<PAGE>
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
[X] Quarterly report under Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the quarterly period ended June 30, 1998.
[_] Transition report under Section 13 or 15(d) of the Exchange Act
For the transition period from to .
Commission File Number: 0-9774
HOMECAPITAL INVESTMENT CORPORATION
----------------------------------
(Exact Name of Small Business Issuer as Specified in its Charter)
NEVADA 95-3614463
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
8906 WALL STREET, SUITE 811
Austin, Texas 78754
(Address of Principal Executive Offices)
(512) 835-9822
(Issuer's Telephone Number, Including Area Code)
6836 AUSTIN CENTER BLVD., SUITE 280
Austin, Texas 78731
(512) 427-5200
(Former Address and Telephone Changed Since Last Report)
Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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 August 28, 1998, there were 8,295,525 shares of common stock of the
issuer outstanding.
Transitional Small Business Disclosure Format (check one):
Yes [_] No [X]
The Exhibit Index appears on page 29.
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION
Index to Form 10-QSB
PART I. FINANCIAL INFORMATION Page No.
--------
Item 1. Financial Statements
Consolidated Balance Sheet
As of June 30, 1998 (Unaudited) 3
Consolidated Statements of Operations
For the Nine Months Ended June 30, 1998
and 1997 (Unaudited) 4
Consolidated Statements of Operations
For the Three Months Ended June 30, 1998
and 1997 (Unaudited) 5
Consolidated Statements of Cash Flows
For the Nine Months Ended June 30, 1998
and 1997 (Unaudited) 6
Notes to Financial Statements 7
Item 2. Management's Discussion and Analysis or
Plan of Operation. 17
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 26
Item 3. Defaults Upon Senior Securities 28
Item 5. Other Information 28
Item 6. Exhibits and Reports on Form 8-K. 29
Signatures 30
2
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
CONSOLIDATED BALANCE SHEET
June 30, 1998
(Unaudited)
ASSETS
Cash $ 89,701
Cash deposits, restricted 153,230
Loans held for sale, net 11,587,588
Interest-only strip receivables 8,752,503
Retained interest in securitized assets 1,358,544
Income taxes refundable 1,241,295
Prepaid expenses and other assets 692,963
Furniture, fixtures and equipment, net 667,863
------------
Total assets $ 24,543,687
============
LIABILITIES AND STOCKHOLDERS' DEFICIT
Note payable $ 8,345
Revolving lines of credit 24,046,073
Capital lease obligations 217,283
Accrued expenses and other liabilities 5,605,261
Allowance for credit losses on loans sold 2,044,315
Deferred tax liabilities 1,237,173
------------
Total liabilities 33,158,450
------------
Commitments and contingencies
Stockholders' deficit:
Preferred stock, $.01 par value; 10,000,000 shares
authorized; 1,431,335 shares of cumulative
convertible Series A stock issued and
outstanding(liquidation value of $2,147,003) 14,313
Common stock, $.01 par value; 100,000,000 shares
authorized; 8,295,525 shares issued and
outstanding 82,955
Additional paid-in capital 6,296,399
Accumulated deficit (14,952,930)
Notes receivable for stock issued (55,500)
------------
Total stockholders' deficit (8,614,763)
------------
Total liabilities and stockholders' deficit $ 24,543,687
============
The accompanying notes are an integral part of the consolidated financial
statements.
3
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Nine Months Ended June 30, 1998 and 1997
(Unaudited)
<TABLE>
<CAPTION>
1998 1997
------------------ ---------------
<S> <C> <C>
Revenues:
Gain on sale of loans and
mortgage-backed securities $ 7,643,776 $ 10,498,745
Net unrealized gain (loss) on valuation
of investment securities (1,595,664) 1,862,559
Interest - loans 1,799,204 844,551
Interest - investments 1,743,924 1,634,379
Loan servicing income - 422,482
Other income 316,635 168,722
------------ ------------
Total revenues 9,907,875 15,431,438
------------ ------------
Costs and Expenses:
Salaries and employee benefits 6,390,678 3,377,389
Servicing costs 1,010,950 701,142
Loan costs 2,613,667 1,175,582
General and administrative 6,411,870 2,649,577
Occupancy 581,563 442,871
Interest 2,204,919 923,895
Nonrecurring charge - write-off of
interest-only strip receivable 13,857,307 -
------------ ------------
Total costs and
expenses 33,070,954 9,270,456
------------ ------------
Income (loss) before income taxes (23,163,079) 6,160,982
Provision (benefit) for income taxes (2,308,909) 2,161,778
------------ ------------
Net income (loss) $(20,854,170) $ 3,999,204
============ ============
Income (loss) per common share:
Basic:
Earnings (loss) per common share $ (2.55) $ .47
============ ============
Weighted average number of common
shares outstanding 8,270,639 8,008,659
============ ============
Diluted:
Earnings (loss) per common share $ (2.55) $ .40
============ ============
Weighted average number of common
shares outstanding 8,270,639 10,102,901
============ ============
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
4
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Three Months Ended June 30, 1998 and 1997
(Unaudited)
<TABLE>
<CAPTION>
1998 1997
------------------ ---------------
Revenues:
<S> <C> <C>
Gain on sale of loans and
mortgage-backed securities $ 20,530 $ 1,879,977
Net unrealized gain (loss) on valuation
of investment securities (370,870) 1,434,584
Interest - loans 48,494 150,135
Interest - investments 91,125 855,650
Other income 3,575 70,010
----------- -----------
Total revenues (207,146) 4,390,356
----------- -----------
Costs and Expenses:
Salaries and employee benefits 715,410 1,504,609
Servicing costs 132,464 282,462
Loan costs 933,440 367,031
General and administrative 1,153,590 1,336,403
Occupancy 100,698 184,388
Interest 207,068 391,875
----------- -----------
Total costs and
expenses 3,242,670 4,066,738
----------- -----------
Income (loss) before income taxes (3,449,816) 323,618
Provision for income taxes - 113,266
----------- -----------
Net (loss) income $(3,449,816) $ 210,352
=========== ===========
Income (loss) per common share:
Basic:
Earnings (loss) per common share $ (.42) $ .02
=========== ===========
Weighted average number of common
shares outstanding 8,295,525 8,226,883
=========== ===========
Diluted:
Earnings (loss) per common share $ (.42) $ .02
=========== ===========
Weighted average number of common
shares outstanding 8,295,525 10,346,758
=========== ===========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
5
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Nine Months Ended June 30, 1998 and 1997
(Unaudited)
<TABLE>
<CAPTION>
1998 1997
---------------- ----------------
<S> <C> <C>
Cash flows from operating activities:
Net income (loss) $ (20,854,170) $ 3,999,204
Adjustments to reconcile net income (loss)
to net cash provided by (used in) operating
activities:
Depreciation and amortization 1,199,136 1,127,536
Deferred tax (benefit) provision (1,067,614) (246,818)
Provision for credit losses 1,971,329 775,000
Issuance of warrants and options 162,690 -
Gain on sales of loans and mortgage-backed
securities (7,643,776) (10,498,745)
Unrealized loss (gain) from valuation of
trading account securities 1,595,664 (1,862,559)
Loss on impairment of interest-only strip
receivables 12,076,207 -
Proceeds from sales of loans and
mortgage-backed securities 120,512,113 94,249,216
Purchase and origination of loans (96,120,707) (115,157,183)
Change in operating assets and liabilities:
Decrease (increase) in cash deposits,
restricted 1,470,552 (462,081)
Decrease (increase) in accrued interest
receivable 223,373 (150,608)
Decrease (increase) in prepaid and
other assets 1,412,248 (764,664)
Increase in accrued expenses and other
liabilities 521,376 2,162,062
------------ -------------
Net cash provided by (used in)
operating activities 15,458,421 (26,829,640)
------------ -------------
Cash flows from investing activities:
Purchase of furniture, fixtures and
equipment (447,617) (777,624)
Payments received on interest-only strip
receivables 3,694,395 -
------------ -------------
Net cash provided by (used in) investing
activities 3,246,778 (777,624)
------------ -------------
Cash flows from financing activities:
Increase (decrease) in revolving lines of
credit (10,346,510) 21,887,498
Increase (decrease) in payable under
securities loan agreements (7,673,000) 4,026,000
Payments on note payable (41,655) (74,997)
Proceeds from exercise of Series A warrants - 1,911,919
Proceeds from exercise of other warrants - 92,700
Payment of bank overdraft (543,521) -
Additions (payments) on capital lease 176,830 (10,779)
obligations
Preferred stock dividends (191,844) (201,945)
------------ -------------
Net cash provided by (used in)
financing activities (18,619,700) 27,630,396
------------ -------------
Increase in cash 85,499 23,132
Cash, beginning of period 4,202 343,484
------------ -------------
Cash, end of period $ 89,701 $ 366,616
============ =============
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
6
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS
1. NATURE OF OPERATIONS
The Company and Subsidiary
The consolidated financial statements include the accounts of HomeCapital
Investment Corporation, a public holding company, ("HomeCapital"),
incorporated in the state of Nevada on October 8, 1980, and its wholly-
owned subsidiary, HomeOwners Mortgage & Equity, Inc. ("Home," collectively,
the "Company"). As described herein, since May 4, 1998, Home has been
Debtor-in-Possession in reorganization proceedings under Chapter 11 of the
U.S. Bankruptcy Code ("Reorganization Proceedings").
DESCRIPTION OF OPERATIONS
Prior to the Reorganization Proceedings, the Company, through wholesale and
retail sources, originated and purchased home improvement loans, and other
second lien mortgage loans ("Loans") and disposed of such Loans through
direct sale, securitization or conversion to Mortgage-backed securities.
The Company is an approved lender under the Department of Housing and Urban
Development ("HUD") Federal Housing Administration ("FHA") Title I Program,
which provides FHA insurance against losses on eligible property
improvement and manufactured housing loans ("Title I Loans"). As a FHA
approved lender, the Company is subject to regulation and examination by
HUD. Under the program, the FHA insures 90% of the principal balance of
each Title I Loan and certain interest costs, subject to the amount of
insurance available in the Company's reserve account maintained by the FHA.
The Company also holds approval from HUD under the FHA Title II Program;
however the Company had not originated any Loans pursuant to that Program
as of June 30, 1998.
NONRECURRING EVENTS
On March 24, 1998, the Company was notified by officials of the Federal
National Mortgage Association ("Fannie Mae") that Fannie Mae was
terminating the Mortgage Selling and Servicing Contract for FHA Title I
Loans with Home. Additionally, Fannie Mae also terminated its short-term
warehouse facilities and its securities repurchase facilities with Home
related to financing of Title I Loans and Mortgage-backed securities and
demanded the repurchase by Home of certain loans, including multifamily
loans previously sold to Fannie Mae that Fannie Mae now considers to be
ineligible under the contract. As part of the contract termination, the
right to service the portfolio of Title I Loans and Mortgage-backed
securities and receive the excess interest flow from these assets serviced
was terminated by Fannie Mae, and Fannie Mae assumed control over the
servicing and the related cash flow. Collectively, these events are
sometimes referred to as the "Fannie Mae Contract termination."
7
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS, CONTINUED
1. NATURE OF OPERATIONS, CONTINUED
The carrying value of this servicing asset, which is included in the
balance sheet caption, Interest-only strip receivable, had a balance of
approximately $12,356,000 at February 28, 1998, the month-end immediately
preceding the date of the Fannie Mae Contract termination. At June 30,
1998, the Company has determined that the asset has been permanently
impaired and has charged the write-off of the asset against operations for
the nine month period ended June 30, 1998. See Note 5.
The Company began selling substantially all of its Title I Loan production
to Fannie Mae in June 1996, and, thereafter, substantially all of the Title
I Loan production of Home was sold to Fannie Mae on a whole loan basis or
swapped with Fannie Mae for Mortgage-backed securities, and the whole loans
and Mortgage-backed securities were financed by Fannie Mae. The actions
taken by Fannie Mae have had a materially adverse effect upon the Company,
including the substantial suspension of business, the write-off of a
material portion of Interest-only strip receivables in the amount of
$13,857,307 during the nine months ended June 30, 1998, and default by Home
under various financing agreements with lending institutions.
As a result, the going concern value of Home and the Company has been
materially impaired, and it is highly unlikely that the Company will be
able to continue operations. Home filed a voluntary petition for relief
under Chapter 11 of the United States Bankruptcy Code on May 4, 1998 (the
"Reorganization Date") in the U.S. District Court for the Western District
of Texas, Austin Division (the "Court").
Immediately following the Fannie Mae Contract termination, the Company
severely curtailed, and shortly thereafter ceased, all loan production
activities, closed all branch offices and operations, dismissed its
executive officers and drastically reduced its personnel. Subsequent to
the Reorganization Proceedings, the Company moved its principal office to
modest facilities, where its staff of six (6) persons and some contract
employees have mostly provided financial information and documents in
support of the Reorganization Proceedings, disposition of furniture,
fixtures and equipment, loan portfolio and other asset liquidations.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ADJUSTMENTS TO INTERIM FINANCIAL STATEMENTS
The Company believes that the interim financial statements of the Company
at June 30, 1998 and for the three and nine month periods ended June 30,
1998 and 1997, reflect all adjustments (consisting of normal recurring
adjustments and adjustments for the events described in Note 1), which, in
the opinion of management, are necessary to present fairly the results of
operations and financial position. The results of operations of any interim
period are not necessarily indicative of the results of operations for a
full year.
8
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS, CONTINUED
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED
CREDIT CONCENTRATIONS
The Company has been a party to financial instruments with off-balance
sheet credit risk in the normal course of business. These financial
instruments have included commitments to extend credit to borrowers and
commitments to purchase loans from others. As of June 30, 1998, the
Company had no outstanding commitments to extend credit or purchase loans,
exclusive of the repurchase obligations claimed by Fannie Mae as described
in Note 1.
EARNINGS PER SHARE
In February 1997, the FASB issued SFAS No. 128, "Earnings Per Share." SFAS
No. 128 specifies the computation, presentation, and disclosure
requirements for earnings per share. SFAS No. 128 is effective for periods
ending after December 15, 1997, thus the Company adopted SFAS No. 128 at
December 31, 1997. Previously reported earnings per share have been
restated to conform to SFAS No. 128.
The computation of basic earnings (loss) per share is based on the weighted
average number of common shares outstanding during the period. Net
earnings (loss) used in the computation of basic earnings (loss) per share
are reduced by preferred stock dividend requirements. Diluted earnings per
share for periods ended June 30, 1997, assumes conversion of the Company's
1,431,335 outstanding shares of Preferred Stock, Series A, and the exercise
of outstanding stock options and stock warrants, except when the effect is
antidilutive.
3. LOANS HELD FOR SALE
Loans held for sale consisted of the following at June 30, 1988:
Title I Loans $12,254,716
Conventional loans 39,768
Other 7,104
Capitalized loan origination fees
and costs, net 382,329
-----------
12,683,917
Allowance for credit losses (1,096,329)
-----------
Total $11,587,588
===========
As of June 30, 1998, substantially all of the Title I Loans held for sale
were financed under warehouse loan facilities with the Company's financial
institutional lender or with Fannie Mae. Immediately prior to the March
24, 1998, Fannie Mae Contract termination,
9
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS, CONTINUED
3. LOANS HELD FOR SALE, CONTINUED
the Title I Loans had an estimated fair value of 105 to 107 of par value.
As a result of the actions taken by Fannie Mae and the corresponding
adverse effect on the investor marketplace, the fair value of the Title I
Loans has been impaired. The Company has recorded a loss provision for
loans held for sale that considers the range of bids received during the
three months ended June 30, 1998.
4. ALLOWANCE FOR CREDIT LOSSES
Combined changes in the allowance for credit losses for Loans held for sale
and Loans sold consisted of the following for the three months ended June
30, 1998:
Balance at beginning of period $2,219,315
Provisions for credit losses 921,329
----------
Balance at end of period $3,140,644
==========
Components of the allowance at June 30:
Allowance for credit losses on Loans held
for sale $1,096,329
Allowance for credit losses on Loans sold 2,044,315
----------
$3,140,644
==========
The provisions for credit losses reflects the Company's expectations
concerning liquidation of its loan portfolio. The Company expects and has
booked a loss of $464,000 with respect to sale of the loan portfolio
securing the Company's warehouse line of credit with Guaranty Federal Bank,
F.S.B. ("Bank"), based upon bids received. In anticipation that the
Company may not realize more than par or face amount of its remaining loan
portfolio, a reserve for all loan origination fees of $382,329 has been
recorded at June 30, 1998.
As more fully described in Note 1, Fannie Mae has requested that Home
repurchase an unspecified amount of Title I Loans. Since the repurchase
request is unspecified and the Company is unable to estimate the amount of
repurchase obligation, if any, no amount has been provided in the
accompanying statements of operations for the three or nine months ended
June 30, 1998.
The allowance for credit losses may not be adequate based upon the events
surrounding the Fannie Mae Contract termination and the lack of senior
management personnel. See Note 8.
10
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS, CONTINUED
5. INTEREST-ONLY STRIP RECEIVABLE
The activity in Interest-only strip receivables is summarized as follows
for the three month period ended June 30, 1998:
Balance, April 1, 1998 $10,066,775
Additions -
Payment received, net of amortization (943,402)
Unrealized losses on trading securities (370,870)
-----------
Balance, June 30, 1998 $ 8,752,503
===========
The components of Interest-only strip receivables at June 30, 1998, are
classified as follows:
Available for sale securities $ 236,755
Trading securities 8,515,748
-----------
Total $ 8,752,503
===========
6. REVOLVING LINES OF CREDIT
The Company financed certain of its Loans held for sale through a
$20,000,000 revolving line of credit agreement with the Bank, which matured
June 30, 1998, and had an outstanding balance of $4,513,105 at June 30,
1998. The Company received funding for approximately 98% of the principal
on each Loan it originated or purchased through the warehouse line. The
outstanding principal is collateralized by the original notes and mortgages
and is to be repaid upon their sale. The Company accrued interest on the
principal outstanding through the Reorganization Date, after which no
additional interest accrual was recorded. The agreement stipulates that
the Bank will hold the original notes and mortgages for all loans funded
under the line as collateral. Upon sale of the loans, the purchaser funds
the bank directly and the collateral is released.
The Company also had a working capital line of credit (servicing
collateralized) with the Bank, which matured June 30, 1998, and had an
outstanding balance of $14,077,067 at June 30,1998. The agreement required
interest only payments monthly; however, no interest has been paid during
the three month period ended June 30, 1998. Interest expense has been
recorded up to the Reorganization Date.
Under terms of the working capital line of credit, the Bank determines at
its sole discretion the collateral value as of the end of each fiscal
quarter using information provided by an outside consulting firm. As of
December 31, 1997, the lender determined, based upon such information, that
a principal repayment of approximately $940,000 was required under terms of
its credit agreement. The lender agreed to be repaid an initial payment of
$300,000, which was made on February 12, 1998, and the balance was due on
or before March 31, 1998. The balance of the required principal repayment
of $640,000 due on March 31, 1998, was not made. Furthermore, the outside
consulting firm did not prepare a determination of collateral value for the
lender as of March 31, 1998 or June 30,
11
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS, CONTINUED
6. REVOLVING LINES OF CREDIT, CONTINUED
1998. However, the Company, using methodology similar to that of the
outside consulting firm, prepared an estimate of the value of the
collateral, which was determined to be $9,874,292. The estimated
collateral value excludes any amount previously assigned to the Interest-
only strip receivable, classified as available for sale securities,
relating to the Fannie Mae loan serviced portfolio. By terminating the
Mortgage Selling and Servicing Contract and assuming control over the
servicing portfolio, Fannie Mae effectively eliminated a material portion
of the collateral of the lender. See Note 5.
In connection with both borrowings, the Company agreed to certain
covenants, including without limitation, tangible net worth, adjusted
tangible net worth, leverage ratios, and liquidity. The Company is
permitted to pay dividends as long as the financial ratios are maintained.
As of June 30, 1998, the Company was in violation of substantially all
financial covenants. Furthermore, the Company was in default under both
borrowings at June 30, 1998. As a result of the default, no additional
advances are available under either facility, and the amounts outstanding
under the credit facilities are due and payable.
As part of the arrangement to exchange Title I Loans for Fannie Mae
Mortgage-backed securities, Fannie Mae had provided short-term warehouse
funding to Home, on an uncommitted basis, for its Title I Loans and
Mortgage-backed securities exchanged for such Loans. Generally, the
funding facilities require repayment with a cost of funds based on 30 day
LIBOR rate, plus 30 basis points to 90 basis points, depending upon whether
the funding is provided for Title I Loans or Mortgage-backed securities.
All financing arrangements with Fannie Mae were terminated as of March 24,
1998. Amounts outstanding at June 30, 1998, are due and payable.
The composition of the revolving lines of credit was as follows at June 30,
1998:
Payable to financial institution, warehouse line $ 4,513,105
Payable to Fannie Mae, funding facilities 5,455,901
Payable to financial institution, working capital line 14,077,067
-----------
$24,046,073
===========
7. INCOME TAXES
A valuation allowance has been recorded for the full amount of the deferred
tax assets created during the three month period ended June 30, 1998, as
management cannot be certain that the benefit of such assets will be
realized.
8. REORGANIZATION PROCEEDINGS
Home Reorganization Proceedings. On May 4, 1998, Home, as debtor, filed a
voluntary petition for relief under Chapter 11 of the United States
Bankruptcy Code in the United
12
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS, CONTINUED
8. REORGANIZATION PROCEEDINGS, CONTINUED
States Bankruptcy Court for the Western District of Texas, Austin Division
("Court"), Case No. 98-115551-FM-11, In Re: HomeOwners Mortgage & Equity,
Inc., d/b/a Home, Inc., Debtor ("Reorganization Proceedings"). Home is
Debtor-in-Possession in the Reorganization Proceedings and is seeking to
develop a plan of reorganization with another operating business or funding
source in order to utilize any residual enterprise value of Home and
favorable public company attributes of the Company ("Reorganization") that
will provide an ongoing business or funding to resume operations and
restore some value for stockholders of the Company. However, although
discussions are in progress in connection with potential transactions, no
assurance can be given that any of such discussions will result in a
definitive Reorganization. Moreover, any such Reorganization may be
subject to Court approval, and may also require approval by stockholders of
the Company and arrangements with creditors of Home and the Company, none
of which can be assured.
Some of the more significant actions taken by Home in connection with the
Reorganization Proceedings are summarized as follows:
(a) By agreement, dated June 22, 1998, with the landlord, and
order of the Court, dated August 3, 1998, the lease covering the Company's
former principal office premises at 6836 Austin Center Blvd., Suite 180,
Austin, Texas, 78731, has been rejected and terminated without lien against
Company assets, enabling the Company to remove and sell or relocate its
office furniture, fixtures and equipment. The Company occupied
approximately 18,500 square feet of office space for a rental rate of
approximately $32,000 per month.
(b) Also by Court order, dated August 3, 1998, Home was
authorized to enter into a lease, dated June 22, 1998, with MV Wall Street,
Ltd. ("Wall Street"), covering approximately 2,000 square feet at 8906 Wall
Street, Suite 811, Austin, Texas 78754, for a period of one (1) year at a
rental rate of $1,500 per month. Wall Street is a limited partnership
whose general partner is a corporation owned and controlled by Peter A.
Pyhrr, a principal stockholder and director of the Company; the limited
partners of Wall Street consist of Peter A. Pyhrr, E. Jeff Bomer, Chairman
of the Board, Secretary and a principal stockholder of the Company, and
Stephen A. Pyhrr, formerly a director of the Company and one of its
principal stockholders.
(c) On June 23, 1998, the Court authorized rejection of thirteen
(13) branch office leases in ten (10) states.
(d) On July 27, 1998, the Court authorized the rejection of
office and equipment leases associated with the former Phoenix, Arizona
branch office of Home ("Phoenix Office"), and approved the assignment of
the leases and all furniture, fixtures, equipment and supplies associated
with the Phoenix Office to Home Improvement Mortgage, Inc. ("HIM"), a
company owned by persons formerly engaged by Home to manage the Phoenix
Office, in consideration of the assumption by HIM of certain lease
operating and payroll obligations.
13
<PAGE>
HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS, CONTINUED
8. REORGANIZATION PROCEEDINGS, CONTINUED
(e) The Court has approved an Employee Retention Plan providing
for payment of monthly salaries to five (5) Home employees aggregating
approximately $22,180 per month, insurance benefits, reimbursement of
approximately $3,600 to the employees, three (3) months severance pay to
persons who remain in employment through December 31, 1998, and
establishing a priority claim of up to $4,000 and an additional non-
priority claim of up to $4,000 with respect to accrued but unpaid vacation
pay of each employee.
(f) By order dated June 8, 1998, the Court authorized the sale of
certain furniture, fixtures and equipment associated with the Company's
former Austin, Texas office for an aggregate of approximately $99,000,
including sales of certain furniture and equipment to former employees and
their affiliates and authorizing the sale of additional furniture, fixtures
and equipment by Home from time to time.
(g) By agreed interim order, dated June 9, 1998, between Home and
Guaranty Federal Bank, F.S.B. (the "Bank"), the Court authorized the
segregation and limited the use of certain cash collateral, including the
net proceeds of loan payments on certain loans securing obligations of Home
to the Bank, authorized the use of an aggregate of $50,000 of such cash
collateral by Home under certain conditions, and granted a security intent
to the Bank in any net proceeds of sale of certain loans securing
obligations of Home to Fannie Mae, the proceeds of any claim by Home
against Fannie Mae and the proceeds of any tax refund of Home.
(h) By agreed order, dated June 15, 1998, between Home and Fannie
Mae, the Court approved an agreement, dated June 12, 1998, between Home and
Fannie Mae establishing the terms of marketing and sale of certain loans
sold to Fannie Mae by Home under right of repurchase and the application of
loan sale proceeds to obligations of Home to Fannie Mae.
(i) Norwest Bank Minnesota, N.A. ("Norwest") has filed a motion
in the Reorganization Proceedings seeking, in effect, to divest Home of its
servicing agreement with respect some of Home's loan portfolio. Home has
attributed a present value of approximately $237,340 to the servicing
receivable associated with such loans that would be adversely affected by
termination of its servicing agreement. Therefore, Home is negotiating
with Norwest for payment of fair value approximating book value for the
servicing rights, though no assurance can be given that a settlement can be
reached that would realize the current carried value of the servicing
receivable.
(j) The loan administration with respect to the Company's two
securitizations has been transferred to U.S. Bank. As a result, the
Company has suffered the loss of administrative fees of approximately
$2,000 per month.
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HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS, CONTINUED
9. COMMITMENTS AND CONTINGENCIES
In addition to the matters referred to in Note 1 and Note 8 hereof and
elsewhere herein, the Company is subject to the following commitments and
contingencies, any of which or together could have a material affect on the
financial condition or results of operations of the Company:
(a) Tejas Securities Group, Inc. and John Gorman vs. HomeCapital
Investment Corporation, et al, Cause No 98-03712, in the District Court of
Travis County, Texas, 98th Judicial District. This lawsuit was filed April
9, 1998, seeking damages in connection with alleged common law fraud and
negligence related to a research report published by Tejas Securities
Group, Inc., in June, 1997. Tejas Securities Group, Inc. has voluntarily
dismissed its petition in this matter, although the suit is being continued
by John Gorman, as sole plaintiff. Although discovery in the case has not
been initiated, based upon information available to date, the Company
believes that the suit is without merit and will vigorously defend against
the allegations.
(b) Eaglewood Properties Litigation, Cause No. 98-06352 in the 261st
District Court of Travis County, Texas. This lawsuit was filed June 12,
1998, by several substantial stockholders who are former insiders of the
Company against four (4) former officers and three (3) directors of the
Company or Home, or both, as defendants, seeking damages in excess of $16
million, for alleged statutory fraud, negligent misrepresentation,
negligence, gross negligence and civil conspiracy arising out of claims
that mismanagement by the defendants precipitated the Fannie Mae Contract
termination and subsequent market decline, resulting in loss to the
plaintiffs. The Company is obligated to indemnity and provide a defense of
the lawsuit for the defendants. Answers have been filed denying liability
in behalf of all defendants, and the Company expects to defend the case
vigorously. Although discovery proceedings have only begun, based upon the
present state of information regarding the allegations, the Company
believes that the claims are without merit.
(c) HCI Equity Partners, L.P. v. HomeCapital Investment Corporation,
Cause No. 9807296, in the 261st District Court of Travis County, Texas.
This lawsuit was filed on July 16, 1998, by the holder of 1,000,000 shares
of the Company's Preferred Stock, Series A, alleging the Fannie Mae
Contract termination constitutes a breach of the stock purchase agreement
pursuant to which the plaintiff purchased the preferred shares, and seeking
damages in the amount of $2,820,000. The Company has denied the allegations
and expects to vigorously defend against any liability in the matter.
(d) As a result of termination of the employment of the Company's
executive officers, Home may be obligated for severance or other payments
under employment agreements in effect at the date of termination, and the
Company may be so obligated with respect to one such contract. However, the
determination of the amount and other
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HOMECAPITAL INVESTMENT CORPORATION AND SUBSIDIARY
NOTES TO FINANCIAL STATEMENTS, CONTINUED
9. COMMITMENTS AND CONTINGENCIES, CONTINUED
aspects of any such claims will be made by the Court in the Reorganization
Proceedings, except as to the Company's liability, if any, under the
contract to which the Company is a party.
(e) The Company has guaranteed the warehouse and working capital lines
of credit of Home with the Bank, and unless the collateral securing the
loans can be liquidated for sufficient proceeds to discharge the Bank
loans, the Company may be obligated to pay or discharge any deficiency.
(f) The Company has an inter-company liability to Home in the amount
of $897,357.50 at June 30, 1998, all of which is eliminated in
consolidation. However, the Company may be subject to a claim in such
amount by Home arising out of the Reorganization Proceedings.
10. LIABILITIES SUBJECT TO COMPROMISE
Pursuant to the voluntary petition filed by Home for relief under Chapter
11 of the United States Bankruptcy Code on May 4, 1998 (see Note 1),
certain claims against Home in existence prior to the filing of the
petition for relief under the federal bankruptcy laws are stayed, while
Home continues business operations as debtor-in-possession. These claims
are reflected in the June 30, 1998 balance sheet and are "liabilities
subject to compromise." There are no liabilities reflected in such
statement that are not subject to compromise. Additional claims
(liabilities subject to compromise) may arise subsequent to the filing date
resulting from rejection of executory contracts, including leases, and from
the determination by the court (or agreed to by parties in interest) of
allowed claims for contingencies and other disputed amounts. Claims secured
against Home's assets ("secured claims") also are stayed, although the
holders of such claims have the right to move the court for relief from the
stay. Reorganization expenses, which were incurred after the petition was
filed, amounted to approximately $614,000 before income tax benefit for the
nine-and three-month periods ended June 30, 1998. Such expenses related to
the loss on the sale of furniture, fixtures, and equipment.
Home received approval from the Court to pay or otherwise honor certain of
its prepetition obligations, as described in Note 8. Home has determined
that there is insufficient collateral to cover the interest portion of
scheduled payments on its prepetition debt obligations; therefore, Home has
discontinued accruing interest on these obligations.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
HomeCapital Investment Corporation, a Nevada corporation (the
"Company" or "Registrant"), is a holding company, which conducts its business
entirely through a wholly-owned subsidiary, HomeOwners Mortgage & Equity, Inc.,
a Delaware corporation ("Home"). All references herein to the Company include
Home, unless the context otherwise requires.
Home is a specialized consumer finance company organized in 1993 to
originate, purchase, sell and service home improvement loans and other second
mortgage loans secured by residential property. Historically, Home primarily
financed Title I home improvement loans ("Title I Loans") and conventional
consumer and home equity loans that may fund a variety of borrower needs
("Conventional Loans"). Loans originated or purchased by Home were financed
through warehouse credit lines and then sold to the Federal National Mortgage
Association ("Fannie Mae"), secondary market mortgage investors and other
financial institutions or exchanged for Fannie Mae Mortgage-backed securities.
Home originated and purchased its loans through two primary sources: wholesale
(i.e., "Correspondent Loans") and retail (i.e., "Direct Loans"). Home purchased
Correspondent Loans through a national network of mortgage company loan
correspondents ("Correspondents"). Home originated Direct Loans by direct mail
solicitation of individual homeowners, through referrals from home improvement
contractors, located principally in the Southwestern and Western regions of the
United States, and through special marketing arrangements with home improvement
supply and installation firms ("Corporate Alliances") to provide loans to
customers of these firms.
As a result of the Fannie Mae Contract termination and bankruptcy
Reorganization Proceedings of Home described below, all loan production by the
Company has ceased, all operating offices and personnel of the Company have been
reduced to six (6) employees relocated to a modest office in Austin, Texas, and
the Company's loan portfolio and related assets, as well as excess furniture,
fixtures and equipment, are being liquidated. Meanwhile the Company seeks to
develop a plan of reorganization that will utilize any residual enterprise value
of Home and the public ownership characteristics of the Company for the benefit
of stockholders and creditors of the Company.
Because of the heavy workload and skeletal staff, the Company has
experienced difficulty tracking and generating financial data for financial
statement presentations. This problem has been compounded by difficulty in
obtaining timely loan portfolio collection, paydown and delinquency information
from Fannie Mae and the loan servicer with respect to the loan portfolio sold to
or held as collateral by Fannie Mae, since Fannie Mae has possessed all loan
files and usurped administration of all loan servicing with respect to such
loans. As a result, the Company has experienced a delay in timely filing of
this report and may experience future delays.
FANNIE MAE CONTRACT TERMINATION
On March 24, 1998, the Company was notified by officials of the
Federal National Mortgage Association ("Fannie Mae") that Fannie Mae was
terminating the Mortgage Selling and Servicing Contract for FHA Title I Loans
with Home. Additionally, Fannie Mae also terminated its short-term warehouse
facilities and its securities repurchase facilities with Home related to
financing of Title I Loans and Mortgage-backed securities and demanded the
repurchase by Home of certain loans, including multifamily loans previously sold
to Fannie Mae that Fannie Mae now considers to be ineligible under the contract.
As part of the contract
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termination, the right to service the portfolio of Title I Loans and Mortgage-
backed securities and receive the excess interest flow from these assets
serviced was terminated by Fannie Mae, and Fannie Mae assumed control over the
servicing and the related cash flow.
The carrying value of this asset, which is included in the Balance
Sheet caption Interest-only strip receivable, had a balance of approximately
$12,356,000, at February 28, 1998, the month-end immediately preceding the date
of termination by Fannie Mae. At June 30, 1998, the Company has determined that
the asset has been permanently impaired and has charged the write-off of the
asset against operations for the nine month period ended June 30, 1998.
The Company began selling substantially all of its Title I Loan
production to Fannie Mae in June 1996, and, thereafter, substantially all of the
Title I Loan production of Home was sold to Fannie Mae on a whole loan basis or
swapped with Fannie Mae for Mortgage-backed securities, and the whole loans and
Mortgage-backed securities were financed by Fannie Mae. The actions taken by
Fannie Mae have had a materially adverse effect upon the Company, including the
substantial suspension of business, the write-off of a material portion of
Interest-only strip receivables in the amount of $13,857,307, and default by
Home under the various financing agreements with lending institutions.
As a result, the going concern value of Home and the Company has been
materially impaired, and it is highly unlikely that the Company will be able to
continue operations. During April 1998, all senior executives of the Company
and substantially all of the employees were laid off or resigned and all branch
offices have been closed.
REORGANIZATION PROCEEDINGS
On May 4, 1998, Home filed a voluntary petition for relief under Chapter 11
of the United States Bankruptcy Code ("Reorganization Proceedings").
Subsequently, the Company has been seeking to develop a plan of reorganization,
preferably by combination with a compatible, profitable mortgage or consumer
finance company seeking public ownership of its shares and willing to utilize
and revive the more desirable aspects of the Company's HUD and multi-state
licenses and other relationships. Meanwhile, the Company has sold most of its
furniture, fixtures and equipment, closed thirteen of its offices and has sold
the assets associated with the Phoenix, Arizona office to certain former
employees of that office. Guaranty Federal Bank has authorized the Company to
sell the loan portfolio securing the warehouse line of credit and has agreed to
provide Home with an aggregate of up to $50,000 out of the cash collateral held
by the Bank as working capital secured by certain anticipated assets of Home.
The parties are engaged in negotiations regarding disposition of the Interest-
only strip receivable securing the working capital line of credit held by the
Bank. Loan servicing administration associated with the Company's
securitizations of loans in 1997 has been transferred to U.S. Bank, and Norwest
Bank Minnesota, N.B., is seeking to terminate the servicing agreement of Home
with respect to loans sold to the First National Bank of Keystone and other
investors. Most of the effort of the Company's personnel have been devoted to
providing needed documents, information and support in the Reorganization
Proceedings and liquidation of collateral and other assets to produce working
capital. However, the Company has also relied upon loans from its principal
stockholders to provide working capital.
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RESULTS OF OPERATIONS
NINE MONTHS ENDED JUNE 30, 1998 ("1998 PERIOD"), COMPARED TO NINE MONTHS ENDED
JUNE 30, 1997 ("1997 PERIOD"):
The continuing operations and growth of the Company have been
suspended as a result of recent actions by Fannie Mae and the resulting
consequences described above and herein. During the three month period ended
June 30, 1998 virtually all of the employees of Home have either been dismissed
or have resigned. The Company currently employees six full time staff to assist
with the reorganization. As a result of these developments, the ability of the
Company to report its financial condition has been adversely affected. The
discussion which follows is qualified in its entirety by these events, some of
the effects of which have not yet been determined.
Because loan production effectively ceased approximately March 31,
1998, the Company only produced $96.1 million of loans during the 1998 period
compared to $114.0 million of loans during the 1997 period, a decrease of 16%.
Of the $96.1 million of loans produced in the 1998 period, $65.8 million were
Title I Loans and $30.3 were Conventional Loans.
Total revenues decreased 35.8% to $9.9 million for the 1998 period
from $15.4 million for the 1997 period. The increase was primarily the result
of the change in the manner in which the Company disposes of its loans and the
effect of the Fannie Mae Contract termination.
Gain on sale of loans and Mortgage-backed securities decreased 27.2%
to $7.6 million during the 1998 period from $10.5 million during the 1997
period. The decrease in gain on sale of loans and Mortgage-backed securities
was primarily attributable to cessation of loan operations at the end of March
1998 and the change in the disposition strategy for such loans. During the 1998
period, the Company has primarily disposed of its Title I Loans through either
whole loan sales on a cash basis to Fannie Mae or the exchange or swap of loans
for Fannie Mae Mortgage-backed securities and the subsequent securitization of
those securities. In each case the Company has retained an excess interest
spread that exceeds the estimated cost of servicing the loans and has recorded
an Interest-only strip receivable attributable to this excess interest spread.
The estimated fair value from the creation of this asset is recorded as a
component of the total gain on sale in the Consolidated Statement of Operations.
During the 1998 period the Company originated $30,352,349 in conventional second
mortgage loans, which generated in excess of $3.8 million in fee income. The
conventional second mortgage loans are generally sold to investors on a
servicing released basis.
In May 1997, the Company began retaining the Fannie Mae Mortgage-
backed securities created from the exchange or swap of its Title I Loans. The
Company previously retained Mortgage-backed securities in anticipation of
resecuritizing through the issuance of asset backed securities. Following the
resecuritization of these Fannie Mae Mortgage-backed securities, the Company
would retain the residual interest and would have been entitled to the excess of
the cash flow from these Mortgage-backed securities over the payments on the
asset backed securities issued to prospective investors.
However, as a result of the termination of the Mortgage Selling and
Servicing Contract by Fannie Mae, the ability of the Company to originate and
sell Title I Loans has been adversely affected, and the Interest-only strip
receivable attributable to loans sold to Fannie Mae
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has been usurped. Fannie Mae has declined to purchase any Title I Loans or to
convert existing Title I Loans into Mortgage-backed securities. The Company does
not have any feasible alternative disposition method for Title I Loans.
Interest income-loans increased 113% to $1.8 million during the 1998
period from $844,551 during the 1997 period. The increase was primarily the
result of the increase in the amount of Mortgage-backed securities and loans
held for sale.
As a result of the adoption of SFAS No. 125, amounts previously
reported as loan servicing income were reported as Interest-investments
beginning January 1, 1997. The investment interest income reflects the accrued
income associated with the Interest-only strip receivables and the interest
income associated with Mortgage-backed securities. Interest-investments
increased to $1.7 million in the 1998 period primarily due to the increase in
Interest-only strip receivables and Mortgage-backed securities.
The provision for credit losses increased from $775,000 in the 1997
period to $2.0 million in the 1998 period primarily in relation to the increase
in loan delinquency rates, first payment defaults during the 1998 period and the
estimated loss on loans held for sale at June 30, 1998. The provision for
credit losses is based upon periodic analysis of the portfolio, economic
conditions and trends, historical credit loss experience, the borrowers' ability
to repay, collateral values, and estimated FHA insurance recoveries on loans
originated and sold. Upon sale of loans by Home to investors, including the
exchange by Home of Title I Loans to Fannie Mae for Mortgage-backed securities,
the purchasing investor assumes all credit risk, except for first payment
default, fraud, a breach of customary loan representations and warranties and
certain other limited exceptions.
As a result of the termination of the Mortgage Selling and Servicing
Contract by Fannie Mae on March 24, 1998, the Company's access to servicing
information for the Fannie Mae Title I Loan portfolio was suspended and no
delinquency information with respect to the Fannie Mae portfolio subsequent to
March 31, 1998, was provided to the Company.
Since the initiation of Title I Loan servicing in October 1995, the
Company has subcontracted with non-affiliated companies to provide all servicing
related activities, such as payment collection and processing, investor
reporting, FHA claims filing administration, and workmanship complaint
monitoring.
During fiscal 1997 the Company experienced an increase in the
delinquencies of its serviced loan portfolio, while such loan portfolio was
increasing. In particular, there was a significant increase in the
delinquencies at the end of the fourth quarter of fiscal 1997 in comparison to
the third quarter of fiscal 1997. Accordingly, the Company considered various
options to improve the servicing of its loan portfolio, including the
delinquency performance, and decided to assume the FHA claims filing
administration and workmanship complaint monitoring activities in house. A
loan-servicing department of the Company was established for these activities.
In addition, the Company decided to engage a collection agency to separately
perform the delinquent collection services for all loans that are five days
or more delinquent, and during August 1997 the Company transferred these
collection services from its then existing subservicer to the collection agency.
Management believes that the complexity of transferring these collection
services from the then existing subservicer to the collection agency, including
the transfer of relevant computer data for borrowers, contributed to an increase
in delinquencies during the fourth quarter of fiscal 1997. In addition,
management believes that the separation of
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the normal payment, collection and processing functions from the delinquent
collection functions also contributed to an increase in delinquencies during the
fourth quarter of fiscal 1997.
During the three month period ended December 31, 1997, the Company
reevaluated the separation of the payment processing and delinquency collection
functions and concluded that a new subservicer should be located to perform both
these functions to improve the delinquency performance of the loan portfolio.
Effective December 1, 1997, the Company transferred a majority of its serviced
loan portfolio to a new subservicer to perform these loan-servicing functions.
The Company believes that the transitions related to the transfer of the
collection functions and the subsequent servicing transfer to a new subservicer
have contributed to the increasing delinquencies that have occurred during the
fourth quarter of fiscal 1997 and first quarter of fiscal 1998.
The Company entered into an incentive servicing fee arrangement with
Litton Loan Servicing, Inc. for collection and processing of loans serviced by
the Company. Litton has significant experience in collecting delinquent loans,
as well as a sophisticated and automated collection process, and earns
additional fees, if delinquencies in the Company's servicing portfolio are
reduced below specified levels. As a consequence of this arrangement, the
Company expected that an improvement in collection results should begin to occur
during the second quarter of fiscal 1998. Loan delinquencies continued to
increase during the first quarter of fiscal 1998, and a continued period of high
delinquencies was anticipated during the transition period in which the new
subservicer was implementing its collection procedures and practices with
respect to the Company's servicing portfolio.
In connection with the termination of the Selling and Servicing
Contract by Fannie Mae, the right of Home to service loans previously sold to
Fannie Mae was terminated. However, Litton Loan Servicing, Inc., was retained
by Fannie Mae to continue servicing the Title I Loan portfolio. The Company no
longer exercises any control or supervision over the servicing function with
respect to such loans.
Salaries and employee benefits increased 89% to $6.4 million for the
1998 period from $3.4 million for the 1997 period, primarily as a result of an
increase in the pay rates of employees, the increase in hiring of professionals
required for growth, and the increase in commissioned sales personnel.
Commissioned sales personnel costs accounted for a significant share of the
increase in salaries and employment benefits for the 1998 period. However, as a
result of the Reorganization Proceedings the Company's workforce has been
drastically reduced.
Servicing costs consists primarily of the costs related to servicing
the portfolio of Loans sold on a servicing retained basis. The servicing
function is performed by a non-affiliate of the Company at a negotiated fee.
Servicing costs increased 44% from $701,142 in the 1997 period to $1.0 million
in the 1998 period. The increase was a result of increased loans serviced from
$186,889,000 at June 30, 1997 to 280,298,000 at February 28, 1998, a 50%
increase. The Company has not provided loan servicing since the Fannie Mae
Contract termination on March 24, 1998.
Loan costs, consisting primarily of costs for credit reports, flood
reports, title reports, inspection fees, and the provision for credit losses,
increased 122% to $2.6 million for the 1998 period from $1.2 million for the
1997 period due primarily to the provision for credit losses of $2.0 million.
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Total general and administrative expenses increased 142% to $6.4
million for the 1998 period from $2.6 million for the 1997 period. The increase
was primarily as a result of increases in legal and professional fees, postage
and courier costs, telecommunication costs, stationary and office supplies
expenses, travel costs, advertising expenses, and depreciation expense. The
increase in these costs was primarily attributable to the increased volume of
loans serviced, the overall increase in the number of personnel, the effect of
the Fannie Mae Contract termination and costs associated with the Reorganization
Proceedings.
Occupancy costs increased to $581,563 in the 1998 period from $442,871
in the 1997 period, or 31%, due primarily to the expansion of lease space at the
corporate offices, and the expansion of the office space related to the direct
mail solicitation operations.
Interest expense increased 139% to $2.2 million for the 1998 period
from $923,895 for the 1997 period. The increase was the direct result of
increased average outstanding balance of the warehouse credit lines, and the
financing of the Interest-only strip receivables and Mortgage-backed securities.
The benefit for income taxes in the 1998 period was $2.3 million as
compared to a provision for income taxes $2.2 million for the 1997 period. For
the nine month period ended June 30, 1998, the Company had a loss before income
taxes of $23.2 million as compared to income before income taxes of $6.2 million
for the nine month period ended June 30, 1997.
As a result of the foregoing, net loss increased to $20.9 million
($[2.55] per share) for the 1998 period from net income of $4.0 million ($.40
per share, diluted) for the 1997 period.
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
The Company's financial condition, liquidity and capital resources
have been adversely affected by the recent events described above, including the
termination of the Mortgage Selling and Servicing Contract of Home by Fannie
Mae, the related termination by Fannie Mae of Home's Title I Loan financing,
disposition and servicing facilities, and the resulting Chapter 11
Reorganization Proceedings of Home and cessation of loan operations. The
following discussion is qualified in its entirety by these events and
consequences, some of which are as yet undetermined.
The Company's operations require continued access to financing
sources. The Company's primary operating cash requirements arise from the cost
of loan originations and payments of operating expenses, interest and income
taxes. Loan originations are initially funded principally through the Company's
warehouse lines of credit pending the sale of loans in the secondary market or
pending the securitization of Mortgage-backed securities. Substantially all of
the loans originated by the Company are sold. For the period ended June 30,
1998, the Company sold for cash all Mortgage-backed securities which were
financed with Fannie Mae. Net cash provided by the Company's operating
activities for the nine month period ended June 30, 1998 was approximately $15.5
million as compared to net cash used for the nine month period ended June 30,
1997 of $26.8 million. The net cash from the Company's operating activities
resulted primarily from the proceeds from the sale of loans and Mortgage-backed
securities totaling $120.5 million and $94.2 million for the nine month periods
ended June 30, 1998 and 1997, respectively.
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Adequate credit facilities and other sources of funding, including the
ability of the Company to sell loans or Mortgage-backed securities in the
secondary market, are essential for the continuation of the Company's loan
origination operations. At June 30, 1998, the Company had a $20 million
warehouse line of credit with a commercial bank (the "Warehouse Line"), which is
in default and through which no further advances may be made. The outstanding
balance of approximately $4.5 million under the Warehouse Line is due and
payable at June 30, 1998. The Warehouse Line bears interest at 300 basis points
over the federal funds rate and is collateralized by loans pledged under the
Warehouse Line. The agreement with the lender requires the Company to maintain
a minimum adjusted tangible net worth, along with other financial covenants.
The Company was in violation of substantially all financial covenants as of June
30, 1998.
The Company also had a working capital line of credit with the same
lender which is also in default and through which no further advances may be
made. The outstanding balance of $14.1 million under the working capital line
of credit is due and payable at June 30, 1998.
Under the terms of the working capital line of credit, the lender
determines at its sole discretion the collateral value as of the end of each
fiscal quarter using information provided by an outside consulting firm. As of
December 31, 1997, the lender determined, based upon such information, that a
principal repayment of approximately $940,000 was required under terms of its
credit agreement. The lender agreed to be repaid with an initial payment of
$300,000, which was made on February 12, 1998, with payment of the balance due
on or before March 31, 1998. The balance of the required principal repayment of
$640,000 due on March 31, 1998, was not made. Furthermore, the outside
consulting firm did not prepare a determination of collateral value for the
lender as of March 31, or June 30, 1998. However, the Company, using
methodology similar to that of the outside consulting firm, prepared an estimate
of the value of the collateral, which was determined to be $11,187,979. The
estimated collateral value excludes any amount previously assigned to the
Interest-only strip receivable, classified as available for sale securities,
relating to the Fannie Mae loan serviced portfolio. By terminating the Mortgage
Selling and Servicing Contract and assuming control over the servicing
portfolio, Fannie Mae effectively eliminated a material portion of the
collateral of the lender.
In connection with both borrowings, Home has agreed to certain
covenants, including without limitation, tangible net worth, adjusted tangible
net worth, leverage ratios, and liquidity. The Company is permitted to pay
dividends as long as the financial ratios are maintained. As of June 30, 1998,
the Company was in violation of substantially all financial loan covenants and
otherwise in default under its credit agreements with the lender. As a result,
no additional advances are available under either facility.
In connection with the arrangement with Fannie Mae to exchange Title I
Loans for Mortgage-backed securities, Fannie Mae had provided, prior to March
24, 1998, short-term warehousing and repurchase funding to Home, on an
uncommitted basis, for Title I Loans and Mortgage-backed securities exchanged
for such loans. Generally, the repurchase facilities with Fannie Mae required
repayment with a cost of funds based on a 30-day LIBOR rate plus 30 to 90 basis
points, depending upon whether the funding is provided for Title I Loans or
Mortgage-backed securities. Fannie Mae also had provided repurchase funding to
the Company for its Title I Loans that are held for sale and intended for sale
to Fannie Mae. At June 30, 1998, the principal amount of the Company's
obligations under this repurchase facility was approximately $5.4 million for
Title I Loans delivered and available for sale to Fannie Mae.
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Since approximately April 1, 1998, through June 30, 1998, certain
principal stockholders of the Company have advanced an aggregate of
approximately $185,000 to the Company and Home for working capital, primarily to
cover personnel and legal costs associated with the Reorganization Proceedings,
and it is anticipated that further such advances may be made, although there is
no binding commitment or obligation of such stockholders to do so. These
stockholder loans are payable on demand after one (1) year, bear interest at the
rate of 8% per annum and are secured by security interest in any tax refund of
the Company, subordinate in priority and right of payment to security interests
in the tax refund in favor of Guaranty Federal Bank to secure reimbursement of
its release of up to $50,000 in cash collateral to Home and in favor of Mayor,
Day, Caldwell & Keeton, bankruptcy counsel for Home, to secure certain legal
fees and expenses.
During the nine month period ended June 30, 1998, the Company
completed its second securitization of Fannie Mae Mortgage-backed securities.
HOME Securitization Trust I issued and sold $39,193,258 of Asset Backed Bonds,
Series 1997-2, at 7.261% directly to an investor. The bonds are collateralized
by $39,589,150 of Fannie Mae Mortgage-backed securities with an average pass-
through rate of 12.24%. The Company retained and recorded an interest-only
strip receivable from the securitization which entitles it to the excess spread
from the interest received on the Fannie Mae Mortgage-backed securities over the
interest paid on the Bonds, as well as a retained interest that entitles it to
any remaining balances in the Mortgage-backed securities after the Bonds are
paid in full. In addition, the Company recorded an Interest-only strip
receivable from the excess servicing fee interest spread from the Title I Loans
underlying these Mortgage-backed securities. Also during the nine month period
ended June 30, 1998, the Company sold $32.4 million of Fannie Mae Mortgage-
backed securities with an average interest rate of approximately 12.17% for
total sales proceeds of approximately $36.2 million.
During the 1998 period, the Company provided approximately $3.2
million in funds from investing activities primarily through the cash flow
associated with the interest-only strips retained by the Company in connection
with loan dispositions; and during the same period the Company used $7.7 million
in its financing activities for the repayment of repurchase facilities which had
financed the Mortgage-backed securities sold.
As a result of the Mortgage Selling and Servicing Contract termination
by Fannie Mae on March 24, 1998, and the default by the Company under all of its
financing facilities, the Company no longer has access to current or future
sources of funding sufficient to sustain operations. Without sources of funding
to continue loan origination operations and loan disposition strategies, the
going concern value of the Company has been materially impaired.
24
<PAGE>
SAFE HARBOR STATEMENT
Statements contained in this document other than historical
information are forward looking statements. These forward looking statements
involve risks and uncertainties, including but not limited to the following
risks: changes in the performance of the financial markets, in the demand for
and market acceptance of the Company's loan products, and in general economic
conditions, including interest rates; the presence of competitors with greater
financial resources and the impact of competitive products and pricing; the
effect of the Company's policies; and the continued availability to the Company
of adequate funding sources. Accordingly, actual results and transactions may
differ materially from those projected or anticipated in the forward looking
statements. Investors are also directed to risks discussed elsewhere in this
document and in other documents filed by the Company with the Securities and
Exchange Commission.
25
<PAGE>
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
1.1 Home Reorganization Proceedings. On May 4, 1998, Home, as
debtor, filed a voluntary petition for relief under Chapter 11 of the United
States Bankruptcy Code in the United States Bankruptcy Court for the Western
District of Texas, Austin Division ("Court"), Case No. 98-115551-FM-11, In Re:
HomeOwners Mortgage & Equity, Inc., d/b/a Home, Inc., Debtor ("Reorganization
Proceedings"). Home is Debtor-in-Possession in the Reorganization Proceedings
and is seeking to develop a plan of reorganization with another operating
business or funding source in order to utilize any residual enterprise value of
Home and favorable public company attributes of the Company ("Reorganization")
that will provide an ongoing business or funding to resume operations and
restore some value for stockholders of the Company. However, although
discussions are in progress in connection with potential transactions, no
assurance can be given that any of such discussions will result in a definitive
Reorganization. Moreover, any such Reorganization may be subject to Court
approval, and may also require approval by stockholders of the Company and
arrangements with creditors of Home and the Company, none of which can be
assured.
Some of the more significant actions taken by Home in connection with
the Reorganization Proceedings are summarized as follows:
(a) By agreement, dated June 22, 1998, with the landlord, and order of
the Court, dated August 3, 1998, the lease covering the Company's former
principal office premises at 6836 Austin Center Blvd., Suite 180, Austin, Texas,
78731, has been rejected and terminated without lien against Company assets,
enabling the Company to remove and sell or relocate its office furniture,
fixtures and equipment. The Company occupied approximately 18,500 square feet
of office space for a rental rate of approximately $32,000 per month.
(b) Also by Court order, dated August 3, 1998, Home was authorized to
enter into a lease, dated June 22, 1998, with MV Wall Street, Ltd. ("Wall
Street"), covering approximately 2,000 square feet at 8906 Wall Street, Suite
811, Austin, Texas 78754, for a period of one (1) year at a rental rate of
$1,500 per month. Wall Street is a limited partnership whose general partner is
a corporation owned and controlled by Peter A. Pyhrr, a principal stockholder
and director of the Company; the limited partners of Wall Street consist of
Peter A. Pyhrr, E. Jeff Bomer, Chairman of the Board, Secretary and a principal
stockholder of the Company, and Stephen A. Pyhrr, formerly a director of the
Company and one of its principal stockholders.
(c) On June 23, 1998, the Court authorized rejection of thirteen (13)
branch office leases in ten (10) states.
(d) On July 27, 1998, the Court authorized the rejection of office and
equipment leases associated with the former Phoenix, Arizona branch office of
Home ("Phoenix Office"), and approved the assignment of the leases and all
furniture, fixtures, equipment and supplies associated with the Phoenix Office
to Home Improvement Mortgage, Inc. ("HIM"), a company owned by persons formerly
engaged by Home to manage the Phoenix Office, in consideration of the assumption
by HIM of certain lease operating and payroll obligations.
26
<PAGE>
(e) The Court has approved an Employee Retention Plan providing for
payment of monthly salaries to five (5) Home employees aggregating approximately
$22,180 per month, insurance benefits, reimbursement of approximately $3,600 to
the employees, three (3) months severance pay to persons who remain in
employment through December 31, 1998, and establishing a priority claim of up to
$4,000 and an additional non-priority claim of up to $4,000 with respect to
accrued but unpaid vacation pay of each employee.
(f) By order dated June 8, 1998, the Court authorized the sale of
certain furniture, fixtures and equipment associated with the Company's former
Austin, Texas office for an aggregate of approximately $99,000, including sales
of certain furniture and equipment to former employees and their affiliates and
authorizing the sale of additional furniture, fixtures and equipment by Home
from time to time.
(g) By agreed interim order, dated June 9, 1998, between Home and
Guaranty Federal Bank, F.S.B. (the "Bank"), the Court authorized the segregation
and limited the use of certain cash collateral, including the net proceeds of
loan payments on certain loans securing obligations of Home to the Bank,
authorized the use of an aggregate of $50,000 of such cash collateral by Home
under certain conditions, and granted a security intent to the Bank in any net
proceeds of sale of certain loans securing obligations of Home to Fannie Mae,
the proceeds of any claim by Home against Fannie Mae and the proceeds of any tax
refund of Home.
(h) By agreed order, dated June 15, 1998, between Home and Fannie Mae,
the Court approved an agreement, dated June 12, 1998, between Home and Fannie
Mae establishing the terms of marketing and sale of certain loans sold to Fannie
Mae by Home under right of repurchase and the application of loan sale proceeds
to obligations of Home to Fannie Mae.
(i) Norwest Bank Minnesota, N.A. ("Norwest") has filed a motion in the
Reorganization Proceedings seeking, in effect, to divest Home of its servicing
agreement with respect some of Home's loan portfolio. Home has attributed a
present value of approximately $237,340 to the servicing receivable associated
with such loans that would be adversely affected by termination of its servicing
agreement. Therefore, Home is negotiating with Norwest for payment of fair
value approximating book value for the servicing rights, though no assurance can
be given that a settlement can be reached that would realize the current carried
value of the servicing receivable.
(j) The loan administration with respect to the Company's two
securitizations has been transferred to U.S. Bank. As a result, the Company has
suffered the loss of administrative fees of approximately $2,000 per month.
1.2 Tejas Securities Group, Inc. and John Gorman vs. HomeCapital Investment
Corporation, et al, Cause No 98-03712, in the District Court of Travis County,
Texas, 98th Judicial District. Tejas Securities Group, Inc. has voluntarily
dismissed its petition in this matter, although the suit is being continued by
John Gorman, as sole plaintiff. Reference is made to the discussion of this
matter in the Quarterly Report of the Company on Form 10-QSB for the three
months ended March 31, 1998.
1.3 Eaglewood Properties Litigation,
27
<PAGE>
Cause No. 98-06352 in the 261st District Court of Travis County, Texas. This
lawsuit was filed June 12, 1998, by several substantial stockholders who are
former insiders of the Company against four (4) former officers and three (3)
directors of the Company or Home, or both, as defendants, seeking damages in
excess of $16 million, for alleged statutory fraud, negligent misrepresentation,
negligence, gross negligence and civil conspiracy arising out of claims that
mismanagement by the defendants precipitated the Fannie Mae Contract termination
and subsequent market decline, resulting in loss to the plaintiffs. The Company
is obligated to indemnity and provide a defense of the lawsuit for the
defendants. Answers have been filed denying liability in behalf of all
defendants, and the Company expects to defend the case vigorously. Although
discovery proceedings have only begun, based upon the present state of
information regarding the allegations, the Company believes that the claims are
without merit.
1.4 HCI Equity Partners, L.P. v. HomeCapital Investment Corporation,
Cause No. 9807296, in the 261st District Court of Travis County, Texas. This
lawsuit was filed on July 16, 1998, by the holder of 1,000,000 shares of the
Company's Preferred Stock, Series A, alleging the Fannie Mae Contract
termination constitutes a breach of the stock purchase agreement pursuant to
which the plaintiff purchased the preferred shares, and seeking damages in the
amount of $2,820,000. The Company has denied the allegations and expects to
vigorously defend against any liability in the matter.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
(a) As a result of the Fannie Mae Contract termination on March 24,
1998, and related consequences, including the Chapter 11 Reorganization
Proceedings filing by Home on May 4, 1998, Home is in default in financial and
other covenants under its warehouse line of credit and working capital line of
credit with the Company's principal commercial lender. Fannie Mae has also
asserted that Home is in default under certain loan financing and repurchase
arrangements with Fannie Mae.
(b) As a result of the Fannie Mae Contract termination, certain
holders of shares of the Preferred Stock, Series A, of the Company have asserted
that the Company is in default under covenants of the stock purchase agreement
by which such shares were acquired, as more particularly described in Item 1 of
Part II hereof. Through June 30, 1998, accrued dividends on the Preferred Stock,
Series A, in the aggregate amount of $266,109 were in arrears in accordance with
the provisions governing the Preferred Stock, Series A.
ITEM 5. OTHER INFORMATION.
As a result of the Fannie Mae Contract termination and the consequent
financial reversals and Reorganization Proceedings of Home, the Company has been
unable to maintain the market price of shares of its Common Stock on the Nasdaq
SmallCap Market and the Pacific Exchange or to meet all of the minimum financial
standards for maintaining an exchange listing. The Company has been notified
that delisting proceedings by the Nasdaq are imminent, unless the Company can
demonstrate that it will soon resume compliance with the exchange standards.
Effective August 4, 1998, the Company was delisted by the Pacific Exchange,
subject to an opportunity to appeal the delisting.
The Company is seeking to develop a plan of reorganization by
combination with a compatible operating company or by attracting sufficient
capital infusion and credit facilities to resume operations under new
management. If the Company is able to establish that such a
28
<PAGE>
strategy is feasible, then it will seek to avoid or defer any Nasdaq delisting
proceedings and appeal the Pacific Exchange delisting decision. However, given
the present state of the Company's consolidated financial position, prospects
and share market characteristics, there is no assurance that the Company will be
able to maintain its listing on the Nasdaq or restore its Pacific Exchange
listing.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits:
Exhibit 11.1 Statement of Computation of Earnings per Share (Nine
Months).
Exhibit 11.2 Statement of Computation of Earnings per Share (Three
Months).
Exhibit 27 Financial Data Schedule (Electronic Filing Only).
(b) Reports on Form 8-K: None.
29
<PAGE>
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
HOMECAPITAL INVESTMENT CORPORATION
(Registrant)
Date: August 31, 1998 By: /s/ Rebecca F. Blanchard
------------------------------------------
Rebecca F. Blanchard
Treasurer and Principal Accounting Officer
30
<PAGE>
EXHIBIT 11.1
HOMECAPITAL INVESTMENT CORPORATION
EARNINGS PER SHARE
<TABLE>
<CAPTION>
NINE MONTH PERIOD ENDED
JUNE 30,
1998 1997
------------- ------------
<S> <C> <C>
BASIC EARNINGS PER COMMON SHARE:
Net income (loss) $(20,854,170) $3,999,204
Less preferred stock dividends (197,324) (201,945)
------------ ----------
Net income (loss) for common stockholders $(21,051,494) $3,797,259
============ ==========
Weighted average shares outstanding during the period 8,270,639 8,008,659
============ ==========
Basic earnings (loss) per common share $ (2.55) $ .47
============ ==========
DILUTED EARNINGS PER COMMON SHARE:
Net income (loss) for common stockholders $(21,051,494) $ 3,797,259
============ ===========
Weighted average shares outstanding during the period 8,270,639 8,008,659
Common stock equivalents /(1)/ 594,242
Assume conversion of preferred stock /(1)/ 1,500,000
------------ -----------
Weighted average common shares outstanding 8,270,639 10,102,901
============ ===========
Diluted earnings (loss) per common share $ (2.55) $ .40
============ ===========
</TABLE>
______________
/(1)/ Excluded due to antidilutive effect.
<PAGE>
EXHIBIT 11.2
HOMECAPITAL INVESTMENT CORPORATION
EARNINGS PER SHARE
<TABLE>
<CAPTION>
THREE MONTH PERIOD ENDED
JUNE 30,
1998 1997
------------ -----------
<S> <C> <C>
BASIC EARNINGS PER COMMON SHARE:
Net income (loss) $(3,449,816) $ 210,352
Less preferred stock dividends (64,232) (67,315)
----------- -----------
Net income (loss) for common stockholders $(3,514,048) $ 143,037
=========== ===========
Weighted average shares outstanding during the period 8,295,525 8,226,883
=========== ===========
Basic earnings (loss) per common share $ (.42) $ .02
=========== ===========
DILUTED EARNINGS PER COMMON SHARE:
Net income (loss) for common stockholders $(3,514,048) $ 143,037
=========== ===========
Weighted average shares outstanding during the period 8,295,525 8,226,883
Common stock equivalents /(1)/ 619,875
Assume conversion of preferred stock /(1)/ 1,500,000
----------- -----------
Weighted average common shares outstanding 8,295,525 10,346,758
=========== ===========
Diluted earnings (loss) per common share $ (.42) $ .02
=========== ===========
</TABLE>
______________
/(1)/ Excluded due to antidilutive effect.
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM BALANCE
SHEET AND STATEMENT OF OPERATIONS AT OR FOR THE 9 MONTHS ENDED JUNE 30, 1998 AND
IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-START> OCT-01-1997
<PERIOD-END> JUN-30-1998
<CASH> 89,701
<SECURITIES> 10,111,047
<RECEIVABLES> 12,683,917
<ALLOWANCES> (1,096,329)
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 667,863
<DEPRECIATION> 0
<TOTAL-ASSETS> 24,543,687
<CURRENT-LIABILITIES> 0
<BONDS> 0
0
14,313
<COMMON> 82,955
<OTHER-SE> (8,712,031)
<TOTAL-LIABILITY-AND-EQUITY> 24,543,687
<SALES> 0
<TOTAL-REVENUES> 9,907,875
<CGS> 0
<TOTAL-COSTS> 33,070,954
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 1,971,329
<INTEREST-EXPENSE> 2,204,919
<INCOME-PRETAX> (23,163,079)
<INCOME-TAX> (2,308,909)
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (20,854,170)
<EPS-PRIMARY> 2.55
<EPS-DILUTED> 2.55
</TABLE>
