<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
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: JUNE 30, 1999
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ______________ TO ______________
COMMISSION FILE NUMBER: 0-19058
------------------------
PRISM FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 36-4279417
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
440 NORTH ORLEANS, CHICAGO, ILLINOIS 60610
(Address of principal executive offices and zip code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (312) 494-0020
------------------------
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 / / No /X/
AS OF AUGUST 13, 1999, THERE WERE OUTSTANDING 14,625,171 SHARES OF COMMON
STOCK, PAR VALUE $0.01, OF THE REGISTRANT.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
PRISM FINANCIAL CORPORATION AND SUBSIDIARIES
QUARTER ENDED JUNE 30, 1999
INDEX
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
PART I--FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of June 30, 1999 (unaudited) and December 31, 1998.................. 3
Consolidated Statements of Income for the three months and six months ended June 30, 1999
(unaudited) and 1998 (unaudited)................................................................... 4
Consolidated Statement of Changes in Stockholders' Equity for the six months ended June 30, 1999
(unaudited)........................................................................................ 5
Consolidated Statements of Cash Flows for the six months ended June 30, 1999 (unaudited) and 1998
(unaudited)........................................................................................ 6
Notes to Consolidated Financial Statements......................................................... 7
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations............ 10
Item 3. Quantitative and Qualitative Disclosures about Market Risk....................................... 17
PART II--OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds........................................................ 19
Item 4. Submission of Matters to a Vote of Security Holders.............................................. 20
Item 6. Exhibits and Reports on Form 8-K................................................................. 20
SIGNATURES................................................................................................. 23
</TABLE>
2
<PAGE>
PART I--FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PRISM FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
AS OF
DECEMBER 31,
1998
AS OF ---------------
JUNE 30,
1999
---------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Cash and cash equivalents...................................................... $ 9,203,992 $ 12,123,893
Loans held for sale............................................................ 364,443,654 467,254,128
Loans and other fees receivable, net of allowance of $651,504 and $350,000,
respectively................................................................. 10,892,128 14,206,790
Furniture, fixtures and equipment, net......................................... 8,770,331 4,284,214
Intangible assets, net......................................................... 11,199,920 2,920,336
Investments in and advances to affiliates...................................... 2,160 67,419
Other assets................................................................... 8,583,098 2,765,314
--------------- ---------------
Total assets................................................................. $ 413,095,283 $ 503,622,094
--------------- ---------------
--------------- ---------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Loans sold under agreements to repurchase...................................... $ 126,315,321 $ 292,626,673
Warehouse lines of credit...................................................... 218,695,381 170,217,137
Current portion of long-term debt.............................................. 130,101 729,249
Long-term debt................................................................. 157,438 4,297,836
Commissions payable............................................................ 4,240,226 4,290,899
Accounts payable............................................................... 1,950,642 2,548,732
Accrued interest payable....................................................... 2,086,171 2,153,402
Payable to affiliates.......................................................... 32,399 148,562
Accrued expenses and other liabilities......................................... 11,748,114 10,406,306
S corporation distribution notes............................................... 2,750,000 --
--------------- ---------------
Total liabilities............................................................ 368,105,793 487,418,796
--------------- ---------------
Commitments and contingencies.................................................. -- --
Stockholders' equity:
Preferred stock, $0.01 par value per share, 10,000,000 shares authorized, no
shares issued and outstanding................................................ -- --
Common stock, $0.01 par value; 100,000,000 shares authorized; 14,625,171 and
11,495,297 shares issued and outstanding, respectively....................... 146,252 114,953
Additional paid-in capital..................................................... 42,930,354 4,002,779
Retained earnings.............................................................. 1,912,884 12,085,566
--------------- ---------------
Total stockholders' equity................................................... 44,989,490 16,203,298
--------------- ---------------
Total liabilities and stockholders' equity................................... $ 413,095,283 $ 503,622,094
--------------- ---------------
--------------- ---------------
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
PRISM FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
---------------------------- ----------------------------
1999 1998 1999 1998
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Revenues:
Loan origination income........................... $ 25,250,818 $ 10,174,522 $ 52,942,432 $ 21,185,663
Net premium income................................ 7,530,892 2,034,545 13,300,576 3,419,904
Loan-related fees................................. 6,058,530 963,287 10,492,784 2,044,991
Net interest income............................... 1,211,528 337,422 2,491,727 615,479
Other............................................. 1,972,500 307,109 2,744,675 433,732
------------- ------------- ------------- -------------
42,024,268 13,816,885 81,972,194 27,699,769
------------- ------------- ------------- -------------
Expenses:
Commissions....................................... 16,184,744 4,611,140 31,550,384 9,425,912
Loan-related expenses............................. 1,639,032 1,200,086 5,262,837 3,037,817
Salaries and benefits............................. 12,043,999 3,520,925 21,005,582 6,768,308
General and administrative expenses............... 5,474,849 2,113,844 12,028,924 4,221,494
Depreciation and amortization..................... 838,096 250,000 1,303,086 450,000
Other............................................. 84,031 27,407 165,651 53,074
------------- ------------- ------------- -------------
36,264,751 11,723,402 71,316,464 23,956,605
------------- ------------- ------------- -------------
Income before taxes............................. 5,759,517 2,093,483 10,655,730 3,743,164
------------- ------------- ------------- -------------
Provision for income taxes........................ 676,555 -- 676,555 --
Income tax benefit due to conversion of
"S" Corp........................................ (854,683) -- (854,683) --
------------- ------------- ------------- -------------
Net income...................................... $ 5,937,645 $ 2,093,483 $ 10,833,858 $ 3,743,164
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Earnings per share:
Basic............................................. $ 0.47 $ 0.20 $ 0.89 $ 0.36
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Diluted........................................... $ 0.46 $ 0.20 $ 0.88 $ 0.36
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Weighted average number of shares outstanding:
Basic............................................. 12,767,883 10,337,836 12,135,105 10,303,608
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Diluted........................................... 12,948,056 10,410,374 12,268,437 10,376,246
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Pro forma data:
Income before taxes............................... $ 5,759,517 $ 2,093,483 $ 10,655,730 $ 3,743,164
Pro forma provision for income taxes.............. 2,246,212 794,686 4,155,735 1,420,905
------------- ------------- ------------- -------------
Pro forma net income............................ $ 3,513,305 $ 1,298,797 $ 6,499,995 $ 2,322,259
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Pro forma earnings per share:
Basic............................................. $ 0.24 $ 0.09 $ 0.44 $ 0.16
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Diluted........................................... $ 0.24 $ 0.09 $ 0.43 $ 0.16
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Pro forma weighted average number of shares
outstanding:
Basic............................................. 14,625,171 14,625,171 14,625,171 14,625,171
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Diluted........................................... 14,945,529 14,933,948 14,946,449 14,934,047
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
PRISM FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE SIX MONTHS ENDED JUNE 30, 1999
(UNAUDITED)
<TABLE>
<CAPTION>
SHARES AMOUNT
------------ --------------
<S> <C> <C>
Common stock:
Balance at beginning of year...................................................... 11,495,297 $ 114,953
Stock issued in initial public offering........................................... 2,500,000 25,000
Stock issued for acquisitions as additional consideration and deferred
compensation.................................................................... 629,874 6,299
------------ --------------
Balance at end of year.......................................................... 14,625,171 $ 146,252
------------ --------------
------------ --------------
Additional paid-in capital:
Balance at beginning of year...................................................... $ 4,002,779
Stock issued for initial public offering, net of underwriting discounts........... 32,525,000
Stock issued for acquisitions as additional consideration and deferred
compensation.................................................................... 8,811,943
Capital contribution.............................................................. 99,998
Distribution notes payable to S corporation stockholders in connection with
conversion to a C corporation................................................... (1,781,460)
Initial public offering costs..................................................... (727,906)
--------------
Balance at end of year.......................................................... $ 42,930,354
--------------
--------------
Retained earnings:
Balance at beginning of year...................................................... $ 12,085,566
Net income........................................................................ 10,833,858
Cash dividends.................................................................... (20,038,000)
Distribution notes payable to S corporation stockholders in connection with
conversion to a C corporation................................................... (968,540)
--------------
Balance at end of year.......................................................... 1,912,884
--------------
Total stockholders' equity.......................................................... $ 44,989,490
--------------
--------------
</TABLE>
See accompanying notes to consolidated financial statements.
5
<PAGE>
PRISM FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
FOR THE SIX MONTHS ENDED JUNE 30,
----------------------------------
1999 1998
----------------- ---------------
<S> <C> <C>
Cash flows from operating activities:
Net income................................................................. $ 10,833,858 $ 3,743,164
Adjustments to reconcile net income to net cash provided by (used in)
operating activities:
Depreciation and amortization............................................ 1,303,086 450,000
Provision for loan and servicing losses.................................. 131,504 244,842
Equity in net income of affiliates....................................... (11,076) (10,137)
Distributions from affiliates.............................................. 76,335 10,137
Proceeds from sales of loans............................................... 2,136,448,273 668,088,213
Loans originated........................................................... (1,992,737,514) (728,705,072)
Changes in assets and liabilities, net of acquisitions:
Loans and other fees receivable.......................................... 4,145,238 (2,195,319)
Other assets............................................................. (1,294,606) (89,512)
Commissions payable...................................................... (917,309) 349,108
Accounts payable......................................................... (1,520,408) 444,713
Accrued interest payable................................................. (368,579) 117,722
Payables to affiliates................................................... (116,163) (85,979)
Accrued expenses and other liabilities................................... (1,537,870) 1,128,819
----------------- ---------------
Net cash provided by (used in) operating activities.................... 154,434,769 (56,509,301)
----------------- ---------------
Cash flows from investing activities:
Purchases of furniture, fixtures and equipment............................. (2,797,890) (1,243,381)
Net cash (paid) received for acquisitions.................................. (3,779,319) 368,566
----------------- ---------------
Net cash used in investing activities...................................... (6,577,209) (874,815)
----------------- ---------------
Cash flows from financing activities:
(Repayments of) borrowings on warehouse lines of credit, net............... (157,922,007) 59,923,480
Repayments of long-term debt, net of additional borrowings................. (4,739,546) --
Capital contribution....................................................... 99,998 --
Proceeds from initial public offering, net of issuance costs............... 31,822,094 --
Dividends paid............................................................. (20,038,000) (1,138,751)
----------------- ---------------
Net cash (used in) provided by financing activities...................... (150,777,461) 58,784,729
----------------- ---------------
Net (decrease) increase in cash and cash equivalents..................... (2,919,901) 1,400,613
Cash and cash equivalents:
Beginning.................................................................. 12,123,893 1,163,971
----------------- ---------------
Ending..................................................................... $ 9,203,992 $ 2,564,584
----------------- ---------------
----------------- ---------------
</TABLE>
See accompanying notes to consolidated financial statements.
6
<PAGE>
PRISM FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1--BASIS OF PRESENTATION
The accompanying unaudited interim consolidated financial statements of
Prism Financial Corporation and subsidiaries (collectively, "Prism Financial" or
the "Company") reflect all adjustments which, in the opinion of management, are
necessary for a fair presentation of the results of the interim periods
presented. All such adjustments are of a normal recurring nature. All
intercompany accounts and transactions have been eliminated. Operating results
for the six months ended June 30, 1999 are not necessarily indicative of the
results that may be expected for the full year ended December 31, 1999.
The unaudited interim consolidated financial statements should be read in
conjunction with the Company's audited consolidated financial statements and
notes thereto for the year ended December 31, 1998 included in the Company's
Registration Statement on Form S-1 (Registration No. 333-74883), effective May
24, 1999.
Certain prior period items have been reclassified to conform to the current
period presentation.
NOTE 2--CHANGE IN ACCOUNTING METHOD
For furniture, fixtures and equipment purchased since January 1, 1999, the
Company has changed from a double-declining-balance method of depreciation to
the straight-line method of depreciation. This change did not have a material
effect on net income for the second quarter and first six months of 1999. The
Company changed its depreciation method because management believes that the
straight-line method provides a better matching of costs and revenues, and the
straight-line method is consistent with the depreciation methods used by other
companies in the industry, including the Company's recently acquired businesses.
NOTE 3--INITIAL PUBLIC OFFERING AND RELATED MATTERS
On May 28, 1999, the Company completed its initial public offering (the
"Offering") of 2.5 million shares of common stock, $0.01 par value ("Common
Stock"), at a price of $14.00 per share. The estimated net proceeds from the
Offering, after deducting the underwriting discount and the estimated expenses
of the Offering, were approximately $31.8 million.
The Company's June 30, 1999 balance sheet reflects the following in
connection with the Offering: (1) the increase in the Common Stock and
additional paid-in capital in connection with the shares sold in the Offering,
net of underwriting discounts and estimated Offering expenses; (2) the payment
of a $20.0 million dividend, with respect to the Company's retained earnings
through March 31, 1999, including approximately $12.8 million paid out of the
net proceeds from the Offering, to the stockholders of record prior to the
closing of the Offering; (3) the establishment of S corporation distribution
notes of approximately $2.8 million, and the reduction of retained earnings and
additional paid-in capital of approximately $969,000 and $1,781,000,
respectively, for undistributed earnings of the Company from April 1, 1999
through the closing of the Offering; (4) the establishment of a deferred tax
asset of approximately $855,000 in connection with the termination of the
Company's S corporation status in connection with the closing of the Offering;
and (5) the repayment of long-term debt of $7.5 million and partial repayment of
the amounts outstanding under the Company's warehouse lines of credit.
NOTE 4--INCOME TAXES
Effective January 1, 1996, Prism Mortgage Company, the predecessor to Prism
Financial ("Prism Mortgage"), with the consent of its stockholders, elected to
be treated as an S corporation for Federal and certain state income tax
purposes, which provided that in lieu of corporation income taxes, the
stockholders separately accounted for their pro rata share of Prism Mortgage's
items of income, deductions, losses and credits. Therefore, the financial
statements for the periods covered by this election do not include a
7
<PAGE>
PRISM FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 4--INCOME TAXES (CONTINUED)
provision for corporate income taxes, except for Illinois personal property
replacement taxes and other state income taxes that may be applicable, which are
included in operating expenses.
Since the completion of the Offering, the Company has been treated as a C
corporation and has been subject to corporate income taxation. Income tax
expense of approximately $677,000 has been recorded from the closing of the
Offering to June 30, 1999, as well as an income tax benefit of approximately
$855,000 due to the S corporation conversion. Additionally, a pro forma income
tax provision has been presented as if Prism Financial was taxable as a C
corporation for Federal and state income tax purposes for all periods presented.
NOTE 5--ACQUISITIONS
In April 1999, the Company acquired First City Financial Corp. ("First
City"), a Denver-based mortgage banking company, for $2.0 million in cash, net
of approximately $950,000 in cash acquired in the transaction. The purchase
agreement provides for contingent consideration in each of the five years
following the acquisition based on First City's net income, if any, in each of
those five years. The contingent consideration is payable in cash or Common
Stock at the Company's option. The amount of contingent consideration, if any,
cannot currently be determined.
In May 1999, the Company acquired the Mid-Atlantic portion of the mortgage
banking business of a depository bank for approximately $550,000 in cash.
At the time of the Offering, the Company issued 404,029 shares of Common
Stock, valued at approximately $5,656,000, as contingent consideration with
respect to the acquisition of Pacific Guarantee Mortgage Corporation ("Pacific
Guarantee") during the third quarter of 1998. This amount was recorded as
goodwill in the second quarter of 1999 and will be amortized over 20 years. In
addition, approximately 44,892 shares of Common Stock, valued at approximately
$628,000, were issued and accounted for as deferred compensation with respect to
the acquisition of Pacific Guarantee. This amount will be amortized over five
years. The Company also issued 127,411 and 53,542 shares of Common Stock, valued
at approximately $1,784,000 million and $750,000, respectively, to the equity
value plans of Pacific Guarantee and Mortgage Market, Inc. ("Mortgage Market")
at the time of the Offering. The Company acquired Mortgage Market during the
third quarter of 1998. These amounts were accounted for as deferred compensation
and will be amortized over five years. The purchase agreements for Pacific
Guarantee and Mortgage Market provide for the payments of additional
consideration and compensation based on the future results of Pacific Guarantee,
Mortgage Market and the Company. Additional payments of consideration and
compensation cannot currently be determined.
In accordance with the respective purchase agreements, the Company incurred
approximately $1.3 million of additional costs relating to acquisitions
consummated in prior periods. These costs were capitalized as goodwill.
NOTE 6--EARNINGS PER SHARE
Basic earnings per share is based on the weighted average number of shares
outstanding and excludes the dilutive effect of common stock equivalents.
Diluted earnings per share is based on the weighted average number of shares
outstanding and includes the dilutive effect of common stock equivalents. Common
stock equivalents consist primarily of stock options granted to key employees
and directors of the Company.
8
<PAGE>
PRISM FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 7--UNAUDITED PRO FORMA FINANCIAL INFORMATION
The pro forma financial information has been presented to show the effect on
the historical results of operations of the Company had it been treated as a C
corporation for Federal and state income tax purposes as of the beginning of the
earliest period presented.
The pro forma earnings per share has been presented as if the shares issued
at the time of the Offering, including the shares issued to Pacific Guarantee
and Mortgage Market, were outstanding as of the beginning of each period
presented.
NOTE 8--INCORPORATION TRANSACTIONS
In February 1999, Prism Financial was formed to serve as a holding company
for Prism Mortgage. In connection with the closing of the Offering, the existing
stockholders of Prism Mortgage exchanged their shares of common stock in Prism
Mortgage for an aggregate of 11,495,297 shares of Prism Financial Common Stock.
Prism Mortgage was incorporated in the state of Illinois in 1992. The legal name
of Prism Financial has been retroactively applied to all periods presented in
these financial statements.
9
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
GENERAL
Prism Financial is a leading retail mortgage banking company engaged in the
business of originating, selling and brokering residential mortgage loans. The
Company currently has a network of approximately 1,000 commission-only loan
originators operating out of 153 retail branches in 22 states, as well as
partnerships with leading Internet mortgage web sites. The Company offers a
broad array of residential mortgage products targeted primarily to
high-credit-quality borrowers and operates as both a mortgage banker
(underwriting, closing and funding loans) and a mortgage broker (selling the
loan products of over 100 different lenders).
TERMINATION OF S CORPORATION STATUS AND INCOME TAXES
Effective January 1, 1996, Prism Mortgage, with the consent of its
stockholders, elected to be treated as an S corporation for Federal and certain
state income tax purposes, which provided that in lieu of corporation income
taxes, the stockholders separately accounted for their pro rata share of Prism
Mortgage's items of income, deductions, losses and credits. Therefore, the
financial statements for the periods covered by this election do not include a
provision for corporate income taxes, except for Illinois personal property
replacement taxes and other state income taxes that may be applicable, which are
included in operating expenses.
Since the completion of the initial public offering of Prism Financial's
stock, the Company has been treated as a C corporation and has been subject to
corporate income taxation. Income tax expense of approximately $677,000 has been
recorded for the quarter ended June 30, 1999, as well as an income tax benefit
of approximately $855,000 due to the S corporation conversion. Additionally, a
pro forma income tax provision has been presented as if Prism Financial was
taxable as a C corporation for Federal and state income tax purposes for all
periods presented.
10
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, information
derived from the Company's statements of income expressed as a percentage of
total revenues. Any trends illustrated in the following table are not
necessarily indicative of future results.
<TABLE>
<CAPTION>
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
-------------------- --------------------
1999 1998 1999 1998
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
RESULTS OF OPERATIONS:
Loan origination income................................................. 60.1% 73.6% 64.6% 76.5%
Net premium income...................................................... 17.9 14.7 16.2 12.3
Loan-related fees....................................................... 14.4 7.0 12.8 7.4
Net interest income..................................................... 2.9 2.5 3.0 2.2
Other................................................................... 4.7 2.2 3.4 1.6
--------- --------- --------- ---------
Total revenues........................................................ 100.0 100.0 100.0 100.0
--------- --------- --------- ---------
Commissions............................................................. 38.5 33.4 38.5 34.0
Loan-related expenses................................................... 3.9 8.7 6.4 11.0
Salaries and benefits................................................... 28.7 25.5 25.6 24.5
General and administrative expenses..................................... 13.0 15.3 14.7 15.2
Depreciation and amortization........................................... 2.0 1.8 1.6 1.6
Other................................................................... 0.2 0.1 0.2 0.2
--------- --------- --------- ---------
Total expenses........................................................ 86.3 84.8 87.0 86.5
--------- --------- --------- ---------
Income before taxes................................................. 13.7 15.2 13.0 13.5
--------- --------- --------- ---------
Provision for income taxes.............................................. 1.6 -- 0.8 --
Income tax benefit due to conversion of "S" Corp........................ (2.0) -- (1.0) --
--------- --------- --------- ---------
Net income.......................................................... 14.1% 15.2% 13.2% 13.5%
--------- --------- --------- ---------
--------- --------- --------- ---------
PRO FORMA DATA:
Income before taxes................................................. 13.7 15.2 13.0 13.5
Pro forma provision for income taxes................................ 5.3 5.8 5.1 5.1
--------- --------- --------- ---------
Net income adjusted for pro forma income tax provision.............. 8.4% 9.4% 7.9% 8.4%
--------- --------- --------- ---------
--------- --------- --------- ---------
</TABLE>
THREE AND SIX MONTHS ENDED JUNE 30, 1999 COMPARED TO THE THREE AND SIX MONTHS
ENDED JUNE 30, 1998
REVENUES
The Company earns revenues both as a retail originator of loans, as well as
through its mortgage banking activities. As a retail originator of loans, the
Company generates loan origination income and loan-related fees through funded
and brokered loans. Loan origination income consists of origination points paid
by borrowers or discount points paid by wholesale lenders. Loan-related fees
consist of application, documentation and processing fees paid by borrowers. On
the loans closed through the Company's mortgage banking activities, the Company
generates revenues from net premium income and net interest income. Net premium
income consists of the net gain on the sale of mortgage loans and mortgage
servicing rights, which are sold generally within 45 days of origination. This
net gain is recognized based upon the difference between the combined selling
price of the loan, and its related servicing rights, and the carrying value of
the mortgage loans and servicing rights sold. Net interest income consists of
the net difference between interest received on the Company's mortgage loans
held for sale and interest fees
11
<PAGE>
paid under the Company's bank credit facilities. The Company also generates
other revenue from the sale of mortgage-related services, including mortgage
insurance and title insurance policies.
Total revenues for the three months ended June 30, 1999 were $42.0 million,
an increase of $28.2 million, or 204%, as compared to $13.8 million for the same
period in 1998. Total revenues for the first six months of 1999 were $82.0
million, an increase of $54.3 million, or 196%, as compared to $27.7 million for
the first six months of 1998. The increases in total revenues for the second
quarter and first six months of 1999 were due primarily to higher loan
origination volume. Loan origination volume increased to $2.1 billion and $4.1
billion, respectively, for the three months and six months ended June 30, 1999,
as compared to $0.7 billion and $1.4 billion for the same periods in 1998. The
increases in loan origination volume during these periods resulted primarily
from the acquisitions of Pacific Guarantee and Mortgage Market in the third
quarter of 1998 and, to a lesser extent, the acquisition of First City in April
1999, new branch expansion and recruitment of additional loan originators.
During the three months ended June 30, 1999, the Company added approximately 50
loan originators, excluding acquisitions. The Company operated 153 branches at
June 30, 1999, as compared to 23 branches at June 30, 1998. Excluding
acquisitions, the Company opened approximately 15 branches since June 30, 1998.
Refinancing activity accounted for approximately 36% and 48% of the Company's
origination volume during the second quarter and first six months of 1999,
respectively, as compared to approximately 38% and 50% during the same periods
in 1998.
LOAN ORIGINATION INCOME. Loan origination income increased to $25.3 million
for the quarter ended June 30, 1999, from $10.2 million for the same period in
1998, an increase of $15.1 million, or 148%. Loan origination income for the
first six months of 1999 was $52.9 million, an increase of $31.7 million, or
150%, over $21.2 million for the comparable prior-year period. These increases
were attributable to the growth in loan origination volume during these periods,
as discussed above.
NET PREMIUM INCOME. Net premium income increased to $7.5 million for the
three months ended June 30, 1999, from $2.0 million for the same period in 1998,
an increase of $5.5 million, or 270%. Net premium income for the first six
months of 1999 was $13.3 million, an increase of $9.9 million, or 289%, over
$3.4 million for the comparable prior-year period. These increases resulted
primarily from the higher volume of mortgage loans funded through the Company's
mortgage bank, on an absolute basis, and the improved pricing on the sales of
servicing rights resulting from higher volume. Mortgage loans sold during the
three and six months ended June 30, 1999 increased to $0.9 billion and $2.1
billion, respectively, from $375 million and $668 million for the same periods
in 1998.
LOAN-RELATED FEES. Loan-related fees increased to $6.1 million for the
three months ended June 30, 1999, from $1.0 million for second quarter in 1998,
an increase of $5.1 million, or 529%. Loan-related fees for the first six months
of 1999 were $10.5 million, an increase of $8.5 million, or 413%, over $2.0
million of fees for the same period in 1998. Loan-related fees increased due to
higher mortgage loan origination volume. Additionally, because application and
processing fees are often waived on refinancing transactions, the smaller
percentage of refinancing volume during the second quarter and first six months
of 1999, as compared to the same prior-year periods, resulted in higher
loan-related fees during these periods.
NET INTEREST INCOME. Net interest income was $1.2 million for the first
quarter of 1999, an increase of $874,000, or 259%, from $337,000 for the second
quarter of 1998. Net interest income was $2.5 million for the first six months
of 1999, an increase of $1.9 million, or 305%, as compared to $615,000 for the
first six months of 1998. The increases in net interest income were due to
several factors, including the increase in loans funded by the Company's
mortgage bank, a higher average balance of mortgage loans held for sale, and
increased usage of the repurchase and other credit lines, including Fannie Mae's
"As Soon as Pooled/ Early Purchase Option" (the "ASAP Plus" program), which
reduced the rate of interest charged to the Company on the loans held for sale.
In addition, the increased usage of bulk sales and co-issue transactions
resulted in an increase in the length of time loans were held for sale, which
allowed the Company to further benefit from its positive net interest margin.
12
<PAGE>
OTHER INCOME. Other income increased to $2.0 million for the three months
ended June 30, 1999, from $307,000 for the same period in 1998, an increase of
$1.7 million, or 542%. Other income for the first six months of 1999 was $2.7
million, an increase of $2.3 million, or 533%, as compared to $434,000 for the
same period in 1998. The increases in other income were due primarily to income
generated from the issuance of title insurance policies prepared for borrowers
by a wholly-owned subsidiary, which was contributed to the Company in April 1998
by its principal stockholders. Additionally, the Company formed a bundled
services business during the second quarter of 1999, which sells products and
services necessary in obtaining a loan.
EXPENSES
The Company's expenses largely consist of (1) commissions paid to loan
originators on closed loans; (2) loan-related expenses, consisting of fees paid
to third parties for appraisal and credit report services and reserves for
potential loan repurchase and premium recapture obligations; (3) salaries and
benefits paid to employees other than loan originators; (4) general and
administrative expenses, such as occupancy costs, office expenses, travel
expenses and professional services fees; and (5) depreciation and amortization
expense related principally to the Company's facilities, computers and
intangible assets associated with acquisitions. A substantial portion of these
expenses is variable in nature. Commissions paid to loan originators are 100%
variable, while loan-related expenses are nearly 100% variable, and both
fluctuate based upon the dollar volume of loans originated.
COMMISSIONS. Commissions expense increased to $16.2 million for the first
quarter of 1999, from $4.6 million for the same period in 1998, an increase of
$11.6 million, or 251%. Commissions expense for the first six months of 1999 was
$31.6 million, an increase of $22.2 million, or 235%, as compared to $9.4
million for the same period in 1998. The increases in commissions expense were
due primarily to higher loan origination volume. As a percentage of total
revenues, commissions increased to 39% for both the three months and six months
ended June 30, 1999, from 33% and 34% for the same periods in 1998 due primarily
to higher average production per loan officer.
LOAN-RELATED EXPENSES. Loan-related expenses increased to $1.6 million for
the quarter ended June 30, 1999, from $1.2 million for the same period in 1998,
an increase of $0.4 million, or 37%. Loan-related expenses were $5.3 million for
the first six months of 1999, an increase of $2.3 million, or 73%, as compared
to $3.0 million for the same period in 1998. The increases in loan-related
expenses resulted primarily from the higher volume of loans closed during the
1999 periods. Loan-related expenses represented 4% and 6% of total revenues for
the second quarter and first six months of 1999, respectively, as compared to 9%
and 11% for the same periods in 1998. The decreases in loan-related expenses as
a percentage of total revenues for the second quarter and first six months of
1999 resulted primarily from the timing of loan sales at the end of the
respective periods. Loans held for sale were $364.4 million at June 30, 1999, as
compared to $121.5 million at June 30, 1998. Because the Company must defer the
revenues and expenses associated with loans closed, but not yet sold, the
greater balance in loans held for sale at June 30, 1999 resulted in a
significantly higher expense deferral during the second quarter and first six
months of 1999, as compared to the same periods in 1998.
SALARIES AND BENEFITS. Salaries and benefits increased to $12.0 million for
the quarter ended June 30, 1999, from $3.5 million for the same period in 1998,
an increase of $8.5 million, or 242%. Salaries and benefits were $21.0 million
for the first six months of 1999, an increase of $14.2 million, or 210%, as
compared to $6.8 million for the same prior-year period. Salaries and benefits
represented 29% and 26% for the second quarter and first six months of 1999,
respectively, as compared to 26% and 25% for the same periods in 1998. The
increases in personnel expenses, on an absolute basis and as a percentage of
total revenues, related primarily to the Pacific Guarantee, Mortgage Market and
First City acquisitions, as well as the hiring associated with building the
infrastructure to support a significantly larger, newly-public company. As of
June 30, 1999, excluding loan originators, the Company employed approximately
1,000
13
<PAGE>
people, compared to approximately 715 people at December 31, 1998 and
approximately 430 people at June 30, 1998.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased to $5.5 million for the second quarter of 1999, from $2.1 million for
the same period in 1998, an increase of $3.4 million, or 159%. General and
administrative expenses were $12.0 million, an increase of $7.8 million, or
185%, as compared to $4.2 million in the first six months of 1998. The increases
in general and administrative expenses were due primarily to the following
factors: an increase in occupancy costs as a result of the opening of the
Company's new corporate headquarters in Chicago and 15 company-owned branches
opened since June 30, 1998; the Pacific Guarantee, Mortgage Market and First
City acquisitions; and expenses that fluctuate with increases in loan volume,
such as office supplies, telephone, computers and delivery charges. General and
administrative expenses represented 13% and 15% of total revenues for the second
quarter and first six months of 1999, as compared to 15% for both the second
quarter and first six months of 1998.
DEPRECIATION AND AMORTIZATION EXPENSES. Depreciation and amortization
expenses increased to $838,000 for the quarter ended June 30, 1999, from
$250,000 for the same period in 1998, an increase of $588,000, or 235%.
Depreciation and amortization expenses were $1.3 million for the six months
ended June 30, 1999, an increase of $853,000, or 190%, over $450,000 for the
same period in 1998. The increases in depreciation and amortization expenses
were primarily attributable to the following factors: purchases of additional
equipment and leasehold improvements for new branches opened since June 30, 1998
and the Company's new corporate headquarters; the continued development of the
Company's proprietary in-house mortgage banking system; and goodwill and other
intangible assets attributable to the Pacific Guarantee, Mortgage Market and
First City acquisitions. Depreciation and amortization expenses represented
approximately 2% of total revenues for both the second quarter and first six
months of 1999 and 1998. The Company expects these expenses to continue to
increase on an absolute basis in the second half of 1999 as a result of
additional amortization of intangible assets recorded from the 1998
acquisitions, expansion of existing operations, new branch openings, additional
acquisitions and further banking systems development.
INCOME TAXES
The Company recorded income tax expense of approximately $677,000 for the
second quarter and first six months of 1999, representing the tax provision for
the Company's pre-tax earnings for the period subsequent to its conversion to C
corporation status. The effective tax rate for the period covered by the C
corporation status was 39%. The Company also recorded an income tax benefit of
approximately $855,000 for the second quarter and first six months of 1999 due
to its S corporation conversion.
NET INCOME
The Company reported net income of $5.9 million and $10.8 million for the
second quarter and first six months of 1999, respectively, as compared to $2.1
million and $3.7 million for the same periods in 1998.
LIQUIDITY AND CAPITAL RESOURCES
As of June 30, 1999, the Company held approximately $9.2 million of cash and
cash equivalents, as compared to $12.1 million at December 31, 1998.
For the six months ended June 30, 1999, cash and cash equivalents decreased
approximately $2.9 million. The primary sources and uses of cash and cash
equivalents during the six months ended June 30, 1999 were as follows: (1) cash
provided by operating activities of approximately $154.4 million due primarily
to the net income earned during the period of $10.8 million and the timing of
loan sales; (2) cash used in financing activities of approximately $150.8
million due primarily to the repayments of the warehouse lines of credit of
$157.9 million and dividends paid of $20.0 million, including approximately
$12.8 million paid
14
<PAGE>
out of the net proceeds from the Offering, (related to the distribution of
retained earnings for the period in which the Company operated as on S
corporation), offset partially by the net proceeds from the initial public
offering of $31.8 million; and (3) cash used in investing activities of
approximately $6.6 million due to cash payments for acquisition activity of $3.8
million and purchases of fixed assets of $2.8 million.
Adequate credit facilities and other sources of funding, which permit the
Company to fund the loans it originates, are essential to its ability to close
loans through its mortgage bank. Net working capital was $25.2 million at June
30, 1999, compared to $11.8 million at December 31, 1998. After using available
working capital, the Company borrows money to fund its loan closings and repays
these borrowings as the loans and the accompanying servicing rights are sold. As
of June 30, 1999, the Company utilized one credit facility with a current
maximum borrowing amount of $250 million to fund loan closings through its
mortgage bank. As of June 30, 1999, the Company also had outstanding
indebtedness under other warehouse facilities which were not being used to fund
new loans. Loans under the warehouse facilities bear interest at rates that vary
depending on the type of underlying loan, and the loans are subject to
sublimits, advance rates and terms that vary depending on the type of underlying
loan, as well as the ratio of its liabilities to its tangible net worth. The
Company is required to comply with various operating and financial covenants
under this warehouse facility.
As of June 30, 1999, the Company's borrowings under its warehouse facilities
increased to $218.7 million from $170.2 million as of December 31, 1998. The
Company had a maximum of $40.1 million available for additional borrowings as of
June 30, 1999. At June 30, 1999, loans held for sale were $364.4 million,
compared to $467.3 million at December 31, 1998.
Under the ASAP Plus program, Fannie Mae funds the Company on the loans it
delivers to Fannie Mae on a continual whole-loan basis upon receipt of the
appropriate mortgage collateral. The funding price is determined by the daily
Fannie Mae 30-day cash window price. At such time, the Company agrees to deliver
mortgage loans to Fannie Mae and assign any related trades. The Company then
redelivers all loans in the ASAP Plus program to reflect related forward pricing
on a monthly basis. Fannie Mae purchases the mortgage loans for cash upon
receipt of complete and accurate mortgage pool and other documentation. On June
30, 1999, the Company had an outstanding balance of approximately $126.3 million
on the ASAP Plus line in repurchase agreements with Fannie Mae, with interest
accruing at 5.43%.
The Company also makes regular use of uncommitted lines of credit and
purchase and sale agreements, such as repurchase agreements, provided by major
investment banks. These facilities permit the Company to diversify its borrowing
resources, while accelerating the turnover of mortgage loans in inventory,
reducing interest costs and permitting greater origination volumes. These
agreements are not committed facilities and may be terminated at the discretion
of the repurchase investor. The Company currently has two uncommitted,
whole-loan repurchase agreements with major investment banks. Under the terms of
these agreements, the Company may pledge mortgage loans originated to obtain
additional liquidity while mortgage loans are held until sold through whole-loan
sales. Amounts outstanding under these agreements at June 30, 1999 and December
31, 1998 were $26.3 million and $29.6 million, respectively.
The Company's warehouse facilities contain a number of covenants that, among
other things, requires the Comapny to maintain a minimum ratio of total
liabilities to tangible net worth and maintain a minimum level of tangible net
worth. The warehouse facilities also contain covenants that limit the Company's
ability to (1) transfer or sell assets; (2) create liens; (3) pay dividends; (4)
enter into transactions with the Company's affiliates; or (5) enter into a
merger, consolidation or sale of substantially all of the Company's assets.
The Company has a $500,000 operating line of credit for working capital
requirements from a commercial bank. The operating line of credit is secured by
a pledge of the Company's assets, other than loans securing the Company's
warehouse facilities. The Company has approximately $360,000 in letters of
15
<PAGE>
credit held against this operating line of credit. The operating line of credit
is renewable from time to time and expires on July 15, 2003.
The Company's cash flows from operations, existing cash balances and funds
available under its working capital credit facilities are expected to be
sufficient to meet the Company's liquidity requirements for the next 12 months.
The Company does, however, expect to continue its expansion and expects that
eventually it will need to arrange for additional sources of capital through the
issuance of debt or equity or additional bank borrowings. The Company has no
commitments for any such additional financings, and the Company cannot assure
that it will be able to obtain any such additional financing at the times
required and on terms and conditions acceptable to the Company. In such event,
the Company's growth could slow and operations could be adversely affected.
YEAR 2000 COMPLIANCE
The year 2000 issue concerns the ability of automated applications to
process date-dependent processes, calculations and information by properly
interpreting the year. The year 2000 issue could potentially impact the
Company's business-critical computerized applications relating to, among others,
loan origination, servicing, pipeline management, hedging, payroll, financing
and financial accounting and reporting. In addition, other non business-critical
systems and services may also be affected. The Company has assembled an internal
project team composed of executive personnel and personnel from the information
systems, operations and finance departments to (1) assess the readiness of the
Company's systems, vendors and suppliers, third-party service providers,
customers and financial institutions; (2) replace or correct through program
changes all non-compliant applications; and (3) develop contingency plans in the
event systems and services are not compliant.
The readiness assessment phase of the project is complete and consisted of a
detailed assessment and testing of substantially all internal systems, including
non-information-technology systems. The replacement phase of the project has
been substantially completed at most of the Company's principal operation
centers.
Because most of the Company's computer hardware and software is less than
two years old and has been certified as year 2000 compliant, the Company has not
been required to incur significant expenses to ensure year 2000 compliance. The
Company believes that its exposure to year 2000-related hardware and software
problems is lower than if it used older equipment or software. To date, its
costs to become year 2000 compliant have been less than $100,000. The Company
does not expect that the total cost of making its computer systems year 2000
compliant will exceed $100,000. However, the actual cost to become year 2000
compliant is subject to certain risks and uncertainties including, among others,
the Company's ability to timely identify all affected business-critical systems,
and the readiness of service providers, vendors and suppliers, and the Company's
financial institutions and significant customers. In addition, the Company has
not been required to defer any information technology projects due to the year
2000 issue. If the Company is unsuccessful in correcting its business-critical
systems and processes affected by the year 2000 issue, its results of operations
or financial condition could be materially adversely affected. If the Company's
service providers, vendors and suppliers or its financial institutions and
significant customers are adversely affected by the year 2000 issue, its
operations could face substantial interruptions and its business and financial
condition could be materially and adversely affected. These third party risks
include possible interruptions in the Company's ability to fund loans utilizing
its warehouse facilities, its ability to sell loans to Fannie Mae and other
investors, its ability to originate mortgages over the Internet and its hedging
systems' ability to link to financial data. The Company has contacted each of
these parties and are seeking assurance from them that their systems are year
2000 compliant. Although the Company is in the process of developing contingency
plans, in the event its key service providers, vendors or suppliers experience
year 2000 issues, such contingency plans may not be effective. The Company does
not expect the cost of developing such plans to exceed $100,000, although no
assurance to that effect can be given.
16
<PAGE>
NEW ACCOUNTING PRONOUNCEMENTS
In March 1998, the American Institute of Certified Public Accountants issued
Statement of Position 98-1, "Accounting for the Costs of Computer Software
Developed for Internal Use" ("SOP 98-1"), which will become effective for
financial statements for the calendar year 1999, with early adoption encouraged.
SOP 98-1 requires the capitalization of eligible costs of specified activities
related to computer software developed or obtained for internal use. The Company
has adopted SOP 98-1 and the impact on its financial condition or results of
operations has not been material.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." This statement requires that all
derivatives be carried on the balance sheet at fair value and changes in the
fair value of derivatives be recognized in income when they occur, unless the
derivatives qualify as hedges in accordance with the standard. If a derivative
qualifies as a hedge, a company can elect to use hedge accounting. The type of
accounting to be applied varies depending upon whether the nature of the
exposure that is being hedged is classified as one of three hedged risks defined
in the statement: change in fair value, change in cash flows and change in
foreign-currency. This statement is effective for fiscal quarters of fiscal
years beginning after June 15, 2000 and cannot be applied retroactively. The
Company believes that the adoption of this statement will not have a material
effect on its financial position or results of operations.
RECENT DEVELOPMENTS
In July 1999, the Company adopted a plan to discontinue the operations
relating to its subsidiary, Infiniti Mortgage, L.L.C. ("Infiniti"). Infiniti was
originally created to originate and sell non-prime mortgages. As a result, the
Company currently does not actively originate mortgages in the non-prime sector.
The Company does not anticipate that the discontinuance of this business will
have a material impact on its future operations.
SAFE HARBOR PROVISION
This Form 10-Q contains certain "forward-looking statements" (as defined in
Section 21E of the Securities Exchange Act of 1934) that reflect the Company's
current views with respect to future events and financial performance. These
forward-looking statements are subject to certain risks and uncertainties,
including those identified below, which could cause future results to differ
materially from historical results or those anticipated. The words "believes,"
"expects," "anticipates," "estimates," and other expressions which indicate
future events and trends identify forward-looking statements. Readers are
cautioned not to place undue reliance on these forward-looking statements, which
speak only as of their dates, and if no date is provided, then such statements
speak only as of the date of this Form 10-Q. 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
factors, as well as those disclosed in the Company's prospectus filed with the
Securities and Exchange Commission as part of its Registration Statement on Form
S-1 (Registration No. 333-74883), could cause future results to differ
materially from historical results or those anticipated; (1) the level of demand
for mortgage credit and ancillary services, which is affected by such external
factors as the level of interest rates; (2) the direction of interest rates; (3)
the relationship between mortgage interest rates and the cost of funds; (4)
federal and state regulation of the Company's mortgage banking and ancillary
service operations; and (5) competition within the mortgage banking and various
ancillary service industries.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk that unfavorable changes in net income and in the
value of certain assets and liabilities will result from adverse fluctuations in
market rates and prices. Interest rate volatility is the largest market risk
affecting Prism Financial. The Company utilizes a risk management program to
17
<PAGE>
mitigate exposure resulting from interest rate fluctuations. Accordingly, the
Company continuously hedges the value of mortgage loans held for sale and in its
pipeline, except for non-prime loans.
In the normal course of business, derivative financial instruments, such as
forward contracts and options, are used to manage interest rate exposure and
resale pricing risk. The Company's management evaluates, on an initial and
on-going basis, the effectiveness of each hedge contract's correlation with an
existing asset. Hedge gains or losses are deferred and recognized as a component
of the gain or loss on the sale of the underlying mortgage loans or
mortgage-backed securities. Hedge losses are immediately recognized if the
deferral of such losses would result in mortgage loans held for sale or mortgage
loans in the pipeline being valued in excess of their estimated net realizable
value. Premiums on option contracts are expensed over the term of the option
contract.
The Company's hedging policies generally require that it hedges the
projected portion of its committed pipeline with forward contracts or with
options on treasury securities. The mortgage loans that are to be delivered
under these contracts are fixed- or adjustable-rate loans, corresponding with
the composition of the Company's inventory and committed pipeline. The Company
hedges its closed loans held for sale by using whole-loan sale commitments to
ultimate investors and forward contracts. The Company does not purchase hedging
instruments for trading purposes nor does it speculate on the direction of
interest rates in its risk management procedures. The Company tests its hedges
on a daily basis to ensure that its maximum exposure does not exceed the limits
set by its board of directors.
While the Company does not anticipate nonperformance by any counterparty,
the Company is exposed to potential credit losses in the event of nonperformance
by the counterparties to the various instruments. The Company manages credit
risk with respect to forward contracts and whole-loan sales commitments through
the following policies: by entering into agreements with entities approved by
senior management; by attempting to limit the Company's credit exposure on
forward sales arrangements by entering into forward sales contracts solely with
institutions that the Company believes are sound credit risks; and by limiting
exposure to any single counterparty by selling to a number of investors. The
Company's exposure to credit risk in the event of default by the counterparty is
the difference between the contract price and the current market price. Since
the Company only purchases options which allow it at its option to purchase or
sell a financial instrument, the Company's exposure at any time is limited to
the premium paid to purchase the option.
The Company evaluates its prescribed risk limits against a +/- two-point
change in the price of a benchmark mortgage-backed security, which price moves
inversely with market interest rates. On a daily basis, the Company performs a
sensitivity analysis, evaluating its current hedged position of closed loans and
mortgage loans in the pipeline and assessing the net exposure of these loans
against a spectrum of price change scenarios for the benchmark mortgage-backed
security. This modeling technique measures net changes in the fair value of the
loans, as determined by the net exposure of the aggregate face value of closed
loans and loans in the pipeline.
As of June 30, 1999, the Company used a 7% Fannie Mae, 30-year security as
its benchmark for performing the sensitivity analysis. The Company assessed its
exposure for loans in the pipeline, which are off-balance sheet, as well as
mortgage loans held for sale, using the price change spectrum discussed above. A
two-point decrease in the benchmark security would have decreased the total
anticipated gains on loans in the pipeline and loans held for sale by
approximately $337,000, or 6.4 basis points, as of June 30, 1999. A two-point
increase in the benchmark security would have decreased the total anticipated
gains on loans in the pipeline and loans held for sale by approximately
$217,000, or 4.1 basis points, as of June 30, 1999. The Company does not believe
that a swing in interest rates at June 30, 1999 would have materially affected
the net fair values recorded for loans held for sale, or any other financial
instruments recorded at that date. This analysis is limited by the fact that it
was performed at a certain point in time and does not incorporate other market
factors at that time.
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<PAGE>
At June 30, 1999 and December 31, 1998, the Company had open forward
commitments with a total notional amount of approximately $405 million and $670
million, respectively, to sell mortgage loans with varying settlement dates up
to September 1999. On June 30, 1999, options to sell treasuries through August
1999 with a total notional amount of approximately $14 million were outstanding.
No options were outstanding at December 31, 1998. The Company also hedges its
loans held for sale by using whole-loan sale commitments to ultimate investors,
which totaled $36.7 million and $28.4 million at June 30, 1999 and December 31,
1998, respectively.
PART II--OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
A. CHANGES IN CERTIFICATE OF INCORPORATION AND BY-LAWS
Prior to the Offering, the Company's Board of Directors approved the amended
and restated certificate of incorporation which, among other things, (1)
increases the number of shares of authorized stock to 110 million, including 100
million shares of common stock, par value $0.01 per share, and 10 million shares
of preferred stock, par value $0.01 per share, (2) provides for a Board of
Directors divided into three classes, with each director serving a staggered
three-year term ending on the first, second or third succeeding annual meeting
of stockholders of the Company, (3) provides indemnification to the Company's
officers and directors to the fullest extent authorized or permitted by law and
(4) provides that any action required or permitted to be taken by the
stockholders of the Company must be effected at an annual or special meeting of
the stockholders and that the stockholders cannot consent in writing to the
taking of any action. Prior to the Offering, the Company's Board of Directors
also approved the Company's amended and restated by-laws.
C. SALES OF UNREGISTERED SECURITIES
Immediately prior the the Offering, each stockholder of Prism Mortgage
exchanged all of his/her shares of common stock of Prism Mortgage for shares of
common stock of Prism Financial at an exchange ratio of one share of Prism
Mortgage common stock for 102.69 shares of common stock of Prism Financial. In
addition, in connection with the acquisitions of Pacific Guarantee Mortgage
Corporation ("Pacific Guarantee") and Mortgage Market, Inc. ("Mortgage Market"),
upon closing of the Offering, Prism Financial issued 226,319, 177,710, 44,892,
127,411 and 53,542 shares of common stock, respectively, to Mr. William D.
Osenton, Mr. Bruce P. Barbera, an independent contractor affiliated with Pacific
Guarantee, the employee incentive and retention plan for employees of Pacific
Guarantee, and the employee incentive and retention plan for employees of
Mortgage Market.
D. USE OF PROCEEDS
On May 28, 1999, the Company completed the Offering of 2,500,000 shares of
Common Stock at a price of $14.00 per share for gross proceeds to the Company of
$35,000,000. The Offering was underwritten by a group of underwriters for which
William Blair & Company, ABN AMRO Rothschild and U.S. Bancorp Piper Jaffray (the
"Underwriters") served as representatives. The effective date of the Company's
Registration Statement on Form S-1 (file number 333-74883) in connection with
the Offering was May 24, 1999. The Offering closed on May 28, 1999 after the
sale of all the securities registered.
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<PAGE>
The following table provides information concerning the estimated amount of
expenses incurred for the Company's account in connection with the Offering
through June 30, 1999:
<TABLE>
<CAPTION>
PAYMENTS TO
"AFFILIATES"(1) PAYMENTS TO OTHERS
------------------- ------------------
<S> <C> <C>
Underwriting discounts and commissions....................................... $ 0 $ 2,450,000
Finder's fees................................................................ 0 0
Expenses paid to or for underwriters......................................... 0 0
Other expenses............................................................... 0 727,906
--
------------------
Total expenses............................................................. $ 0 $ 3,177,906
--
--
------------------
------------------
</TABLE>
The estimated net Offering proceeds to the Company after deducting the total
estimated expenses described above is $31,822,094. The following table provides
information concerning the amount of the net Offering proceeds to the Company
used for the following purposes through June 30, 1999:
<TABLE>
<CAPTION>
PAYMENTS TO
"AFFILIATES"(1) PAYMENTS TO OTHERS
------------- ------------------
<S> <C> <C>
Construction of plant, building and facilities................................. $ 0 $ 0
Purchase and installation of machinery and equipment........................... 0 0
Purchases of real estate....................................................... 0 0
Acquisition of other business(es).............................................. 0 0
Repayment of indebtedness, including credit facilities......................... 857,082 18,185,715
Working capital................................................................ 0 0
Temporary investment........................................................... 0 0
Other purposes (S corporation distributions)................................... $ 12,779,297 0
------------- ------------------
Total uses................................................................... $ 13,636,379 $ 18,185,715
------------- ------------------
------------- ------------------
</TABLE>
(1) Affiliates represent directors and officers of the Company and their
associates, persons owning ten percent or more of any class of equity
securities of the Company and other affiliates of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Prior to the Offering, the Company's sole stockholder, Prism Mortgage,
pursuant to written consents dated March 23, 1999 and May 24, 1999, (1) approved
the Company's amended and restated certificate of incorporation and amended and
restated bylaws, (2) elected Ms. Pritzker and Messrs. Hochberg, Krasny and
Wellek to serve as directors of the Company in addition to the current directors
of the Company, (3) approved the Company's 1999 Employee Stock Purchase Plan and
(4) approved the Company's 1999 Omnibus Stock Incentive Plan.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
A. EXHIBITS
<TABLE>
<CAPTION>
<S> <C>
Exhibit 2.1 Form of Share Exchange Agreement (incorporated by reference to Exhibit
2.1 to the Company's Registration Statement on Form S-1 (Registration No.
333-74883)).
Exhibit 3.1 Form of Amended and Restated Certificate of Incorporation of the
Registrant (incorporated by reference to Exhibit 3.1 to the Company's
Registration Statement on Form S-1 (Registration No. 333-74883)).
</TABLE>
20
<PAGE>
<TABLE>
<CAPTION>
Exhibit 3.2 Form of Amended and Restated Bylaws of the Registrant (incorporated by
reference to Exhibit 3.2 to the Company's Registration Statement on Form
S-1 (Registration No. 333-74883)).
<S> <C>
Exhibit 4.1 Specimen Certificate for the Registrant's Common Stock (incorporated by
reference to Exhibit 4.2 to the Company's Registration Statement on Form
S-1 (Registration No. 333-74883)).
Exhibit 4.2 Form of Registration Rights Agreement (incorporated by reference to
Exhibit 4.3 to the Company's Registration Statement on Form S-1
(Registration No. 333-74883)).
Exhibit 10.1 Form of 1999 Omnibus Stock Incentive Plan of the Registrant (incorporated
by reference to Exhibit 10.1 to the Company's Registration Statement on
Form S-1 (Registration No. 333-74883)).
Exhibit 10.2* Agreement for the Purchase and Sale of the Capital Stock of Pacific
Guarantee Mortgage Corporation, dated as of July 31, 1998, by and between
Prism Mortgage Company and William D. Osenton and Bruce P. Barbera
(incorporated by reference to Exhibit 10.2 to the Company's Registration
Statement on Form S-1 (Registration No. 333-74883)).
Exhibit 10.3* Agreement for the Purchase and Sale of the Capital Stock of Mortgage
Market, Inc., dated as of September 30, 1998, by and among Prism Mortgage
Company and Martin E. Francis, Kenneth Bartley, Melissa Stashin and Curt
Vanderzanden (incorporated by reference to Exhibit 10.3 to the Company's
Registration Statement on Form S-1 (Registration No. 333-74883)).
Exhibit 10.4* Prism Equity Value Plan, effective as of August 31, 1998, by Prism
Mortgage Company and by personnel of Pacific Guarantee Mortgage
Corporation (incorporated by reference to Exhibit 10.4 to the Company's
Registration Statement on Form S-1 (Registration No. 333-74883)).
Exhibit 10.5* Executive Employment Agreement, dated as of July 31, 1998, by and between
Pacific Guarantee Mortgage Corporation and William D. Osenton
(incorporated by reference to Exhibit 10.5 to the Company's Registration
Statement on Form S-1 (Registration No. 333-74883)).
Exhibit 10.6* Executive Employment Agreement, dated as of September 30, 1998, by and
between Mortgage Market, Inc. and Martin E. Francis (incorporated by
reference to Exhibit 10.6 to the Company's Registration Statement on Form
S-1 (Registration No. 333-74883)).
Exhibit 10.7 Prism 2000 Profit Sharing Plan (incorporated by reference to Exhibit 10.7
to the Company's Registration Statement on Form S-1 (Registration No.
333-74883)).
</TABLE>
21
<PAGE>
<TABLE>
<CAPTION>
Exhibit 10.8 Credit Agreement, dated as of March 31, 1999, among Prism Mortgage
Company and its subsidiaries, the lending institutions listed on the
signature pages thereto and The First National Bank of Chicago, as Agent
(incorporated by reference to Exhibit 10.8 to the Company's Registration
Statement on Form S-1 (Registration No. 333-74883)).
<S> <C>
Exhibit 10.9* First Amendment to Purchase and Sale Agreement, entered into on April 25,
1999, by and among Bruce Barbera and William Osenton and Prism Mortgage
Company (incorporated by reference to Exhibit 10.9 to the Company's
Registration Statement on Form S-1 (Registration No. 333-74883)).
Exhibit 10.10 Second Amendment to Purchase and Sale Agreement, entered into on April
27, 1999, by and among Bruce Barbera and William Osenton and Prism
Mortgage Company (incorporated by reference to Exhibit 10.10 to the
Company's Registration Statement on Form S-1 (Registration No.
333-74883)).
Exhibit 10.11 Third Amendment to Purchase and Sale Agreement, entered into as of May
11, 1999, by and among Bruce Barbera and William Osenton and Prism
Mortgage Company (incorporated by reference to Exhibit 10.11 to the
Company's Registration Statement on Form S-1 (Registration No.
333-74883)).
Exhibit 10.12 Fourth Amendment to Purchase and Sale Agreement, entered into as of May
19, 1999, by and among Bruce Barbera and William Osenton and Prism
Mortgage Company (incorporated by reference to Exhibit 10.12 to the
Company's Registration Statement on Form S-1 (Registration No.
333-74883)).
Exhibit 10.13 Prism Financial Corporation Amended and Restated 1999 Employee Stock
Purchase Plan (incorporated by reference to Exhibit 99.3 to the Company's
Registration Statement on Form S-8 (Registration No. 333-81889)).
Exhibit 11.1 Statement Regarding Computation of Per Share Earnings.
Exhibit 21.1 Subsidiaries of Prism Financial Corporation.
Exhibit 27.1 Financial Data Schedule.
</TABLE>
* Portions of this exhibit have been omitted pursuant to a confidential
treatment request filed with, and granted by, the Securities and Exchange
Commission.
B. REPORTS ON FORM 8-K:
No reports on Form 8-K were filed by the Registrant during the quarter for
which this report is filed.
22
<PAGE>
EXHIBIT 11.1
PRISM FINANCIAL CORPORATION AND SUBSIDIARIES
BASIC AND DILUTED EARNINGS PER SHARE
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------- --------
1999 1998 1999 1998
<S> <C> <C> <C> <C>
---- ---- ---- ----
Historical:
Basic income per share:
Net income $ 5,938 $ 2,093 $ 10,834 $ 3,743
------------------------ --------------------------
------------------------ --------------------------
Weighted-average common shares outstanding 12,768 10,338 12,135 10,304
------------------------ --------------------------
Per share amount $ 0.47 $ 0.20 $ 0.89 $ 0.36
------------------------ --------------------------
------------------------ --------------------------
Diluted income per share:
Net income $ 5,938 $ 2,093 $ 10,834 $ 3,743
------------------------ --------------------------
------------------------ --------------------------
Weighted-average common shares outstanding 12,768 10,338 12,135 10,304
Add: Common stock equivalents (1) 180 72 133 72
------------------------ --------------------------
------------------------ --------------------------
Diluted weighted average common shares outstanding 12,948 10,410 12,268 10,376
------------------------ --------------------------
------------------------ --------------------------
Per share amount $ 0.46 $ 0.20 $ 0.88 $ 0.36
------------------------ --------------------------
------------------------ --------------------------
Pro forma (2), (3):
Basic income per share:
Net income $ 3,513 $ 1,299 $ 6,500 $ 2,322
------------------------ --------------------------
------------------------ --------------------------
Weighted-average common shares outstanding 14,625 14,625 14,625 14,625
------------------------ --------------------------
Per share amount $ 0.24 $ 0.09 $ 0.44 $ 0.16
------------------------ --------------------------
------------------------ --------------------------
Diluted income per share:
Net income $ 3,513 $ 1,299 $ 6,500 $ 2,322
------------------------ --------------------------
------------------------ --------------------------
Weighted-average common shares outstanding 14,625 14,625 14,625 14,625
Add: Common stock equivalents (1) 321 309 321 309
------------------------ --------------------------
Diluted weighted average common shares outstanding 14,946 14,934 14,946 14,934
------------------------ --------------------------
Per share amount $ 0.24 $ 0.09 $ 0.43 $ 0.16
------------------------ --------------------------
------------------------ --------------------------
</TABLE>
(1) Calculated using the treasury stock method.
(2) Reflects the pro forma results as if the Company was taxable as a C
corporation under the Internal Revenue Code for each period presented.
(3) Reflects the pro forma weighted average shares as if the shares issued
at the time of the Offering, including the shares issued to Pacific
Guarantee and Mortgage Market, were outstanding as of the beginning of
each period presented.
<PAGE>
EXHIBIT 21.1
Subsidiaries of Prism Financial Corporation
Prism Financial, a Delaware corporation, owns all the outstanding
equity interests of Prism Mortgage, an Illinois corporation, which owns all
of the outstanding equity interests of the following entities:
1. Pacific Guarantee Mortgage Corporation, a California corporation
2. Mortgage Market, Inc., an Oregon corporation
3. PointSource Financial, L.L.C., an Illinois limited liability company
4. Infiniti Mortgage, L.L.C., an Illinois limited liability company
5. Illinois Guaranty Title, L.L.C., an Illinois limited liability
company
6. Lender's Mortgage Services, L.L.C., an Illinois limited liability
company
7. First City Financial Corporation, a Colorado corporation
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C> <C>
<PERIOD-TYPE> 6-MOS 6-MOS
<FISCAL-YEAR-END> JUN-30-1999 DEC-31-1998
<PERIOD-START> JAN-01-1999 JAN-01-1999
<PERIOD-END> JUN-30-1999 JUN-30-1998
<CASH> 9,204 12,124
<SECURITIES> 0 0
<RECEIVABLES> 11,544 14,557
<ALLOWANCES> 652 350
<INVENTORY> 364,444 467,254
<CURRENT-ASSETS> 393,125 494,755
<PP&E> 14,071 6,259
<DEPRECIATION> 5,301 1,975
<TOTAL-ASSETS> 413,095 503,622
<CURRENT-LIABILITIES> 367,948 482,972
<BONDS> 0 0
0 0
0 0
<COMMON> 146 115
<OTHER-SE> 44,843 16,088
<TOTAL-LIABILITY-AND-EQUITY> 413,095 503,622
<SALES> 0 0
<TOTAL-REVENUES> 81,972 27,700
<CGS> 0 0
<TOTAL-COSTS> 71,316 23,957
<OTHER-EXPENSES> 0 0
<LOSS-PROVISION> 132 245
<INTEREST-EXPENSE> 10,206 3,179
<INCOME-PRETAX> 10,656 3,743
<INCOME-TAX> (178) 0
<INCOME-CONTINUING> 10,834 3,743
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> 10,834 3,743
<EPS-BASIC> 0.89 0.36
<EPS-DILUTED> 0.88 0.36
</TABLE>
