior;
- an increase in fraud by its cardholders and third parties; and
- changes in the traditional patterns of cardholder loyalty and
usage.
In addition, because the Company is targeting a new customer base, it has
comparatively little information about the potential size of its target market,
its customer usage patterns and other factors that could significantly affect
the demand for our products and services. Moreover, general economic factors,
such as the rate of inflation, unemployment levels and interest rates may affect
its target market customers more severely than other market segments, which
could increase its delinquencies and losses. See "Management Discussion and
Analysis - Asset Quality."
Fluctuations In the Company's Quarterly Revenue And Operating Results May Affect
The Price Of Its Common Stock
Quarterly fluctuations in the Company's earnings could adversely affect the
market price of its common stock. Its revenue consists of the finance charges
paid by its customers based on their outstanding balances, the amounts received
through the Visa system based upon a percentage of its customers' purchases and
the fees paid by its customers. As a result, the Company depends substantially
on the level of customer balances, the level of interest rates on its credit
card
19
<PAGE> 22
portfolios, the timing of payments of its cardholders and the volume of NextCard
Visa purchases. Variations of these factors could affect the Company's quarterly
revenue. Any shortfall in its revenue would have a direct impact on its
operating results for a particular quarter. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
The Company's quarterly operating results may fluctuate significantly as a
result of a variety of factors, many of which are outside of its control. These
factors include:
- the volume of credit card loans generated from its products and its
ability to successfully manage its credit card loan portfolio;
- the announcement or introduction of new websites, services and
products by it or its competitors and the level of price
competition for the products and services it offers;
- its ability to securitize credit card loan receivables and the
timing of such securitizations;
- the amount and timing of its operating costs and capital
expenditures relating to the expansion of its business, operations
and infrastructure;
- technical difficulties, system downtime, Internet service problems
and its ability to expand and upgrade our computer systems to
handle increased traffic;
- the success of its brand building, advertising and marketing
campaigns, including its recently announced agreement with
Amazon.com, LLC and priceline.com.
- general economic conditions, including interest rate volatility,
and economic conditions specific to the Internet, online commerce
and the credit card industry.
The Company May Be Unable To Satisfactorily Fund Its Working Capital
Requirements
If the Company's current funding becomes insufficient to support future
operating requirements, its will need to obtain additional funding either by
increasing its lines of credit or by raising additional debt or equity from the
public or private capital markets. There can be no assurance that such
additional funding will be available on terms attractive to the Company, or at
all. Its failure to raise additional funding when needed could have a material
adverse effect on its business, results of operations and financial condition.
The Company May Be Unable To Satisfactorily Fund Its Loan Portfolio
The Company's primary source of funding to date has been the securitization of
its credit card loan portfolio through commercial paper conduit facilities.
Securitization transactions involve the sale of beneficial interests in credit
card loan balances. Until now, the Company has completed securitization
transactions on terms that it believes are favorable. The availability of
securitization funding, however, depends on the difficulty and expense of the
funding. Securitizations can be affected by many factors, such as whether a
third party will be willing to provide credit enhancement and the rates at which
cardholders have repaid their balances in the past. In addition, legal,
regulatory, accounting and tax changes can make securitization funding more
difficult, more expensive or unavailable on any terms. Securitizations may not
always offer the Company attractive funding, and it may have to seek other more
expensive funding sources in the future. In general, the amount, type and cost
of its financing affect its financial results. Changes within the Company's
organization and changes in the activities of parties with which it has
20
<PAGE> 23
agreements or understandings could all make the financings available to it more
difficult, more expensive or unavailable on any terms.
With the acquisition of NextBank, the Company's funding strategy includes the
ability to fund a portion of its loan portfolio through deposits solicited and
received by NextBank. The Company may not be able to attract or retain
sufficient deposits at attractive interest rates to fund the Company's loan
portfolio through NextBank. Moreover, if adequate capital is not available, it
also may be subject to an increased level of regulatory supervision that could
have an adverse effect on its operating results and financial condition.
The Company's Customers May Become Dissatisfied By System Disruptions And
Failures
The Company's website has in the past experienced, and may in the future
experience, slower than normal response times or other problems, such as system
unavailability. Customers may become dissatisfied by any system failure that
interrupts or delays its ability to provide its services to them. Any
interruption or delay in its operations could materially and adversely affect
the Company's business.
If the number of users of the Company's website increases substantially, the
Company will need to significantly expand and upgrade its technology,
transaction processing systems and network infrastructure. Its website must
accommodate a high volume of users and deliver frequently updated information.
The number of visitors and credit card applicants to its website has increased
substantially since the Company introduced the NextCard Visa, and the Company
anticipate that this traffic will further increase over time. However, it is
difficult to predict the future traffic on the Company's website. Marketing
efforts and other events could cause traffic to strain the Company's website's
capacity. The Company does not know whether it will be able to accurately
project the rate or timing of any traffic increases, or expand and upgrade its
systems and infrastructure to accommodate these increases in a timely manner.
The Company's systems and operations also are vulnerable to damage or
interruption from human error, natural disasters, power losses,
telecommunication failures, break-ins, sabotage, computer viruses, acts of
vandalism and similar events. As the Company currently does not have back-up
systems for most aspects of its operations, a failure of a single aspect of its
system could cause interruptions or delays in its entire operation. The Company
does not carry sufficient business interruption insurance to compensate for
losses that could occur.
The Company Depends On A Limited Number Of Vendors For Essential Services
The Company relies on a number of services furnished to it by either a single
vendor or a limited number of vendors. The Company also depends, directly and
indirectly, on other key third party vendors to provide essential services. In
the event that any of its agreements with any of these third parties is
terminated, the Company may not be able to find an alternative source of support
on a timely or commercially reasonable basis, if at all. Any interruption,
deterioration or termination in these third-party services could be disruptive
to the Company's business and harm its results of operations and financial
condition.
The Company May Be Adversely Affected If It Fails To Attract And Retain Key
Personnel
The Company's success depends largely on the skills, experience and performance
of certain key members of its management. If the Company loses one or more of
its key employees, the Company's business, operating results and financial
condition might be materially adversely
21
<PAGE> 24
affected. The Company's success also depends on its continued ability to
attract, retain and motivate highly skilled employees. Competition for employees
both for Internet-based businesses and for financial services businesses is
intense, particularly for personnel with technical training and experience. The
Company may be unable to retain its key employees or to attract, assimilate or
retain other highly qualified employees in the future. The Company has from time
to time in the past experienced, and it expects to experience in the future,
difficulty in hiring and retaining highly skilled employees with appropriate
qualifications.
The Company May Be Unable To Effectively Manage The Rapid Growth In Its
Operations
Since the introduction of the NextCard Visa product in December 1997, the
Company has experienced rapid growth in its operations. From December 31, 1997
through March 31, 2000, the Company grew from approximately 18 to 365 employees,
and its loans under management increased from $0.0 to $638.8 million. The
Company is planning for continued rapid growth of its operations. This growth
requires it to expand its marketing, customer service and support, credit and
technology organizations. There can be no assurance that the Company will be
able to attract and retain sufficient numbers of personnel to satisfy its
anticipated growth. In particular, as the Company relies heavily on temporary
personnel to satisfy its growing personnel demands, the Company may be unable to
continue to attract and retain a sufficient number of temporary employees to
support its future growth. Rapid growth places a significant strain on its
financial reporting, information and management systems and resources. The
Company's business, results of operations and financial condition will be
materially adversely affected if it is unable to effectively manage its
expanding operations. For example, if the Company was unable to maintain and
scale its financial reporting and information systems, it may not have access to
adequate, accurate and timely financial information.
The Company May Be Unable To Successfully Develop NextCard As A Brand
The dynamics of a brand name have traditionally worked differently in the credit
card market than in many other industries. In the credit card market, consumers
have responded more to brand names, such as Visa or MasterCard, than to the
identity of the issuer. The Internet may change underlying market dynamics for
brand recognition as compared to the offline market. Accordingly, the Company is
aggressively implementing its marketing plan to establish brand recognition with
Internet users to persuade customers to switch to its products and services,
particularly because it competes, or expects to compete, with larger financial
institutions that have well-established brand names. The Company cannot assure
that it will successfully develop its brand name. If the brand name of online
credit card issuers becomes important, and if other credit card issuers begin to
compete with it for online brand name recognition, the Company's business,
results of operations and financial condition could be materially and adversely
affected.
RISKS RELATED TO THE COMPANY'S INDUSTRY
The Company's Performance Will Depend On The Growth Of The Internet And Internet
Commerce
The Company's future success depends heavily on the overall continued growth and
acceptance of the Internet, including its use in electronic commerce. If
Internet usage or commerce does not continue to grow or grows more slowly than
expected, the Company's business, operating results and financial condition will
be adversely affected. Consumers and businesses may reject the Internet as a
viable medium for a number of reasons. These include potentially inadequate
network infrastructure, slow development of enabling technologies and
insufficient commercial
22
<PAGE> 25
support. The Internet infrastructure may not be able to support the demands
placed on it by increased Internet usage and bandwidth requirements. In
addition, delays in the development or adoption of new standards and procedures
required to handle increased levels of Internet activity, or increased
government regulation, could cause the Internet to lose its viability as a
commercial medium. Even if the required infrastructure, standards, procedures or
related products, services and facilities are developed, the Company may incur
substantial expenses adapting our solutions to changing or emerging
technologies.
The Company's Performance Will Depend On The Continued Growth Of The Financial
Services Market
The Company's business would be adversely affected if the growth in Internet
financial products and services does not continue or is slower than expected.
Although the Company believes the Internet has the potential to transform the
delivery of consumer financial products, consumers' acceptance of recently
introduced financial products and services is at an early stage and is subject
to a high level of uncertainty. Although the Company's long-term vision is to
define and enable the internet consumer's transaction experience, presently its
offers only a single product, the NextCard credit card. As the online financial
services industry matures, government-imposed regulations could become so
stringent that the Company may be economically precluded from offering online
financial products and services.
Intense And Increasing Competition In Financial Services Could Harm the
Company's Business
The financial services market is rapidly evolving and intensely competitive. The
recently enacted Gramm-Leach-Bliley Act of 1999, which permits the affiliation
of commercial banks, insurance companies and securities firms, may increase the
level of competition in the financial services market, including the credit card
business. The Company operates in this competitive environment with a number of
other companies, many of whom have significantly longer operating histories,
greater name recognition, larger customer bases and significantly greater
financial, technical and marketing resources than we do. Some of the Company's
competitors may be able to obtain funding at a more favorable rate than the
Company can obtain. In addition, the Company's business model anticipates that
it will derive a large majority of its revenue from the interest charged on
credit card balances contained in the portfolio of loans it holds. Increased
competition could require the Company to reduce the interest rates it charges
on its customers' balances. This could have a material adverse effect on the
Company's business, results of operations and financial condition.
Other credit card issuers and traditional commercial banks may increasingly
compete in the online credit card market. Existing Internet providers and new
Internet entrants may launch new websites using commercially available software.
In addition, companies that provide alternate online payment methods, such as
debit card and micropayment offerings, may compete for the Company's business.
While the credit card market traditionally has been very fragmented, the
Internet could change traditional market dynamics and enable new competitors to
rapidly acquire significant market share.
The Company's competitors may respond more quickly than the Company can to new
or emerging technologies and changes in customer requirements. They may be able
to:
- devote greater resources than the Company can to the development,
promotion and sale of their products and services;
23
<PAGE> 26
- replicate the Company's products and services;
- engage in more extensive research and development;
- undertake farther-reaching marketing campaigns;
- adopt more aggressive pricing policies;
- make more attractive offers to existing and potential employees and
strategic partners;
- more quickly develop new products and services or enhance existing
products and services;
- bundle consumer products and services in a manner that the Company
cannot provide; and
- establish cooperative relationships among themselves or with third
parties, including large Internet participants, to increase the
ability of their products and services to address the needs of the
Company's prospective customers.
The Company cannot assure that it will be able to compete successfully or that
competitive pressures will not materially and adversely affect its business,
results of operations or financial condition.
The Company's Operating Results Are Subject To Interest Rate Fluctuations
The majority of the Company's revenue is generated by the interest rates it
charges on outstanding balances in the form of finance charges, which are based
on prevailing interest rates. Accordingly, fluctuations in interest rates will
affect the Company's revenue. At the same time, a portion of its outstanding
balances are at fixed rates and do not fluctuate with interest rate movements.
The Company's borrowing costs may also fluctuate based on general interest rate
fluctuations. A rise in the Company's borrowing costs may not be met by a
corresponding increase in revenue generated by finance charges. Likewise, a
decrease in revenue generated by finance charges may not be met by a
corresponding decrease in borrowing costs. Thus, either a rise or a fall in the
prevailing interest rates could materially and adversely affect the Company's
results of operations and financial condition. The Company may have to manage
its interest rate risk through interest rate hedging techniques. However, the
Company currently does not use significant hedging techniques, and they may not
be successful in reducing or eliminating the Company's interest rate risk in the
future.
The Company May Be Unable To Introduce New Services, Features And Functions
The Internet and related financial institutions marketplaces are characterized
by rapidly changing technologies, evolving industry standards, frequent new
product and service introductions and changing customer demands. The Company's
future success will depend on its ability to adapt to rapidly changing
technologies and to enhance existing products and services, as well as to
develop and introduce a variety of new products and services to address its
customers' changing demands. The Company may experience difficulties that delay
or prevent the successful design, development, introduction or marketing of its
products and services. In addition, material delays in introducing new products
and services and enhancements may cause customers to forego purchases of Company
products and services and purchase instead those of its competitors.
24
<PAGE> 27
The Company May Be Unable to Undertake Additional Activities Due to Governmental
Regulations
NextBank is a limited purpose national credit card bank. If NextBank decided to
expand its activities beyond those permissible for a limited purpose national
credit card bank, the Company would be required to file an application with, and
receive the prior approval of, the OCC to amend NextBank's charter. Moreover,
the Company would be required to file an application with, and receive the prior
approval of, the Federal Reserve Board to become a bank holding company. If the
Company does not receive the necessary approval from the OCC and the Federal
Reserve Board, the Company would be unable to expand its activities beyond those
permitted for a limited purpose national credit card bank.
Security Breaches Could Damage The Company's Reputation And Business
The secure transmission of confidential information over the Internet is
essential to maintain consumer and supplier confidence in the Company's products
and services. Advances in computer capabilities, new discoveries or other
developments could result in a compromise or breach of the technology used by
the Company to protect customer transaction data.
A party that is able to circumvent the Company's security systems could steal
proprietary information or cause interruptions in its operations. Security
breaches could damage the Company's reputation and expose it to a risk of loss
or litigation. The Company's insurance policies carries low coverage limits,
which may not be adequate to reimburse the Company for losses caused by security
breaches. The Company cannot guarantee that its security measures will prevent
security breaches.
Consumers generally are concerned with security and privacy on the Internet and
any publicized security problems could inhibit the growth of the Internet as a
means of conducting commercial transactions. The Company's ability to provide
financial services over the Internet would be severely impeded if consumers
become unwilling to transmit confidential information online. As a result, the
Company's operations and financial condition would be materially and adversely
affected.
The Company May Face Increased Governmental Regulation And Legal Uncertainties
To date, communications and commerce on the Internet have not been highly
regulated. However, Congress has held hearings on whether to regulate providers
of services and transactions in the electronic commerce market. It is possible
that Congress or individual states could further enact laws regulating Internet
banking that address issues such as user privacy, pricing and the
characteristics and quality of products and services. For example, the
Gramm-Leach-Bliley Act of 1999 established new privacy requirements applicable
to all financial institutions. Any restrictions on the collection and use of
such consumer information over the Internet could adversely affect the Company's
direct marketing efforts. In addition, several telecommunications companies have
petitioned the Federal Communications Commission to regulate Internet service
providers in a manner similar to long distance telephone carriers and to impose
access fees on these companies. This could increase the cost of transmitting
data over the Internet. Moreover, it may take years to determine the extent to
which existing laws relating to issues such as property ownership, libel and
personal privacy are applicable to the Internet. Any new laws or regulations
relating to the Internet could adversely affect the Company's business.
25
<PAGE> 28
The Company's business is subject to extensive federal and state regulation,
including regulation under consumer protection laws. NextBank, the Company's
wholly owned subsidiaries, is a limited purpose national credit card bank, and
is subject to regulation under federal banking laws and certain laws of
California and other states, as well as regulatory supervision by the Office of
the Comptroller of the Currency (OCC) and the FDIC. As an affiliate of NextBank,
the Company is also subject to oversight by the OCC and the FDIC. Existing and
future legislation and regulatory supervision could have a material adverse
effect on the Company's business, including our credit and authentication
policies, pricing and products.
NextBank is subject to minimum capital, funding and leverage requirements
prescribed by federal statute and the OCC regulations and orders. If NextBank
fails to meet these regulatory capital requirements, NextBank will be subject to
additional restrictions that could have a material adverse effect on the
Company's ability to conduct normal operations and possibly result in the
seizure of NextBank by government regulators under certain circumstances. The
Company's ability to maintain or increase NextBank's capital levels in the
future will be subject to, among other things, general economic conditions, its
ability to raise new capital and its ability and willingness to make additional
capital contributions to NextBank or a related institution.
The Company May Face Difficulties Protecting And Enforcing Its Intellectual
Property Rights
The Company's success and ability to compete are substantially dependent on its
proprietary technology and trademarks, which it attempts to protect through a
combination of patent, copyright, trade secret and trademark laws as well as
confidentiality procedures and contractual provisions. However, any steps it
takes to protect its intellectual property may be inadequate, time consuming and
expensive. Furthermore, despite the Company's efforts, it may be unable to
prevent third parties from infringing upon or misappropriating its intellectual
property. Any such infringement or misappropriation could have a material
adverse effect on its business, results of operations and financial condition.
In addition, the Company may infringe upon the intellectual property rights of
third parties, including third party rights in patents that have not yet been
issued. Any such infringement, or alleged infringement, could have a material
adverse effect on its business, results of operations and financial condition.
The Company has filed three patent applications and have applied to register
several of the Company's trademarks, both in the United States and abroad. The
Company cannot assure that its patent applications or trademark registrations
will be approved. Moreover, even if approved, they may not provide the Company
with any competitive advantages or may be challenged by third parties. Legal
standards relating to the validity, enforceability and scope of intellectual
property rights in Internet-related industries are uncertain and still evolving,
and the future viability or value of any of its intellectual property rights is
uncertain. Any litigation surrounding such rights could force the Company to
divert important financial and other resources away from its business
operations.
The Company collects and utilizes data derived from applications on the NextCard
website and through transactions made using its products. Although the Company
believes that it has the right to use such data and compile such data in its
database, it cannot assure that any intellectual property protection will be
available for such information subject to any limitations related to privacy
such as those contained in the Gramm-Leach-Bliley Act. In addition, third
parties may claim rights to such information.
The Company has licensed, and may license in the future, elements of its
trademarks, trade dress and similar proprietary rights to third parties. While
the Company attempts to ensure that the
26
<PAGE> 29
quality of its brand is maintained by such business partners, such partners may
take actions that could materially and adversely affect the value of its
proprietary rights or its reputation. This could, in turn, have a material
adverse effect on the Company's business, results of operations and financial
condition.
The Company May Not Be able To Acquire or Maintain Appropriate Domain Names
The Company holds rights to various Web domain names including "nextcard.com".
Governmental agencies typically regulate domain names. These regulations are
subject to change. The Company may not be able to acquire or maintain
appropriate domain names in all countries in which it plans to do business.
Furthermore, regulations governing domain names may not protect its trademarks
and similar proprietary rights. The Company may be unable to prevent third
parties from acquiring domain names that are similar to, infringe upon or
diminish the value of its trademarks and other proprietary rights.
27
<PAGE> 30
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss from adverse changes in market prices and rates.
The Company's principal market risk is due to changes in interest rates. This
affects the Company directly in its lending and borrowing activities, as well as
indirectly as interest rates may impact card usage and the payment performance
of the Company's cardholders.
The majority of the Company's revenues are generated by the interest rates it
charges on outstanding receivable balances in the form of finance charges. The
Company's receivables generally yield either a variable interest rate indexed to
the prime rate, or a fixed interest rate, set independently of market interest
rates. Accordingly, fluctuations in interest rates will affect the Company's
revenues. At the same time, the Company's borrowing costs under the Company's
commercial paper conduit facilities are generally indexed to variable commercial
paper rates, and may also fluctuate based on general interest rate fluctuations.
A rise in the Company's borrowing costs may not be met by a corresponding
increase in revenues generated by finance charges. Likewise, a decrease in
revenues generated by finance charges may not be met by a corresponding decrease
in borrowing costs. Thus, either a rise or a fall in the prevailing interest
rates could materially adversely affect the Company's results of operations and
financial condition.
To manage the Company's direct risk to market interest rates, management
actively monitors the interest rates and the interest sensitive components of
the Company's balance sheet to minimize the impact changes in interest rates
have on the fair value of assets, liabilities, net income and cash flow.
Management seeks to minimize the impact of changes in interest rates on the
Company primarily by matching assets and liability repricings.
The Company's fixed interest rate credit card receivables have no stated
maturity or repricing period. However, the Company generally has the right to
increase rates when the customer fails to comply with the terms of the account
agreement. In addition, the Company's credit card receivables may be repriced by
the Company upon providing the required prior notice to the customer, which is
generally no more that 30 days.
The Company may manage its interest rate risk through interest rate hedging
techniques. However, the Company currently does not use such techniques and it
may not be successful in reducing or eliminating the Company's interest rate
risk in the future.
28
<PAGE> 31
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is not a party to any lawsuit that, taken separately or
collectively, if decided adversely would be likely to have a material, adverse
effect on its business, financial prospects or results of operations.
ITEM 2. CHANGES IN SECURITIES
Not applicable
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable
ITEM 4. SUBMISSION OF MATTER TO A VOTE OF SECURITY HOLDERS
Not Applicable
ITEM 5. OTHER INFORMATION
Not applicable
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
<TABLE>
<CAPTION>
Exhibit
Number Description
------ -----------
<S> <C>
27.1 Financial Data Schedule
</TABLE>
(b) Reports on Form 8-K
Not applicable
29
<PAGE> 32
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
NEXTCARD, INC.
(Registrant)
Date: March 15, 2000 /s/ Jeremy R. Lent
----------------------
Jeremy R. Lent
Chairman of the Board and
Chief Executive Officer
Date: March 15, 2000 /s/ John V. Hashman
-------------------
John V. Hashman
President and Chief Financial Officer
30
<PAGE> 33
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit
Number Description
------ -----------
<S> <C>
27.1 Financial Data Schedule
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED FINANCIAL STATEMENTS OF NEXTCARD, INC. FOR THE QUARTER ENDED
SEPTEMBER, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-2000
<PERIOD-START> JAN-01-2000
<PERIOD-END> MAR-31-2000
<CASH> 0
<INT-BEARING-DEPOSITS> 198,869
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 0
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 304,420
<ALLOWANCE> 9,158
<TOTAL-ASSETS> 599,970
<DEPOSITS> 111,568
<SHORT-TERM> 23,491
<LIABILITIES-OTHER> 192,000
<LONG-TERM> 10,349
0
0
<COMMON> 52
<OTHER-SE> 262,783
<TOTAL-LIABILITIES-AND-EQUITY> 599,940
<INTEREST-LOAN> 13,094
<INTEREST-INVEST> 2,776
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 15,810
<INTEREST-DEPOSIT> 744
<INTEREST-EXPENSE> 6,645
<INTEREST-INCOME-NET> 9,165
<LOAN-LOSSES> 8,600
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 31,111
<INCOME-PRETAX> (17,697)
<INCOME-PRE-EXTRAORDINARY> (17,697)
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (17,697)
<EPS-BASIC> (0.34)
<EPS-DILUTED> (0.34)
<YIELD-ACTUAL> 5.67
<LOANS-NON> 0
<LOANS-PAST> 3,805
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 11,500
<CHARGE-OFFS> 2,027
<RECOVERIES> 68
<ALLOWANCE-CLOSE> 9,158
<ALLOWANCE-DOMESTIC> 9,158
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
