<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 [NO FEE REQUIRED]
For the fiscal year ended December 31, 1996
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from to
Commission File Number: 0-1100
HAWTHORNE FINANCIAL CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 95-2085671
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
2381 ROSECRANS AVENUE, 2ND FLOOR
EL SEGUNDO, CALIFORNIA 90245
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (310) 725-5000
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, PAR VALUE $0.01 PER SHARE
(TITLE OF CLASS)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
YES X NO
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of the Form 10-K or any
amendment to this Form 10-K. [X]
The aggregate market value of the voting stock held by non-affiliates
of the Registrant, based on the closing stock price of such stock as of February
28, 1997 as reported by the National Association of Securities Dealers, was
$26,169,583.
The number of shares of Common Stock, par value $0.01 per share, of the
Registrant outstanding as of February 28, 1997 was 2,623,275 shares.
DOCUMENTS INCORPORATED BY REFERENCE
Part III of this Annual Report incorporates by reference portions of
the Proxy Statement to be filed with the Securities and Exchange Commission in
connection with the Registrant's Annual Meeting of Stockholders to be held on
May 21, 1997.
<PAGE> 2
HAWTHORNE FINANCIAL CORPORATION
ANNUAL REPORT ON FORM 10K
<TABLE>
<CAPTION>
PAGE
PART I.
<S> <C> <C>
ITEM 1. Business.....................................................................................2
General.................................................................................2
Business Overview.......................................................................3
New Business Generation.................................................................4
Financing Criteria and Standards........................................................9
Regulation.............................................................................11
Taxation...............................................................................18
ITEM 2. Properties..................................................................................20
ITEM 3. Legal Proceedings...........................................................................21
ITEM 4. Submission of Matters to a Vote of Security Holders.........................................22
ITEM 4A. Executive Officers..........................................................................22
PART II.
ITEM 5. Market for Registrant's Common Stock and Related Stockholder Matters........................23
ITEM 6. Selected Financial Data.....................................................................24
ITEM 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.......25
Operating Results......................................................................25
Financial Condition, Capital Resources & Liquidity and Asset Quality...................33
Interest Rate Risk Management..........................................................54
ITEM 8. Financial Statements and Supplementary Data.................................................55
ITEM 9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure..................................................................................55
PART III.
ITEM 10. Directors and Executive Officers of the Registrant..........................................56
ITEM 11. Executive Compensation......................................................................56
ITEM 12. Security Ownership of Certain Beneficial Owners and Management..............................56
ITEM 13. Certain Relationships and Related Transactions..............................................56
PART IV.
ITEM 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K............................57
</TABLE>
FORWARD LOOKING STATEMENTS
When used in this Form 10-K or future filings by the Company with the
Securities and Exchange Commission, in the Company's press releases or other
public or shareholder communications, or in oral statements made with the
approval of an authorized executive officer, the words or phrases "will likely
result", "are expected to", "will continue", "is anticipated", "estimate",
"project", "believe" or similar expressions are intended to identify
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. The Company wishes to caution readers that all
forward-looking statements are necessarily speculative and not to place undue
reliance on any such forward-looking statements, which speak only as of the date
made, and to advise readers that various risks and uncertainties, including
regional and national economic conditions, changes in levels of market interest
rates, credit risks of lending activities, and competitive and regulatory
factors, could affect the Company's financial performance and could cause the
Company's actual results for future periods to differ materially from those
anticipated or projected. The risks highlighted herein should not be assumed to
be the only things that could affect future performance of the Company.
The Company does not undertake, and specifically disclaims any
obligation, to publicly release the result of any revisions which may be made to
any forward-looking statements to reflect the occurrence of anticipated or
unanticipated events or circumstances after the date of such statements.
<PAGE> 3
P A R T I.
ITEM 1. BUSINESS
GENERAL
HAWTHORNE FINANCIAL CORPORATION
Hawthorne Financial Corporation ("Hawthorne Financial" or "Company"), a
Delaware corporation organized in 1959, is a savings and loan holding company
that owns 100% of the stock of Hawthorne Savings, F.S.B. ("Hawthorne Savings" or
"Bank"). Hawthorne Savings was incorporated in 1950 and commenced operations on
May 11, 1951. The Bank's six full service retail offices are located in Southern
California. Hawthorne Savings had 201 employees as of January 31, 1997. The
Company's executive offices are located at 2381 Rosecrans Avenue, El Segundo,
California 90245, and its telephone number is (310) 725-5000.
HAWTHORNE SAVINGS
Hawthorne Savings is a federally-chartered stock savings bank (referred
to in applicable statutes and regulations as a "savings association")
incorporated and licensed under the laws of the United States. The Bank is a
member of the Federal Home Loan Bank ("FHLB") of San Francisco, which is a
member bank of the Federal Home Loan Bank System. The Bank's deposit accounts
are insured up to the $100,000 maximum amount currently allowable under federal
laws by the Savings Association Insurance Fund ("SAIF"), which is a separate
insurance fund administered by the Federal Deposit Insurance Corporation
("FDIC"). The Bank is subject to examination and regulation by the Office of
Thrift Supervision ("OTS") and the FDIC. Hawthorne Savings is further subject to
regulations of the Board of Governors of the Federal Reserve System ("FRB")
concerning reserves required to be maintained against deposits and certain other
matters.
Hawthorne Savings is principally engaged in the business of attracting
deposits from the general public and using those deposits, together with
borrowings and other funds, to originate residential and income property real
estate loans. The Bank's principal sources of revenue are interest earned on
mortgage loans and investment securities, and fees received in connection with
various deposit account services and miscellaneous loan processing activities.
The Bank's principal expenses are interest paid on deposit accounts and the
costs necessary to operate the Bank.
The operations of a savings institution are significantly influenced by
the real estate market, general economic conditions and the related monetary and
fiscal policies of the FRB and policies of financial institution regulatory
authorities, including the FRB, the OTS and the FDIC. Deposit flows and costs of
funds are influenced by the general interest rate environment and rates of
return on competing investments. Demand for mortgage, construction and other
types of loans is affected by market interest rates for such financing, the
volume of sales and supply of housing, the availability of funds and the
regulatory environment. The value of real estate securing loans is also directly
affected by real estate market and general economic conditions, which may change
materially over time.
The Bank's operating results depend primarily on (i) the margin
("spread") between the yield from its interest-earning assets, principally loans
and investment securities, and the cost of its interest-bearing liabilities,
principally deposits, (ii) the size and relative amounts of its interest-earning
assets and its interest-bearing liabilities, and (iii) the quality of its
assets.
At December 31, 1996, Hawthorne Savings met and exceeded all three
regulatory capital requirements, based upon rules currently in effect, with core
capital to total assets of 6.27%, core capital to risk- weighted assets of
9.85%, and total capital to risk-weighted assets of 11.11%. Based on the
foregoing, the Bank exceeded the regulatory capital requirements to qualify as a
"well capitalized" institution under applicable laws and regulations.
2
<PAGE> 4
BUSINESS OVERVIEW
The Company has historically operated exclusively in Southern
California. Prior to 1990, the Southern California economy experienced an
extended period of significant growth fueled primarily by the real estate
development, aerospace and defense industries. The expanding economy encouraged
significant in-migration into California and, coupled with favorable federal
income tax policies through 1986, created strong demand for housing and led to
significant development of virtually all types of real estate. Throughout this
period, the Company was actively engaged in financing the construction of
residential properties, principally for-sale housing developments, individual
homes and apartment buildings. As a matter of business strategy, the Company
utilized its construction financing activities as its principal source of
permanent loans, by converting its construction loans to permanent loans and by
providing permanent financing to purchasers of units within tract developments,
the construction of which the Company financed. Virtually all of the loans with
respect to which borrowers defaulted during the 1990s were originated by the
Company during the period 1986 through 1990, a period during which the market
value of real estate generally increased substantially.
Commencing in 1990, the Southern California economy entered a period of
severe economic recession which was characterized by, among other things, high
unemployment, declining business and real estate activity, declining real estate
values and a withdrawal of the capital which had fueled the sharp rise in real
estate activity and values during the period 1986 through 1990. During this
recessionary period, the demand for virtually all types of real estate slackened
because of declining market values, the unavailability of mortgage credit for
certain types of real estate, most notably construction developments and
permanent financing secured by income-producing properties, and the flight of
equity capital which had supported the high level of property transactions
during the 1980s. By historically focusing a substantial portion of its lending
activities on construction financing, which involved a small number of
affiliated developers with little or no financial resources of their own, the
Company was affected more significantly than its peers when the Southern
California economy entered recession. As a result, the Company experienced
enormous credit losses during the period 1992 through 1996, which led to
significant net losses and a severe deterioration in the Bank's capital.
For the five years ended December 31, 1996, the Company reported
cumulative net losses of $61.4 million, with annual losses of $22.1 million
(1992), $29.6 million (1993), $3.0 million (1994), and $14.2 million (1995) and
net earnings of $7.5 million (1996). These results included cumulative
provisions for credit losses on loans and foreclosed properties of $120.3
million, with annual provisions of $54.6 million (1992), $29.4 million (1993),
$5.3 million (1994), $20.0 million (1995), and $11.0 million (1996).
Beginning in 1992, the Company and the Bank came under intense scrutiny
from regulators as the deterioration in local real estate values resulted in a
significant number of the Company's borrowers defaulting on their loans. In June
1993, the Board of Directors of the Company and the Bank recruited Scott A.
Braly as President and Chief Executive Officer of both companies. Mr. Braly
recruited a number of experienced individuals to completely restructure the
Company and to aggressively manage the Company's growing portfolio of foreclosed
properties and troubled loans. During the period 1992 through 1996, the Company
foreclosed on its real estate collateral securing approximately $270 million of
loan principal, invested approximately $50 million following foreclosure,
principally to complete unfinished tract developments, and sold properties
representing approximately $258 million of this accumulated investment (before
credit losses). Approximately $32 million of foreclosed properties (before
credit loss reserves) remained unsold at the end of 1996. During this period,
the Company's credit losses on loans and properties were approximately $120
million, representing the sum of actual losses realized from property sales and
provisions to establish reserves for unsold properties and loans. In response to
the increasing level of credit losses and the staffing needs to monitor the
Company's problem assets, the Company significantly curtailed its loan
origination activities during 1993 and 1994.
During the first quarter of 1995, continuing credit losses required the
Company to substantially increase its specific and general reserves, which
rendered it "undercapitalized" according to the "prompt corrective action"
regulations issued by the OTS under the Federal Deposit Insurance Corporation
Improvement Act ("FDICIA"). In June 1995, the OTS issued a Prompt Corrective
Action ("PCA") Directive to the Bank, ordering the Bank to submit a capital
restoration plan to the OTS, which plan was approved in June 1995, and
required the Bank to increase its qualifying Tier 1 capital by $15 million to
$20 million by December 15, 1995.
In December 1995, the Company successfully completed the sale of $27
million of "investment units" in a private placement. The investment units
consist of equal amounts of senior notes and a new class of preferred stock,
together with warrants to purchase common stock of the Company. The Company
contributed $19 million of the
3
<PAGE> 5
net proceeds of the private placement as qualifying Tier 1 capital into the Bank
upon completion of the private placement. With the infusion of capital into the
Bank, the OTS terminated the PCA and released the Bank from its capital plan.
Based upon published economic data, the severe economic downturn
throughout Southern California began abating during 1995 and has continued to
evidence improvement through the end of 1996. As the overall economy has
improved, the real estate-based segments of the economy have similarly improved,
measured by several factors, including (1) a rising number of property sales,
(2) a declining percentage of real estate transactions represented by foreclosed
or otherwise distressed real estate, (3) an increasing availability of mortgage
credit for virtually all property types, and (4) an increasing amount of equity
capital deployed in the acquisition of real estate. There can be no assurance
that these trends will continue, however. The economies and real estate markets
in Southern California will continue to be significant determinants of the
quality of the Company's assets in future periods and, thus, its results of
operations.
The Company continues to make progress in reducing its portfolios of
nonperforming assets, with the investment in gross nonperforming assets
declining from $118.2 million and $151.2 million at December 31, 1992 and 1993,
respectively, to $80.7 million, $49.2 million and $36.8 million at December 31,
1994, 1995 and 1996, respectively. This substantial and continuing decline in
nonperforming assets, coupled with the Company's successful reentry into
selected real estate financing markets, returned it to profitability during the
fourth quarter of 1995 and for the year ended December 31, 1996, during which
the Company reported net earnings of $0.5 million and $7.5 million,
respectively. See NEW BUSINESS GENERATION and ITEM 7. MANAGEMENT'S DISCUSSION
AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
NEW BUSINESS GENERATION
LENDING
The Company's principal lending area encompasses Los Angeles and Orange
counties, with ancillary markets including the rest of Southern California.
Financial companies intensely compete for mortgage financings
throughout the Company's Southern California markets. Generally, the Company
competes with both in-market and out-of-market financial companies for loans,
including banks, savings institutions and thrift and loans (in-market
competitors), and regional banks, brokerages and specialty funds and investment
entities (out-of-market). These companies generally compete successfully based
upon their ability and willingness to originate loans at the lowest prices
generally available in the marketplace, with the ultimate intention of
securitizing such loans and selling them into the secondary mortgage markets. As
discussed elsewhere herein, the Company generally focuses upon those segments of
the mortgage financing markets in which price is only one of several factors
considered by borrowers in their financing decisions. The Company originates and
processes its loans from a central location, rather than through its retail
branch network. Loans are generally obtained through a network of mortgage
brokers rather than via a captive sales force.
The Company's current loan origination activities, which focus upon
financings secured by expensive homes, income-producing real estate and
residential construction, are governed by established policies and practices
appropriate to the risks inherent in the financing of specialty real estate. The
Company's primary competitive advantages - effective and efficient transaction
execution and a willingness to tailor the terms and conditions of individual
transactions to optimize the borrower's and the Company's objectives - have led
the Company to tailor its organization, resources and loan policies accordingly.
To maximize penetration of its targeted mortgage financing markets, the
Company has established independent groups which maintain responsibility for
each of the Company's primary lending businesses. Each of these groups is
separately resourced with a full complement of sales and credit professionals,
each of whom independently report to the Chief Executive Officer. Each of these
business groups is supported by the appraisal, quality management and servicing
groups, which in turn report separately to the Chief Executive Officer.
Management believes that this operating template has permitted the Company to
maintain a relatively flat organizational structure and to maximize
responsiveness to customers and opportunities, without sacrificing internal
controls and credit quality.
Since the middle of 1996, competition in the Company's market segments
has expanded significantly, in large part due to (1) measurable improvements in
the level of positive economic activity throughout Southern California, (2)
4
<PAGE> 6
a noticeable increase in the level of non-distressed real estate activity
encompassing virtually all property types, and (3) the availability and
deployment of large pools of capital directed at real estate investment and
financing, emanating from both in-market and out-of-market sources. These
recently visible competitive forces have begun to place downward pressure on the
price of all forms of real estate financing and have moderately liberalized the
terms under which credit is extended. Because of these market forces, the
Company expects that the yields on loans originated in the future will be
somewhat lower than those obtained during 1995 and 1996, assuming no change in
the general level of market interest rates and realization of the Company's
internal loan production objectives.
The table below summarizes the Company's loan origination activity for
1995 and 1996. By comparison, the Company originated $49.9 million and $44.9
million of new loans in 1993 and 1994, respectively.
<TABLE>
<CAPTION>
FOR THE YEAR ENDED FOR THE YEAR ENDED
DECEMBER 31, 1996 DECEMBER 31, 1995
------------------- ------------------
TYPE OF SECURITY AMOUNT % AMOUNT %
- ------------------------------------------ --------- ----- -------- ----
<S> <C> <C> <C> <C>
Single family homes (1-4 units)
Estate (1) $ 72,500 21.8% $ 53,700 27.2%
Conventional 27,400 8.2 11,400 5.8
Multifamily (5 or more units) (2) 70,700 21.3 66,100 33.5
Commercial 46,000 13.8 31,700 16.1
Construction and land (commitments) (3) 98,000 29.6 34,500 17.4
Other 17,700 5.3
-------- ----- -------- -----
$332,300 100.0% $197,400 100.0%
======== ===== ======== =====
</TABLE>
- ------------------------
(1) Generally defined as individual loans with principal balances
of more than $1.0 million originated after 1994. This amount
includes unfunded commitments under lines of credit of $2.8
million and $5.2 million at December 31, 1996 and 1995,
respectively.
(2) Includes $16.2 million and $13.8 million of financings
provided in connection with sales of previously foreclosed
properties for the years ended December 31, 1996 and December
31, 1995, respectively.
(3) Includes unfunded commitments of $45.5 million at December 31,
1996 and $14.9 million at December 31, 1995.
ESTATE FINANCING
Since 1994, the Company has provided a variety of financings secured by
very expensive homes in Southern California, including homes located in the
communities of Bel-Air, Beverly Hills, Malibu, Newport Beach, Santa Barbara and
La Jolla. Generally, the Company's loans refinance the borrower's existing
mortgage debt, rather than financing the borrower's purchase of a home. The
Company generates virtually all of its new financing opportunities of this type,
which it refers to as "Estate Financing", through contact with, and submissions
by, independent mortgage brokers.
The Company seeks financing opportunities which involve a wide range of
property types, from large, conventional homes located within mature areas to
very large, multiple acre, one-of-a kind estates. The Company's financings also
encompass a wide range of borrower profiles, from borrowers with the
demonstrated and documented capacity to service the Company's loan to borrowers
with no evident source of recurring cash flow. Loans which meet the highest
standards of collateral quality and borrower capacity and creditworthiness (Tier
1 loans) are similar to conventional home loans except for their size, and
generally have higher loan to value ratios and the most favorable pricing to the
borrower. Loans with respect to which the borrower's resources are limited or
cannot be reliably measured, or with respect to which the Company's collateral
possesses such unique characteristics, including size, amenity, or location, so
as to make its valuation difficult to precisely measure (Tier 3 loans) have the
lowest loan to value ratios and the highest pricing to the borrower. Loans which
fall in between these two sets of parameters (Tier 2 loans) involve advances and
pricing which are tailored to the particular attributes of the property, the
borrower and the reasons underlying the borrower's loan request. To date, a
substantial majority of the Company's Estate loans have been comprised of Tier 2
loans.
5
<PAGE> 7
The Company has been able to charge premium prices in connection with
many of its Estate loans because most of its competitors place internal limits
on the dollar amount of individual financings (without reference to the
underlying attributes of the collateral and the borrower) and because most
lenders are hesitant to extend credit to individuals whose capacity to service
the loan cannot be reliably measured or where the borrower's credit profile is
marred by prior credit problems, the absence of a credit history or other
factors. As suggested above, the Company compensates for the existence of one or
more of these attributes by limiting the advance it will make against its
estimate of the value of the collateral. The Company has also been successful in
attracting business where the borrower requires flexibility in structuring the
terms of the loan, where efficient and timely execution are of paramount
importance, or both. As with all of its financing businesses, the Company's flat
organization structure, small size and portfolio retention strategies all
contribute to its success in attracting new business and in receiving a return
believed by management to be commensurate with the risk assumed and value added
to completing the transaction.
Since 1994, the Company has originated $126.2 million of Estate loans.
The average per loan size of these loans approximates $2.4 million and the
average loan-to-value ratio is approximately 50%. At December 31, 1996, Estate
loan principal of $107.9 million was outstanding. The average interest rate and
effective yield (which incorporates loan and other fees to be earned over the
contractual life of the loan) on outstanding loan principal at December 31, 1996
was 10.11% and 10.27%, respectively.
CONVENTIONAL HOME FINANCING
In addition to its other, higher-yielding financing businesses, the
Company also provides conventional permanent financing secured by single family
homes. The Company conducts this business both from its local retail banking
offices and from its corporate offices. This business is the most competitive
and least profitable of all of the Company's financing businesses. The Company
lacks the size and scale of operations to profitably penetrate this business,
especially in view of the significant capacity already in the marketplace in the
form of very large banking and non-banking companies whose principal business is
to originate conventional single-family-secured loans, many for resale in
secondary mortgage markets. The Company is organized to provide a modest volume
of this business each year, generally concentrated in and around its local
retail banking offices.
MULTI-FAMILY AND COMMERCIAL FINANCING
The Company provides financing to owners and purchasers of apartment
buildings and various types of non-residential properties, such as retail
centers, office buildings, and industrial buildings. The Company generates new
financing opportunities through contact with, and submissions to it by,
independent mortgage loan brokers. The Company is often able to charge premium
prices for its financings because significant opportunities exist in the
marketplace to provide financing which requires tailored terms and conditions,
efficient response and execution, and specialized real estate expertise. These
attributes derive from the Company's smaller size and flat organizational
structure, its strategy to hold all new originations in portfolio, and the real
estate experience of most of its people.
Since early 1995, the Company has focused upon establishing its
presence in the income property financing business throughout Southern
California by building relationships with a growing network of mortgage brokers
and, to a lesser extent, through repeat business with borrowers. Excluding
internal financings of foreclosed property sales ($30.0 million), the Company
has originated $184.5 million of loan commitments secured by multi-family
residential and commercial real estate since 1994. The average per loan size of
these loans approximated $2.1 million. At December 31, 1996, there were $116.7
million of multi-family residential and commercial real estate loans
outstanding, which amount is net of repayments, sales and undisbursed funds. The
average interest rate and effective yield (which incorporates loan and other
fees) of outstanding loan principal at December 31, 1996 was 9.79% and 10.09%,
respectively. A majority of the Company's cumulative volume of new commitments
involved permanent financings, with the remainder covering a variety of
transaction types, including short-term bridge loans and loans with a
substantial property renovation component.
The financing of income properties is subject to the risk that the cash
flows being generated by the Company's collateral, as reported by the borrower,
will decline following the funding of the loan, either because of general
economic conditions or because the Company's borrower poorly manages the
property, which could cause the borrower to default on their loan (because the
cash flows from the property are no longer sufficient to cover the
6
<PAGE> 8
payments required by the Company's loan). The Company mitigates this risk by (1)
requiring its borrowers to demonstrate their commitment to the property through
a substantial cash equity investment therein, (2) carefully evaluating the
historical and current operations of the property, (3) investigating the rental
markets within the areas surrounding its collateral in order to validate the
revenue and expense assumptions which contribute to the Company's assessment of
the properties' current and potential cash flows, and (4) evaluating the
operating experience of the borrower with similar properties.
CONSTRUCTION FINANCING
The Company conducts two separate construction financing businesses,
each of which is separately targeted and resourced.
The Tract Financing group commenced operation during the fourth quarter
of 1995 and provides construction financing to small-to-medium-sized builders of
single-family residential developments in Southern California. In this business,
the Company believes its competitive advantage is focused upon its efficient
response and execution and, more often than not, a pre-existing relationship
with the borrower or particular knowledge of the specific submarket and/or
product type. The Company solicits new business directly with builders and,
occasionally, through independent mortgage brokers. Most financial institutions
of the Company's size or larger now provide development financing and,
therefore, this business is quite competitive. Since 1994, the Company has
extended $49.0 million of tract construction loan commitments covering 13
separate developments. At December 31, 1996, $15.1 million was outstanding with
respect to such commitments, which amount is net of undisbursed funds and
repayments. These commitments generally have an interest rate which is based on
a designated prime rate plus 1.0% to 2.0%, calculated on disbursed balances, and
a loan fee of like amount calculated on the entire commitment amount. With
respect to certain transactions, the Company is scheduled to receive a release
or exit fee as completed units are sold and the Company's loan is repaid. The
average commitment term approximates 18 months. The effective yield to the
Company from these commitments is a function of the Company's stated pricing and
the average funded balance against the commitment.
The Single Family Residence ("SFR") Financing group provides individual
home construction financing to local builders and homeowners. To date, this
group has focused almost exclusively on providing construction financing in the
beach cities of the South Bay area of Los Angeles County, with occasional
financing outside the Company's principal market area. Virtually all of the
Company's business to date has been generated through pre-existing relationships
between the Company's loan officers and local builders. Since 1994, the Company
has extended a total of $83.5 million of financing commitments related to the
construction of 122 individual residential units. At December 31, 1996, $34.4
million was outstanding with respect to such commitments, which amount is net of
repayments and undisbursed funds. These commitments generally have an interest
rate which is based on a designated prime rate plus 1.0% to 2.0%, calculated on
disbursed balances, and a loan fee of like amount calculated on the entire
commitment amount. The average commitment term approximates 12 months. The
effective yield to the Company from these commitments is a function of the
Company's stated pricing and the average funded balance against the commitment.
Construction financing presents the Company with the risk that the
actual cost of development will substantially exceed original estimates (because
the original estimates were flawed or because of post-funding approval issues
by the local municipality that has purview over the project), or that the price
of the finished homes will not meet pre-development expectations (because the
original assessment was flawed or because of changes in real estate values
generally). The Company compensates for these risks by (1) generally limiting
its advance to a percentage of expected development costs, and requiring the
borrower to fund the difference, (2) carefully evaluating the line item costs to
complete the development, utilizing its resident loan officers and staff (or,
where appropriate, third parties), (3) carefully evaluating the product type to
be built and the demand for the finished homes by reference to recent sales of
comparable homes, and (4) the development experience of, and the success or
failure of, the Company's borrower with similar projects.
The Company very rarely converts these construction financings to
Estate or conventional financings because the permanent loan sizes would fall
beneath targets for the Estate group and the Company seeks to limit its
conventional new financing volume within any development concentration.
7
<PAGE> 9
OTHER
Occasionally, the Company provides financing to borrowers in which its
security is in the form of a promissory note rather than a fee interest in real
estate. Such financings generally provide potential compensation to the Company
well in excess of the yields which are typically obtained from the Company's
predominant lending activities. During 1996, the Company provided commitments
totaling $17.7 million in six separate transactions which were secured by
promissory notes. With respect to one transaction involving a commitment of $6.5
million, the promissory note security was, in turn, secured by real estate. With
respect to two transactions involving aggregate commitments of $4.5 million the
Company's loans were secured by pools of nonperforming loans which, in turn,
were collateralized by residential real estate. The remaining three loans were
secured by promissory notes which, in turn, were not collateralized by specific
assets of the borrower. At December 31, 1996, $14.7 million was outstanding
against these commitments. During the first quarter of 1997, one loan, with a
disbursed balance of $6.6 million, was repaid by the borrower in full prior to
the loan's maturity.
DEPOSITS
The Company operates six retail banking locations, a decrease from the
twenty-one offices operated by the Company in mid-1993. Four of these branches
are located in the South Bay area of Los Angeles County. The Company's retail
branches average nearly $120.0 million in retail deposit accounts, which is
substantially higher than most local banking companies. The Company does not
operate a money desk or otherwise solicit brokered deposits.
The Company solicits deposits from the general public throughout its
service area. Generally, the Company competes for deposit funds with other
Southern California-based financial companies, including banks, savings
institutions and thrift and loans. These companies generally compete with one
another based upon price, convenience and service.
Because the Company does not have a critical mass of retail banking
facilities, and because its smaller size does not afford it the economies of
scale to advertise its basic products to the extent of its principal
competitors, the Company generally competes on price and, to a lesser extent, on
service and convenience. Historically, these limitations have been moderated by
the loyalty afforded by, and the resistance to change of, the Company's primary
customer constituency, individuals over 55 years of age.
COMPETITION
The Company experiences substantial competition both in attracting and
retaining deposits and in making loans. Its most direct competition for deposits
historically has come from other thrift institutions, commercial banks and
credit unions doing business in its market areas in Southern California. In
addition, as with all banking organizations, the Company has experienced
increasing competition from nonbanking sources. For example, the Company also
competes for funds with full service and discount broker-dealers and with other
investment alternatives, such as mutual funds and corporate and governmental
debt securities. The Company's competition for loans comes principally from
other thrift institutions, commercial banks, mortgage banking companies,
consumer finance companies, insurance companies and other institutional lenders.
A number of institutions with which the Company competes for deposits and loans
have significantly greater assets, capital and other resources than the Company.
In addition, many of the Company's competitors are not subject to the same
extensive federal regulations that govern savings and loan holding companies
such as the Company and federally-chartered and federally-insured savings
institutions such as the Bank. As a result, many of the Company's competitors
have advantages over the Company in conducting certain businesses and providing
certain services.
8
<PAGE> 10
FINANCING CRITERIA AND STANDARDS
PHILOSOPHY
As described in the preceding section, the Company provides financing
in a number of tightly-defined market segments, which are distinguished by
property type, borrower profile or loan size and transaction attributes. In all
instances, the Company extends credit in situations in which it expects to be
repaid from the liquidation of its collateral prior to the maturity of its loan,
or in which it reasonably expects that its loan can be refinanced with another
lender prior to the loan's maturity. The Company does not extend credit with the
expectation that borrowers will default on their obligations, resulting in a
restructuring of the loan or foreclosure of the Company's collateral. Because of
the types of credit extended by the Company, the terms of each loan are often
individually tailored to satisfy the Company's credit standards and the
borrower's financing needs. This means that the Company's loans may contain
provisions, such as prepaid interest for the term of the loan or a line of
credit facility, that fall outside the normal scope of mortgage financing
offered by the Company's competitors. In all instances, the Company places its
primary reliance upon the quantitative and qualitative attributes of the
collateral which will secure the Company's loan. In situations in which the
borrower's ability to service the Company's loan cannot be reliably measured, or
where the borrower's credit history is marred in the manner set forth above, the
Company adjusts downward the advance it will make, to the extent it decides to
extend credit at all.
LOAN LIMITS
As described under NEW BUSINESS GENERATION, the Company seeks to
originate relatively few, relatively high-dollar balance loans within each of
its lending businesses (with the exception of the Company's conventional home
financing group). Accordingly, the Company's internal "house limit," applicable
to individual transactions or to multiple loans with affiliated borrowers (as
defined in applicable federal regulations), is higher than for many other
regulated financial companies. As of December 31, 1996, the Company's "house
limit" was $6.0 million, or approximately 11% of the Bank's core capital and 14%
of the Company's stockholders' equity. Loans in excess of $0.5 million and up to
and including the house limit may be, and are, approved by the Chief Executive
Officer, without prefunding review and approval by the Board of Directors of the
Company or the Bank. Loan requests in excess of $6.0 million and up to the
Bank's legal lending limit ($9.6 million at December 31, 1996) require approval
of the Credit Committee of the Board of Directors prior to funding. A majority
of the Credit Committee consists of nonmanagement directors of the Company and
the Bank.
For the two years ended December 31, 1996, the Company originated 23
loans involving $139.6 million of loan commitments, with respect to which the
Company's legally binding loan commitment in connection with individual
transactions or involving multiple loans to affiliated borrowers exceeded $6
million. Through December 31, 1996, aggregate commitments of $11.2 million had
been extinguished through repayments by borrowers prior to the maturity of the
commitment, and aggregate commitments of $18.5 million had been sold to another
financial institution. At December 31, 1996, $93.1 million was outstanding
against these cumulative commitments, which amount is net of repayments, sales
and undisbursed funds. Subsequent to December 31, 1996, an additional $17.2
million of aggregate commitments were extinguished through repayments by
borrowers prior to the maturity of the commitment.
LENDING CRITERIA
The Company has adopted a detailed lending policy which governs all
aspects of the Company's lending operations, including loan administration, loan
approval authorities, loan underwriting criteria, general lending restrictions
and policies and portfolio management. Although the Company's financing
businesses generally do not lend themselves to detailed requirements, the
lending policy does establish broad parameters and criteria which assist
management in evaluating and structuring loans. For example, under the Company's
loan policy, the maximum ratio of the value of the security property to the loan
amount ("loan-to-value ratio") may not exceed 80% in the case of a construction
loan and 85% in the case of a permanent multi-family residential and commercial
real estate loan. The Company's lending policy also contains, among other
things, various loan concentration targets by type of loan, geographic location
of the security property, loan size and occupancy status.
For each loan that it funds, the Company requires, among other things,
a completed loan application, supporting financial information from the
borrower, legal and corollary agreements which support the vesting of title, a
title insurance policy, fire and extended liability coverage casualty insurance,
credit reports, contemporary loan documents and other required documents. Though
the Company may require flood insurance pursuant to
9
<PAGE> 11
federal regulations and state laws, the Company does not require earthquake
insurance coverage. The lack of earthquake insurance coverage derives from a
combination of competitive pressure (i.e., the Bank's competitors do not require
such coverage as a condition of extending credit), the cost of such coverage, if
it is even available, and management's assessment that its collateral base is
sufficiently diverse geographically as to substantially moderate the risk of a
material, adverse result should a major earthquake again hit a section of
Southern California. The collateral for the Bank's loan is appraised either by
an approved independent fee appraiser or by one of the Bank's staff appraisers.
All fee appraisals are reviewed by the Bank's Chief Appraiser.
The loans originated by the Company since 1994 have been almost
exclusively secured by a first lien priority on real estate. Commencing in 1997,
the Company expects to more actively seek financing opportunities, principally
involving the financing of income-producing properties, with respect to which
the Company would act as the primary or lead lender in acquiring and negotiating
the terms and conditions of the loan with the borrower, and would place a
portion of the loan with another financial institution while retaining a
separate subordinated lien priority (i.e., a second trust deed) or a
subordinated interest in the total loan ("mezzanine loans"). Generally,
management expects that mezzanine loans would be considered only in those
instances in which (1) the total loan request exceeds the Company's house
lending limit and (2) the loan request, absent size constraints, otherwise
satisfies the Company's objectives for credit quality and yield. The Company
expects that the volume of mezzanine loans would constitute less than 10% of
total loan volume during 1997 and 1998.
ESTATE FINANCING
As with its other principal financing businesses, the Company tailors
the terms and pricing of its Estate financings on a transaction-by-transaction
basis. Accordingly, the Company offers a variety of terms and conditions,
including fixed and adjustable-rate pricing, tied to various indices; payments
which are interest-only or payments which include the amortization of loan
principal; varying adjustment frequencies for adjustable-rate loans; varying
interest rate and payment floors and caps; and either on a partial or full
amortizing basis; and varying maturity and extension options. As described
elsewhere herein, the Company provides advances to borrowers which, on average,
have produced a loan-to-value ratio of approximately 50% for financings
completed to date. Though the Company will, as a matter of policy, advance up to
80% of the value of the Company's collateral, very few of the Company's
financings have involved advances for more than 70% of the value of the
Company's collateral. Management determines the value of the proposed collateral
by reference to current appraisals and by detailed property inspections by the
Company's senior management. The Company will provide financing for individual
transactions in an amount up to, but not in excess of, the Company's legal
lending limit for loans-to-one borrower.
MULTI-FAMILY AND COMMERCIAL FINANCING
Management underwrites the proposed collateral which will secure income
property financings by reference to the historical, current and projected
operation of the property. In evaluating income-producing properties, management
requires that borrowers provide, at a minimum, current rent rolls, recent
operating statements and pro forma operating statements. As appropriate, the
Company's lending personnel adjust reported results to accommodate lease
expirations (from non-residential properties), tenant turnover, necessary
capital improvements and other relevant factors. Generally, the adjusted
property cash flows are expected to produce a debt coverage ratio ("DCR") of not
less than 140% for non-residential properties and 120% for apartment buildings,
utilizing the fully-adjusted interest rate at funding to measure pro forma debt
service (i.e., the Company does not offer "teaser" or discount introductory
interest rates). Utilizing current market capitalization rates, the Company's
targeted DCR's generally produce loan-to-value ratios between 65% and 75%. As a
matter of policy, the Company will not advance more than 80% of the appraisal
value of its principal collateral. Where material capital improvements are
necessary to cure deferred maintenance on the property, the Company may, and
has, held back the necessary funds from the initial funding of the loan, which
amounts are payable to the borrower only after the agreed-upon work has been
completed. As circumstances warrant, the Company may include minimum thresholds
for maintenance of a DCR by the borrower and working capital reserves. The
Company will provide financing for individual transactions in an amount up to,
but not in excess of, the Bank's legal lending limit for loans-to-one borrower.
10
<PAGE> 12
CONSTRUCTION FINANCING
For tract development financings, management underwrites each proposed
development by reference to the borrower's quantified plan, including costs to
and at completion by line item, and sales and marketing projections, and by
utilizing, where appropriate, third party sources to validate the compatibility
of the proposed development and product to be built within the immediate
marketplace. The Company also reviews the borrower's previous experience with
construction projects in general, and with the particular product type being
proposed. The Company maintains an internal staff of professionals experienced
in residential and non-residential development in Southern California. In
addition to underwriting proposed developments, these individuals manage the
Company's post-origination disbursement and inspection process, which is
uniformly based upon validated voucher submissions from builders. Generally, the
Company will advance between 75% and 90% of the cost of the proposed development
(land basis plus development costs), with the borrower being required to provide
the remaining funds. Depending upon the particular transaction, this range of
advance generally translates into loan-to-value ratios of between 65% to 80%.
The Company will provide financing for individual transactions in an amount up
to, but not in excess of, the Bank's legal lending limit for loans-to-one
borrower.
For individual home construction, management underwrites each proposed
transaction in a manner similar to that employed in the underwriting of tract
developments. Because the Company has, to date, concentrated its individual home
construction activities within its immediate local market in the South Bay area
of Los Angeles County, management believes that it generally possesses the
market knowledge necessary to evaluate each proposal. Post-origination
disbursements and inspections are managed in the same fashion as for all of the
Company's tract financing activities. Because these transactions solely involve
the construction of individual homes, the Company's loans-to-one borrower limit
is not a constraint. As with tract financing, the Company will provide between
75% to 90% of the construction funds, which generally translates into
loan-to-value ratios of between 65% to 80%.
PORTFOLIO MANAGEMENT
Within each of its principal lending groups, the Company employs one or
more professionals whose responsibilities include (1) performing periodic
reviews of individual loans subsequent to their funding, including assessing the
borrower's compliance with applicable loan covenants, the current condition and
approximate valuation of the Company's collateral, the borrower's recent
performance, and changes (if any) to the ownership of the Company's collateral,
(2) assessing, via generally available data from independent sources, market
trends affecting the Company's loan collateral, including transaction volumes
and pricing, and (3) pursuing and negotiating loan restructurings, which to
date have generally been limited to loans made prior to 1995.
As described more fully elsewhere herein (see CLASSIFIED ASSETS), the
Company has an established asset review process and asset classification system.
This process is administered by the Company's Finance group, and utilizes
information acquired and accumulated by portfolio managers and others in
establishing loan-specific and portfolio reserves and in classifying individual
assets and groups of similar assets. The results of classifications, and the
appropriateness of valuation allowances, are reported to the Company's Audit
Committee. Through December 31, 1996, the Company had completed one or more
individual asset reviews covering virtually all of its loans, except for loans
secured by single family homes originated prior to 1995, with respect to which
individual loan reviews had been performed on approximately 60% of the related
principal balance.
REGULATION
GENERAL
The Company is registered with the OTS as a savings and loan holding
company and is subject to regulation and examination as such by the OTS. The
Company is a member of the FHLB and its deposits are insured by the FDIC. The
Company is subject to examination and regulation by the OTS under the Home
Owners' Loan Act ("HOLA") and the FDIC under the Federal Deposit Insurance Act
("FDIA") with respect to most of its business activities, including, among
others, lending activities, capital standards, general investment authority,
deposit-taking and borrowing authority, mergers and other business combinations,
establishment of branch offices, and permitted subsidiary investment and
activities. The effect of the statutes, regulations and other pronouncements and
policies which govern the operations and activities of the Company and the Bank
can be significant, cannot be predicted with a high degree of certainty and can
change over time. Moreover, such statutes, regulations and other
11
<PAGE> 13
pronouncements and policies are intended to protect depositors and the insurance
funds administered by the FDIC, and not stockholders or holders of indebtedness
which is not insured by the FDIC.
The following sections should be read in conjunction with MANAGEMENT'S
DISCUSSION and NOTES L, M, and N of the NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS. The description of the statutes and regulations applicable to the
Company and the Bank set forth below and elsewhere herein do not purport to be
complete descriptions of such statutes and regulations and their effects on the
Company and the Bank. Such descriptions also do not purport to identify every
statute and regulation that may apply to the Company or the Bank.
SAVINGS AND LOAN HOLDING COMPANY REGULATION
General. The Company is registered as a savings and loan holding
company under the HOLA and is subject to OTS regulation, examination,
supervision and reporting requirements.
Activities Restrictions. There are generally no restrictions on the
activities of a savings and loan holding company which holds only one subsidiary
savings institution. However, if the savings institution subsidiary of such a
holding company fails to meet a qualified thrift lender ("QTL") test, then such
unitary holding company also shall become subject to the activities restrictions
applicable to multiple savings and loan holding companies and, unless the
savings institution requalifies as a QTL within one year thereafter, shall
register as, and become subject to the restrictions applicable to, a bank
holding company. See SAVINGS INSTITUTION REGULATION Qualified Thrift Lender
Test.
If the Company were to acquire control of another savings institution,
other than through merger or other business combination with the Bank, the
Company would thereupon become a multiple savings and loan holding company.
Except where such acquisition is pursuant to the authority to approve emergency
thrift acquisitions and where each subsidiary savings institution meets the QTL
test, the activities of the Company and any of its subsidiaries (other than the
Bank or other subsidiary savings institutions) would thereafter be subject to
further restrictions. Among other things, no multiple savings and loan holding
company or subsidiary thereof which is not a savings institution shall commence
or continue for a limited period of time after becoming a multiple savings and
loan holding company or subsidiary thereof any business activity, upon prior
notice to, and no objection by the OTS, other than: (i) furnishing or performing
management services for a subsidiary savings institution; (ii) conducting an
insurance agency or escrow business; (iii) holding, managing, or liquidating
assets owned by or acquired from a subsidiary savings institution; (iv) holding
or managing properties used or occupied by a subsidiary savings institution; (v)
acting as trustee under deeds of trust; (vi) those activities authorized by
regulation as of March 5, 1987 to be engaged in by multiple savings and loan
holding companies; or (vii) unless the Director of the OTS by regulation
prohibits or limits such activities for savings and loan holding companies,
those activities authorized by the Federal Reserve Board as permissible for bank
holding companies. Those activities described in (vii) above also must be
approved by the Director of the OTS prior to being engaged in by a multiple
savings and loan holding company.
Restrictions on Acquisitions. Except under limited circumstances,
savings and loan holding companies are prohibited from acquiring, without prior
approval of the Director of the OTS, (i) control of any other savings
institution or savings and loan holding company or substantially all the assets
thereof or (ii) more than 5% of the voting shares of a savings institution or
holding company thereof which is not a subsidiary. Except with the prior
approval of the Director of the OTS, no director or officer of a savings and
loan holding company or person owning or controlling by proxy or otherwise more
than 25% of such company's stock, may acquire control of any savings
institution, other than a subsidiary savings institution, or of any other
savings and loan holding company.
Federal Securities Laws. The Company's common stock is registered with
the Securities and Exchange Commission under Section 12(g) of the Securities
Exchange Act of 1934, as amended ("Exchange Act"). The Company is subject to the
information, proxy solicitation, insider trading restrictions and other
requirements of the Exchange Act.
SAVINGS INSTITUTION REGULATION
Qualified Thrift Lender Test. Any savings institution that does not
meet a QTL test set forth in the HOLA and complementary regulations must either
convert to a national bank charter or be subject to restrictions specified in
the OTS regulations. Any such savings institution that does not become a bank
will be: (i) prohibited from making any new investment or engaging in activities
that would not be permissible for national banks; (ii) prohibited from
establishing any new branch office in a location that would not be permissible
for a national bank in
12
<PAGE> 14
the institution's home state; (iii) ineligible to obtain new advances from any
FHLB; and (iv) subject to limitations on the payment of dividends comparable to
the statutory and regulatory dividend restrictions applicable to national banks.
Also, beginning three years after the date on which the savings institution
ceases to be a QTL, the savings institution would be prohibited from retaining
any investment or engaging in any activity not permissible for a national bank
and would be required to repay any outstanding advances to any FHLB. A savings
institution may requalify as a QTL if it thereafter complies with the QTL test.
Under recent legislation and applicable regulations, any savings
institution is a QTL if (i) it qualifies as a domestic building and loan
association under Section 7701(a)(19) of the Internal Revenue Code of 1986, as
amended ("Code") (which generally requires that at least 60% of the
institution's assets constitute housing-related and other qualifying assets), or
(ii) at least 65% of the institution's "portfolio assets" (as defined) consist
of certain housing and consumer-related assets on a monthly average basis in at
least nine out of every 12 months. At December 31, 1996, the Company was in
compliance with the QTL test.
Enforcement and Termination of Deposit Insurance. The OTS' enforcement
authority over savings institutions and their holding companies includes, among
other things, the ability to assess civil money penalties, to issue cease and
desist orders, to initiate removal and prohibition orders against officers,
directors, and certain other persons, and to appoint a conservator or receiver
for savings institutions under appropriate circumstances. In general, these
enforcement actions may be initiated for violations of laws and regulations,
violations of cease and desist orders and "unsafe or unsound" conditions or
practices, which are not limited to cases of inadequate capital.
The FDIC has authority to recommend that the OTS take any authorized
enforcement action with respect to any federally insured savings institution. If
the OTS does not take the recommended action or provide an acceptable plan for
addressing the FDIC's concerns within 60 days after the receipt of the
recommendation from the FDIC, the FDIC may take such action if the FDIC Board of
Directors determines that the institution is in an unsafe or unsound condition
or that failure to take such action will result in the continuation of unsafe or
unsound practices in conducting the business of the institution. The FDIC may
also take action prior to the expiration of the 60-day time period in exigent
circumstances after notifying the OTS.
The FDIC may terminate the deposit insurance of any insured depository
if the FDIC determines, after a hearing, that the institution has engaged or is
engaging in unsafe or unsound practices which, as with the OTS' enforcement
authority, are not limited to cases of capital inadequacy, is in an unsafe or
unsound condition to continue operations or has violated any applicable law,
regulation or order or any condition imposed in writing by the FDIC. In
addition, FDIC regulations provide that any insured institution that falls below
a 2% minimum leverage ratio (see below) will be subject to FDIC deposit
insurance termination proceedings unless it has submitted, and is in compliance
with, a capital plan with its primary federal regulator and the FDIC. The FDIC
may also suspend deposit insurance temporarily during the hearing process if the
institution has no tangible capital. The FDIC is additionally authorized by
statute to appoint itself as conservator or receiver of an insured institution
(in addition to the powers of the institution's primary federal regulatory
authority) in cases, among others and upon compliance with certain procedures,
of unsafe or unsound conditions or practices or willful violations of cease and
desist orders.
Transactions with Affiliates. Under federal law, all transactions
between and among a savings association and its affiliates, which include
holding companies, are subject to Sections 23A and 23B of the Federal Reserve
Act. Generally, these requirements limit these transactions to a percentage of
the savings association's capital and require all of them to be on terms at
least as favorable to the association as transactions with non-affiliates. In
addition, a savings association may not lend to any affiliate engaged in
non-banking activities not permissible for a bank holding company or acquire
shares of any affiliate not a subsidiary. The OTS is authorized to impose
additional restrictions on transactions with affiliates if necessary to protect
the safety and soundness of a savings association. The OTS regulations also set
forth various reporting requirements relating to transactions with affiliates.
Extensions of credit by a savings association to executive officers,
directors and principal shareholders are subject to Section 22(h) of the Federal
Reserve Act, which, among other things, generally prohibits loans to any such
individual where the aggregate amount exceeds an amount equal to 15% of an
institution's unimpaired capital and surplus, plus an additional 10% of
unimpaired capital and surplus in the case of loans that are fully secured by
readily marketable collateral.
13
<PAGE> 15
FHLB System. As a member of the FHLB system, the Bank is required to
own capital stock in its regional FHLB, the FHLB of San Francisco, in a minimum
amount determined at the end of each year based on the greater of (i) 1.00% of
the aggregate principal amount of its unpaid residential mortgage loans, home
purchase contracts and similar obligations, (ii) 5.00% of its outstanding
borrowings from the FHLB of San Francisco, or (iii) 0.3% of its total assets.
The Company was in compliance with this requirement, with an investment of $6.8
million in FHLB stock, at December 31, 1996. The FHLB of San Francisco serves as
a reserve or central bank for the member institutions within its assigned
region, the Eleventh FHLB District. It makes advances to members in accordance
with policies and procedures established by the Federal Housing Finance Board
and the Board of Directors of the FHLB of San Francisco.
Federal Reserve System. The Federal Reserve Board requires all
depository institutions to maintain reserves against their transaction accounts
(primarily NOW and Super NOW checking accounts) and non-personal time deposits.
At December 31, 1996, the Company was in compliance with its reserve
requirements.
Deposit Insurance. The FDIC administers two separate deposit insurance
funds. The Bank Insurance Fund ("BIF") generally insures the deposits of
commercial banks, and the Savings Association Insurance Fund ("SAIF") generally
insures the deposits of savings institutions.
Under FDIC regulations, institutions are assigned to one of three
capital groups for insurance premium purposes - "well capitalized," "adequately
capitalized" and "undercapitalized" - which are defined in the same manner as
the regulations establishing the prompt corrective action system under Section
38 of the FDIA, as discussed under Prompt Corrective Action Rules below. These
three groups are then divided into subgroups which are based on supervisory
evaluations by the institution's primary federal regulator, resulting in nine
assessment classifications. Effective January 1, 1997, assessment rates for
SAIF-insured institutions range from 0% of insured deposits for well-capitalized
institutions with minor supervisory concerns to .27% of insured deposits for
undercapitalized institutions with substantial supervisory concerns. In
addition, an additional assessment of 6.4 basis points and 1.3 basis points will
be added to the regular SAIF-assessment and to the regular BIF-assessment,
respectively, until December 31, 1999 in order to cover Financing Corporation
debt service payments.
Both the SAIF and the BIF are required by law to attain and thereafter
maintain a reserve ratio of 1.25% of insured deposits. The BIF has achieved the
required reserve ratio, and as a result, the FDIC reduced the average deposit
insurance premium paid by BIF-insured banks to a level substantially below the
average premium previously paid by savings institutions. Banking legislation was
enacted September 30, 1996 to eliminate the premium differential between
SAIF-insured institutions and BIF-insured institutions. The legislation provided
that all insured depository institutions with SAIF-assessable deposits as of
March 31, 1995 pay a special one-time assessment to recapitalize the SAIF.
Pursuant to this legislation, the FDIC promulgated a rule that established the
special assessment necessary to recapitalize the SAIF at 65.7 basis points of
SAIF-assessable deposits held by affected institutions as of March 31, 1995.
Based upon its level of SAIF deposits as of March 31, 1995, the Company paid a
special assessment of $3.8 million. The assessment was accrued in the quarter
ended September 30, 1996.
Another component of the SAIF recapitalization plan provides for the
merger of the SAIF and the BIF on January 1, 1999, provided that no insured
depository institution is a savings association on that date. If legislation is
enacted which requires the Bank to convert to a bank charter, the Company would
become a bank holding company subject to the more restrictive activity limits
imposed on bank holding companies unless special grandfather provisions are
included in such legislation. The Company does not believe that its activities
would be materially affected in the event that it was required to become a bank
holding company.
Liquidity. Federal regulations currently require a savings institution
to maintain a monthly average daily balance of liquid assets (including cash,
certain time deposits, bankers' acceptances and specified United States
Government, state or federal agency obligations) equal to at least 5.00% of the
average daily balance of its net withdrawable accounts and short-term borrowings
during the preceding calendar month. This liquidity requirement may be changed
from time to time by the OTS to any amount within the range of 4.00% to 10.00%
of such accounts and borrowings depending upon economic conditions and the
deposit flows of member institutions. Federal regulations also require each
member institution to maintain a monthly average daily balance of short-term
liquid assets (generally those having maturities of 12 months or less) equal to
at least 1.00% of the average daily balance of its net withdrawable accounts and
short-term borrowings during the preceding calendar month. Monetary penalties
may be imposed for failure to meet these liquidity ratio requirements. The
Company's liquidity and short-term liquidity ratios for the calculation period
ended December 31, 1996, were 11.05% and 6.49%, respectively, which exceeded the
applicable requirements.
14
<PAGE> 16
Community Reinvestment Act. Under the Community Reinvestment Act
("CRA") a savings institution has a continuing and affirmative obligation
consistent with its safe and sound operation to help meet the credit needs of
its entire community, including low and moderate income neighborhoods. The CRA
also requires the OTS to assess an institution's performance in meeting the
credit needs of its delineated communities, as part of its examination of the
institution, and to take such assessments into consideration in reviewing
applications with respect to branches, mergers and other business combinations,
and savings and loan holding company acquisitions. An unsatisfactory CRA rating
may be the basis for denying such an application and community groups have
successfully protested applications on CRA grounds. The OTS assigns CRA ratings
of "outstanding", "satisfactory", "needs to improve" or "substantial
noncompliance". The Bank was rated "satisfactory" in April 1996.
Regulatory Capital Requirements. HOLA and the capital regulations of
the OTS promulgated thereunder ("Capital Regulations") impose three capital
requirements on savings institutions, including a "core capital requirement", a
"tangible capital requirement" and a "risk-based capital requirement".
Under the core capital requirement, a savings institution must maintain
"core capital" of not less than 3.0% of adjusted total assets. "Core Capital"
generally includes common stockholders' equity, noncumulative perpetual
preferred stock, including any related surplus, and minority interests in the
equity accounts of fully consolidated subsidiaries. The amount of an
institution's core capital is, in general, calculated in accordance with
generally accepted accounting principles ("GAAP"), but with certain exceptions.
Among other exceptions, adjustments to an institution's GAAP equity accounts
that are required pursuant to FASB 115 to reflect changes in market value of
certain securities held by the institution that are categorized as
"available-for-sale" are not to be included in the calculation of core capital
for regulatory capital purposes. Intangible assets (not including purchased
mortgage servicing rights, certain mortgage servicing rights with respect to
originated loans and purchased credit card relationships) must be deducted from
core capital. With certain exceptions, equity investments, including equity
investments in real estate, and that portion of land loans and nonresidential
construction loans in excess of an 80% loan-to-value ratio, must also be
deducted from capital. Core capital may include purchased mortgage servicing
rights, certain mortgage servicing rights with respect to originated loans and
purchased credit card relationships, subject to certain limitations.
Under the tangible capital requirements a savings institution must
maintain "tangible capital" in an amount not less than 1.5% of adjusted total
assets. "Tangible capital" means core capital less any intangible assets
(including supervisory goodwill), plus purchased mortgage servicing rights, and
certain mortgage servicing rights with respect to originated loans, subject to
certain limitations.
Under the risk-based capital requirement, a savings institution must
maintain "total capital" equal to 8.0% of risk-weighted assets. "Total capital"
consists of core capital and supplementary capital. Supplementary capital
includes, among other things, certain types of preferred stock and subordinated
debt and, subject to certain limitations, loans and lease general reserves up to
1.25% of risk-weighted assets. At December 31, 1996, $6.8 million of the Bank's
general reserves was included in supplementary capital. A savings institution's
supplementary capital may be used to satisfy the risk-based capital requirements
only to the extent of that institution's core capital. Risk-weighted assets are
the assets of the institution (including certain off-balance sheet items,
including letters of credit, and loans or other assets sold with subordination
or recourse arrangements) adjusted to reflect the degree of credit risk deemed
to be associated with such assets, ranging from 0% for low-risk assets such as
U. S. Treasury securities and GNMA securities to 100% for various types of loans
and other assets deemed to be higher risk. Single family mortgage loans having
loan-to-value ratios not exceeding 80% and meeting certain additional criteria,
as well as certain multi-family residential property loans, qualify for a 50%
risk-weighted treatment.
The risk-based capital rules of the OTS, FDIC and other federal banking
agencies provide that an institution must hold capital in excess of regulatory
minimums to the extent that examiners find either (1) significant exposure to
concentration of credit risk such as risks from higher interest rates,
prepayments, significant off-balance sheet items (especially standby letters of
credit) or risks arising from nontraditional activities or (2) that the
institution is not adequately managing these risks. For this purpose, however,
the agencies have stated that, in view of the statutory requirements relating to
permitted lending and investment activities of savings institutions, the general
concentration by such institutions in real estate lending activities would not,
by itself, be deemed to constitute an exposure to concentration of credit risk
that would require greater capital levels.
The following table summarizes the regulatory capital requirements under
HOLA for the Bank at December 31, 1996. As indicated in the table, the Bank's
capital levels exceed all three of the currently applicable minimum HOLA capital
requirements (dollars are in thousands).
15
<PAGE> 17
<TABLE>
<CAPTION>
TANGIBLE CAPITAL (2) CORE CAPITAL (2) RISK-BASED CAPITAL
---------------------- ---------------------- -----------------------
BALANCE % Balance % BALANCE %
--------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Stockholders' equity $ 53,490 $ 53,490 $ 53,490
Adjustments
General valuation
allowances 6,757
Unrealized losses 113 113 113
Disallowed deferred tax asset (800) (800) (800)
--------- --------- --------- --------- --------- ---------
Regulatory capital 52,803 6.27% 52,803 6.27% 59,560 11.11%
Required minimum 12,634 1.50 25,267 3.00 42,879 8.00
--------- --------- --------- --------- --------- ---------
Excess capital $ 40,169 4.77% $ 27,536 3.27% $ 16,681 3.11%
========= ========= ========= ========= ========= =========
Adjusted assets(1) $ 842,122 $ 842,122 $ 535,986
========= ========= =========
</TABLE>
- ------------------
(1) The term "adjusted assets" refers to the term "adjusted total
assets" as defined in 12 C.F.R. Section 567.1 (a) for purposes
of tangible and core capital requirements, and for purposes of
the risk-based capital requirements, refers to the term
"risk-weighted assets" as defined in 12 C.F.R. Section
567.5(d).
(2) The tangible and core capital ratios were 5.8% at December 31,
1995.
In August 1993, the OTS adopted a final rule incorporating an
interest-rate risk component into the risk-based capital regulation. Under the
rule, an institution with a greater than "normal" level of interest rate risk is
subject to a deduction of its interest rate risk component from total capital
for purposes of calculating its risk-based capital. As a result, such an
institution is required to maintain additional capital in order to comply with
the risk-based capital requirement. The final rule was originally to be
effective as of January 1, 1994; however, its effectiveness has been delayed
several times. In August 1995, the OTS issued Thrift Bulletin No. 67, which
allows eligible institutions to request adjustment to their interest rate risk
component as calculated by the OTS, or to request to use their own models to
calculate their interest rate component. The OTS also indicated that it will
continue to delay the effectiveness of its interest rate risk rule requiring
institutions with above normal interest rate risk exposure to adjust their
regulatory capital requirement until new procedures are implemented and
evaluated.
Prompt Corrective Action Rules. Under federal law, each federal banking
agency has implemented a system of prompt corrective action for institutions
which it regulates. Under OTS regulations ("PCA Rules"), an institution shall be
deemed to be (i) "well-capitalized" if it has total risk-based capital of 10.0%
or more, has a Tier 1 risk-based capital ratio of 6.0% or more, has a Tier 1
leverage capital ratio of 5.0% or more and is not subject to any order or final
capital directive to meet and maintain a specific capital level for any capital
measure; (ii) "adequately capitalized" if it has a total risk-based capital
ratio of 8.0% or more, a Tier 1 risk-based capital ratio of 4.0% or more and a
Tier 1 leverage capital ratio of 4.0% or more (3.0% under certain circumstances)
and does not meet the definition of "well capitalized," (iii) "undercapitalized"
if it has a total risk-based capital ratio that is less than 8.0%, a Tier 1
risk-based capital ratio that is less than 4.0% or a Tier 1 leverage capital
ratio that is less than 4.0% (3.0% under certain circumstances), (iv)
"significantly undercapitalized" if it has a total risk-based capital ratio that
is less than 6.0%, a Tier 1 risk-based capital ratio that is less than 3.0% or a
Tier 1 leverage capital ratio that is less than 3.0%, and (v) "critically
undercapitalized" if it has a ratio of tangible equity to total assets that is
equal to or less than 2.0%. Federal law authorizes the OTS to reclassify a well
capitalized institution as adequately capitalized and may require an adequately
capitalized institution or an undercapitalized institution to comply with
supervisory actions as if it were in the next lower category (except that the
OTS may not reclassify a significantly undercapitalized institution as
critically undercapitalized).
As of December 31, 1996 and 1995, the most recent notification from the
OTS categorized the Company as well capitalized under the regulatory framework
for prompt corrective action. There are no conditions or events since that
notification that management believes have changed the institution's category.
The Bank's actual capital amounts and ratios and the capital amounts and ratios
required in order for an institution to be well capitalized and adequately
capitalized are presented in the table below.
16
<PAGE> 18
<TABLE>
<CAPTION>
TO BE CATEGORIZED AS TO BE CATEGORIZED AS
ADEQUATELY CAPITALIZED WELL CAPITALIZED
UNDER PROMPT CORRECTIVE UNDER PROMPT CORRECTIVE
ACTUAL ACTION PROVISIONS ACTION PROVISIONS
---------------------- ----------------------- ----------------------
AMOUNT Ratios Amount Ratios Amount Ratios
------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C>
AS OF DECEMBER 31, 1996
Total Capital
(to Risk Weighted Assets) $59,560 11.11% $42,879 8.00% $53,599 10.00%
Tier 1 Capital
(to Risk Weighted Assets) 52,803 9.85% 21,439 4.00% 32,159 6.00%
Tier 1 Capital
(to Average Assets) 52,803 6.55% 32,269 4.00% 40,336 5.00%
AS OF DECEMBER 31, 1995
Total Capital
(to Risk Weighted Assets) $49,448 10.27% $38,508 8.00% $48,135 10.00%
Tier 1 Capital
(to Risk Weighted Assets) 43,360 9.01% 19,254 4.00% 28,881 6.00%
Tier 1 Capital
(to Average Assets) 43,360 5.96% 29,079 4.00% 36,349 5.00%
</TABLE>
Under the PCA Rules, an institution that is deemed to be
undercapitalized must submit a capital restoration plan and is subject to
mandatory restrictions on capital distributions (including cash dividends) and
management fees, increased supervisory monitoring by the OTS, growth
restrictions, restrictions on certain expansion proposals and capital
restoration plan submission requirements. If an institution is deemed to be
significantly undercapitalized, all of the foregoing mandatory restrictions
apply, as well as a restriction on compensation paid to senior executive
officers. Furthermore, the OTS must take one or more of the following actions:
(i) require the institution to sell shares (including voting shares) or
obligations; (ii) require the institution to be acquired or merge (if one or
more grounds for the appointment of a conservator or receiver exists); (iii)
implement various restrictions on transactions with affiliates; (iv) restrict
interest rates on deposits; (v) impose further asset growth restrictions or
asset reductions; (vi) require the institution or subsidiary to alter, reduce,
or terminate activities considered risky; (vii) order a new election of
directors; (viii) dismiss directors and/or officers who have held office more
than 180 days before the institution became undercapitalized; (ix) require the
hiring of qualified executives; (x) prohibit correspondent bank deposits; (xi)
require the institution to divest or liquidate a subsidiary in danger of
insolvency or a controlling company to divest any affiliate that poses a
significant risk, or is likely to cause a significant dissipation of assets or
earnings; (xii) require a controlling company to divest the institution if it
improves the institution's financial prospects; or (xiii) require any other
action the OTS determines fulfills the purposes of the PCA Rules.
The OTS may also impose on significantly undercapitalized institutions
one or more of the mandatory restrictions applicable to critically
undercapitalized institutions. The restrictions require prior regulatory
approval for any material transaction, to extend credit on a highly leveraged
transaction, to adopt charter or bylaws amendments, to make material accounting
changes, to engage in covered transactions with affiliates, to pay excessive
compensation, or to pay higher interest on new or renewing liabilities. A
critically undercapitalized institution may not, beginning 60 days after
becoming critically undercapitalized, make any principal or interest payments on
subordinated debt not outstanding on July 15, 1991. The OTS is required, not
later than 90 days after a savings institution becomes critically
undercapitalized to either (i) appoint a conservator or receiver or (ii) take
such other actions it determines would better achieve the purpose of the PCA
Rules. In any event, the OTS is required to appoint a receiver within 270 days
after the institution becomes critically undercapitalized unless (i) with the
concurrence of the FDIC, the OTS determines the institution has a positive net
worth, has been in substantial compliance with an approved capital restoration
plan, is profitable or has an upward trend in earnings which the OTS finds is
substantial, and is reducing the ratio of nonperforming loans to total loans and
(ii) the Director of the OTS and the Chairman of the FDIC both certify that the
institution is viable and not expected to fail.
Dividends and Other Capital Distributions. OTS regulations impose
limitations on "capital distributions" by savings institutions. Distributions
are defined to include, among other things, cash dividends and payments for the
repurchase or retirement of shares. The OTS retains the authority to prohibit
any capital distribution otherwise authorized under the regulation if the OTS
determines that the capital distribution would constitute an unsafe or unsound
practice. The regulation also states that the capital distribution limitations
apply to direct and indirect distributions to affiliates, including those
occurring in connection with corporation reorganizations.
17
<PAGE> 19
A savings institution that meets its capital requirements may make
capital distributions without prior OTS approval during a calendar year of up to
the greater of (i) 100% of its net income during the calendar year, plus the
amount that would reduce by not more than one-half its "surplus capital ratio"
at the beginning of the calendar year (the amount by which the institution's
actual capital exceeded its fully phased-in capital requirements at that date)
or (ii) 75% of its net income over the most recent four-quarter period. An
institution that does not meet its minimum regulatory capital requirements
immediately prior to or on a pro forma basis after giving effect to a proposed
capital distribution is not authorized to make any capital distributions unless
it received prior written approval from the OTS or the distributions are in
accordance with the express terms of an approved capital plan.
Savings institutions generally are required to provide 30 days' advance
notice of any proposed dividend. Any dividend declared within the notice period,
or without giving the prescribed notice, is invalid.
On December 5, 1994, the OTS published a notice of proposed rulemaking
to amend its capital distribution regulation. Under the proposal, savings
institutions would be permitted to only make capital distributions that would
not result in their capital being reduced below the level required to remain
"adequately capitalized" as defined in the PCA Rules. The Bank would continue to
be required to provide notice to the OTS of its intent to make a capital
distribution.
Loans to One Borrower Limitation. With certain limited exceptions, the
maximum amount that a savings institution may lend to one borrower (including
certain entities related to such borrower) is an amount equal to 15% of the
institution's unimpaired capital and unimpaired surplus, plus an additional 10%
for loans fully secured by readily marketable collateral. Real estate is not
included within the definition of readily marketable collateral for this
purpose. Pursuant to the current regulation, the maximum amount which the Bank
could have loaned to any one borrower (and related entities) under the general
OTS loans to one borrower limit was $9.6 million as of December 31, 1996.
Other Lending Standards. The OTS and the other federal banking agencies
have jointly adopted uniform rules on real estate lending and related
Interagency Guidelines for Real Estate Lending Policies. The uniform rules
require that institutions adopt and maintain comprehensive written policies for
real estate lending. The policies must reflect consideration of the Interagency
Guidelines and must address relevant lending procedures, such as loan-to-value
limitations, loan administration procedures, portfolio diversification standards
and documentation, approval and reporting requirements. Although the final rule
did not impose specific maximum loan-to-value ratios, the related Interagency
Guidelines state that such ratio limits established by individual institutions'
board of directors should not exceed levels set forth in the Guidelines, which
range from a maximum of 65% for loans secured by raw land to 85% for improved
property. No limit is set for single family residence loans, but the Guidelines
state that such loans exceeding a 95% loan-to-value ratio should have private
mortgage insurance or some other form of credit enhancement. The Guidelines
further permit a limited amount of loans that do not conform to these criteria.
TAXATION
FEDERAL
The Company and the Bank currently file, and expect to continue to file,
a consolidated federal income tax return based on a fiscal year ended September
30. Consolidated returns have the effect of eliminating inter-company
transactions, including dividends, from the computation of taxable income.
For taxable years beginning prior to January 1, 1996, a savings
institution such as the Company that met certain definitional tests relating to
the composition of its assets and the sources of its income (a "qualifying
savings institution") was permitted to establish reserves for bad debts and to
claim annual tax deductions for additions to such reserves. A qualifying savings
institution was permitted to make annual additions to such reserves based on the
institution's loss experience under the "experience method". Alternatively, a
qualifying savings institution could elect, on an annual basis, to use the
"percentage of taxable income" method to compute its addition to its bad debt
reserve on qualifying real property loans (generally, loans secured by an
interest in improved real estate). The percentage of taxable income method
permitted the institution to deduct a specified percentage (8%) of its taxable
income before such deduction, regardless of the institution's actual bad debt
experience, subject to certain limitations. In fiscal 1996, 1995 and 1994, the
Company utilized the experience method because that method produced a greater
deduction than the percentage method.
18
<PAGE> 20
On August 20, 1996, President Clinton signed the Small Business Job
Protection Act (the "Act") into law. One provision of the Act repealed the
reserve method of accounting for bad debts for savings institutions effective
for taxable years beginning after 1995 and provided for recapture of a portion
of the reserves existing at the close of the last taxable year beginning before
January 1, 1996. For its tax years beginning on or after January 1, 1996, a
savings institution will be required to account for its bad debts under the
specific charge-off method. Under this method, deductions may be claimed only as
and to the extent that loans become wholly or partially worthless. A savings
institution will be required to recapture its "applicable excess reserves,"
which are its federal tax bad debt reserves in excess of the base year reserve
amount, which are generally the balance of reserves as of December 31, 1987. The
Company does not have applicable excess reserves and thus will not be subject to
the recapture provisions. The base year reserves will continue to be subject to
recapture if: (1) the Company fails to qualify as a "bank" for federal income
tax purposes, (2) certain distributions are made with respect to the stock of
the Company, (3) the bad debt reserves are used for any purpose other than to
absorb bad debt losses or (4) there is a change in federal tax law. The
enactment of this legislation is expected to have no material impact on the
Company's operations or financial position.
In accordance with Statement of Financial Accounting Standards No. 109,
"Accounting for Income Taxes," a deferred tax liability has not been recognized
for the tax bad debt base year reserves of the Company. At December 31, 1996,
the amount of those reserves was approximately $25.5 million. This reserve could
be recognized in the future under the conditions described in the preceding
paragraph.
Corporations, including qualifying savings institutions, are subject to
an alternative minimum tax in addition to the regular corporate income tax. This
20% tax is computed based on the Company's taxable income (with certain
adjustments), as increased by its tax preference items and applies only if this
tax is larger than its regular tax. The adjustments include an addition to
taxable income of an amount equal to 75% of the excess of the Company's
"adjusted current earnings" over its regular taxable income. The tax preference
items common to savings institutions include the excess, if any, of its annual
tax bad debt deduction over the deduction that would have been available under
the experience method. The Company did not incur a minimum tax liability in 1996
(as computed for federal income tax purposes).
For additional information regarding taxation, see NOTE I of the NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS.
STATE
The California franchise tax applicable to the Company is a
variable-rate tax. This rate is computed under a formula that results in a rate
higher than the rate applicable to nonfinancial corporations because it includes
an amount "in lieu" of local personal property and business license taxes paid
by such corporations (but not paid by banks or financial institutions such as
the Company). For the taxable years 1995 and 1996, the maximum rate was set at
approximately 11%. Under California regulations, financial corporations are
permitted to claim bad debt deductions using a reserve method, with the reserve
level being determined by past experience or current facts and circumstances.
19
<PAGE> 21
ITEM 2. PROPERTIES.
As of December 31, 1996, the Company had seven leased facilities and
owned the land and improvements of two branch offices. The leased facilities
included its corporate headquarters, four branch offices (with respect to which
the Company leased only the land), a loan production office and a warehouse. All
of the properties owned or leased by the Company are in Southern California.
The principal terms and the net book values of leasehold improvements
relating to premises leased by the Company are detailed below. None of the
leases contain any unusual terms and all are "net" or "triple net" leases.
<TABLE>
<CAPTION>
Expiration Renewals Monthly Square Net Book Value
Facility of Term Options Rental Feet of Leaseholds
- -------- ------- ------- ------ ---- -------------
<S> <C> <C> <C> <C> <C>
El Segundo Corporate 11/30/00 One 5-yr $40,092 42,202 $1,050,855
Torrance Branch 12/31/01 One 5-yr 16,529 7,343 227,646
Westlake Branch 03/31/00 None 11,828 7,600 28,696
Manhattan Beach Branch 10/31/10 Four 5-yr 4,590 4,590 55,808
Tarzana Branch 01/31/00 Five 5-yr 3,283 3,352 121,226
Warehouse 09/30/99 One 2-yr 2,916 6,480
Irvine Production Office 04/30/97 One 6 month 1,500
------- ----------
$80,738 $1,484,231
======= ==========
</TABLE>
At December 31, 1996, the net book values of the Company's office real
property and improvements owned, leasehold interests, and furniture, fixtures
and equipment were $0.8 million, $1.5 million and $2.4 million, respectively.
See NOTE F of the NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. The Company
believes that all of the above facilities are in good condition and are adequate
for the Company's present operations.
The Company remains obligated on the lease of a discontinued branch
until July 31, 2001. A lease obligation reserve of $0.5 million was established
with respect to this lease in September 1994.
In February 1996, the Company sold its Oceanside facility (land and
building) for $2.9 million. In December 1995, a valuation allowance of $0.8
million was established to reduce the Company's carrying value for this facility
to its fair market value.
In June 1996, the Company sold its Vista and Rancho Bernardo facilities
(land and building), with a carrying value of $1.5 million, for $1.8 million.
The Company's lease on its Irvine loan production office expires on
April 30, 1997. The Company intends to exercise its option to extend the lease
for six months.
20
<PAGE> 22
ITEM 3. LEGAL PROCEEDINGS.
On September 6, 1996, the Company and the Bank were named as defendants
in a class action lawsuit entitled Stanley D. Mosler and Eileen C. Mosler vs.
Hawthorne Savings and Loan Association, Hawthorne Financial Corporation, et.
al., filed in the Superior Court of the State of California as Case No. BC154729
(the "Action"). The plaintiffs had previously filed an individual action
alleging the same matters contained in the class action complaint. The
individual action is scheduled for trial in July 1997. Plaintiffs contend they
were entitled to a notice of availability of foreclosure counseling, which they
allege they did not receive, before the Bank foreclosed. Plaintiffs contend that
the alleged failure to provide counseling notices and the underbidding by the
Bank of the loan amount at foreclosure resulted in damages to the purported
class in an amount in excess of $40 million. The Company has been named and
alleged to have liability based upon its relationship as trustee on the Deed of
Trust securing the Bank's loans. The Company and the Bank filed responsive
pleadings to the Action alleging that the complaint is defective on its face and
that the plaintiffs are not proper representatives of the purported class. The
court granted the Company and Bank's motion and dismissed the plaintiffs' case.
The plaintiffs have appealed.
The Bank has been named as a defendant in an action entitled Takaki vs.
Hawthorne Savings and Loan Association, filed in the Superior Court of the State
of California, Los Angeles, as Case No. YC021815. The plaintiffs were owners of
real property which they sold in 1991 to a third party. The Bank provided escrow
services in connection with the transaction. A substantial portion of the
consideration paid to the plaintiffs took the form of a deed of trust secured by
another property then owned by an affiliate of the purchaser. The value of the
collateral securing this deed of trust ultimately proved to be inadequate. The
plaintiffs allege that the Bank knew, or should have known, that the security
for the plaintiffs' loan was inadequate and should have so advised them. The
Bank disputes the plaintiffs' allegations and believes that the law in
California is unambiguous that there is no duty which attaches to escrow
providers to advise the parties to an escrow. Trial is scheduled for April 1997.
The plaintiffs have claimed damages in excess of $5 million.
The Company is involved in a variety of other litigation matters which,
for the most part, arise out of matters and events which were alleged to have
occurred prior to 1994. Many of these lawsuits either allege construction
defects or allege improper servicing of the loan. In the opinion of management,
none of these cases will have a material adverse effect on the Bank's or the
Company's financial condition or operations.
21
<PAGE> 23
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of stockholders during the last
quarter of 1996.
ITEM 4A. EXECUTIVE OFFICERS.
The executive officers of the Company are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION WITH THE COMPANY AND PRIOR BUSINESS EXPERIENCE
<S> <C> <C>
Scott A. Braly 43 President and Chief Executive Officer of Hawthorne Financial and
Hawthorne Savings since July 1993. Director of Citadel Holding Corporation
and Fidelity Federal Bank from April 1992 to July 1993. President and Chief
Executive Officer of Valley Federal Savings and Loan Association from April
1990 to April 1992. Chief Financial Officer of Valley Federal Savings and
Loan Association from June 1989 to November 1990. Chief Financial Officer
of Bel-Air Savings from May 1985 to May 1989.
Norman A. Morales 36 Executive Vice President and Chief Financial Officer of Hawthorne Financial
and Hawthorne Savings since February 1995. Executive Vice President and
Chief Financial Officer of SC Bancorp and Southern California Bank from July
1987 to January 1995.
James D. Sage 58 Senior Vice President, Corporate Secretary and General Counsel of Hawthorne
Financial and Hawthorne Savings since August 1993. Special Litigation
Consultant to Great Western Bank from September 1990 to November 1993.
General Counsel of Great Western Bank from September 1982 to September 1990.
</TABLE>
The above officers serve at the discretion of the Board of Directors.
22
<PAGE> 24
P A R T II.
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER
MATTERS.
(A) MARKET PRICES OF STOCK
The common stock, par value $0.01 per share, of the Company is traded
on the Nasdaq National Market. The following table sets forth the high and low
sales prices as reported by the Nasdaq for the common stock of the Company for
the periods indicated.
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31, 1996 HIGH LOW
- ------------------------- -------- --------
<S> <C> <C>
First quarter $ 5 5/8 $ 4 3/8
Second quarter 9 4 7/8
Third quarter 9 1/4 6 3/4
Fourth quarter 8 1/8 6 5/8
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31, 1995 HIGH LOW
- ------------------------- -------- --------
<S> <C> <C>
First quarter $ 5 1/2 $ 4
Second quarter 5 1/4 2 1/4
Third quarter 3 3/4 2 1/4
Fourth quarter 5 3/4 3 3/4
</TABLE>
(B) STOCKHOLDERS
At the close of business on February 28, 1997, the Company had 2,623,275
shares of common stock outstanding and 519 holders of record of the common stock
of the Company.
(C) PER SHARE CASH DIVIDENDS DATA
The Company has suspended indefinitely the payment of dividends on its
common stock, effective the third quarter 1993.
23
<PAGE> 25
ITEM 6. SELECTED FINANCIAL DATA.
The selected consolidated financial data presented below at and for
each of the years in the five-year period ended December 31, 1996 are derived
from the consolidated financial statements of the Company which have been
audited by Deloitte & Touche LLP, independent certified public accountants.
<TABLE>
<CAPTION>
AT OR FOR THE YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------
1996 1995 1994 1993 1992
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA
Total assets $ 847,195 $ 753,583 $ 743,793 $ 881,641 $ 991,308
Cash and investments 132,349 76,808 61,979 108,899 140,216
Mortgage-backed securities 57,395 28,891 5,397
Loans receivable, net 672,401 617,328 537,020 623,450 765,420
Real estate owned, net 20,140 37,905 62,613 72,234 29,922
Deposits 717,809 698,008 649,382 829,809 909,657
Senior notes 12,307 12,006 -- -- --
Other borrowings 50,000 -- 47,141 -- --
Stockholders' equity 43,922 38,966 40,827 43,949 72,616
STATEMENT OF OPERATIONS DATA
Net interest income 25,394 16,508 19,128 22,106 32,819
Provision for estimated loan losses (7,489) (14,895) (5,298) (21,867) (51,242)
Noninterest revenues 1,927 1,311 1,973 3,295 3,631
Noninterest expenses (21,046) (20,339) (23,912) (21,162) (18,578)
Real estate operations, net (956) (436) 2,433 (26,684) (12,828)
Net gain (loss) from disposition
of deposits and premises 6,413 (117) 2,835 (4,066) --
Net earnings (loss) 7,507 (14,217) (2,963) (29,610) (22,144)
Net earnings (loss) per share (1) 1.11 (5.52) (1.14) (11.39) (8.52)
YIELDS AND COSTS (FOR THE PERIOD)
Interest-earning assets 8.43% 7.62% 6.63% 6.44% 7.97%
Interest-bearing liabilities 5.29% 5.01% 3.91% 4.12% 4.99%
Interest rate spread 3.14% 2.61% 2.72% 2.32% 2.98%
Net interest margin (2) 3.28% 2.47% 2.56% 2.42% 3.31%
CAPITAL RATIOS (END OF PERIOD)
Tangible 6.27% 5.80% 5.15% 4.61% 6.55%
Core 6.27% 5.80% 5.15% 4.61% 6.55%
Risk-based 11.11% 10.27% 9.36% 8.18% 10.10%
ASSET QUALITY DATA(3)
Gross nonperforming assets 36,783 49,203 80,716 151,183 118,200
Nonperforming assets to total assets 4.34% 6.53% 10.85% 17.15% 11.92%
OTHER RATIOS
Return on average assets 0.93% (1.96)% (0.36)% (3.09)% (2.15)%
Return on average common equity 17.75% (47.57)% (6.99)% (50.80)% (24.24)%
Average stockholders' equity
to average assets 5.24% 4.11% 5.12% 6.08% 8.87%
Dividend payout ratio(4) N/A N/A N/A N/A N/A
</TABLE>
- -----------------------
(1) Calculated using the modified Treasury method for the full
year ended December 31, 1996. All other periods calculated
using actual shares outstanding.
(2) Net interest income divided by average interest-earning
assets.
(3) Nonperforming assets consists of loans delinquent 90 days or
more and properties acquired through foreclosure, net of
applicable writedowns and reserves.
(4) Cash dividends of $0.7 million and $2.6 million were paid in
1993 and 1992, respectively.
24
<PAGE> 26
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.
OPERATING RESULTS
OVERVIEW
For 1996, the Company reported net earnings of $7.5 million, or $1.11
per share, as compared with a net loss of $14.2 million, or $5.52 per share for
1995. The per share amount for 1996 is based on 5.1 million shares outstanding,
as calculated using the modified Treasury method, while the per share amount for
1995 is based on 2.6 million actual shares outstanding.
The Company's performance for 1996 marks its first full year of
operations following the successful completion of the sale of $27 million in
"investment units" by the Company in a private placement in December 1995.
During the course of the year, several key strategic initiatives were
implemented in order to enhance the Company's ability to generate asset and
earnings growth during 1997 and beyond. During 1996, (1) loan originations in
excess of $330 million were generated at an average interest rate approaching
10%, (2) the Company's three-branch deposit network in San Diego was sold at a
sizable premium, (3) completed sales of foreclosed properties continued to
substantially reduce the Company's property portfolio, (4) nearly $130 million
of loans were sold at a slight premium, including nearly $43 million of recent
originations secured by commercial properties and apartment buildings, and (5)
substantive restructurings of most of the Company's remaining, large assets
originated during the 1980s were completed. These achievements led directly to
improved core and net earnings, and improved asset quality.
The Bank maintained core and risk-based regulatory capital ratios of
6.3% and 11.1%, respectively, at December 31, 1996, which exceed the regulatory
minimums which define a "well capitalized" institution. These capital ratios
represent an increase from the levels reported at year end 1995 following the
recapitalization of the Company and the Bank, which were 5.8% and 10.3%, for
core and risk-based ratios, respectively.
During 1996, the Company's core operating results continued to show
significant improvement when compared to recent periods. In 1996, the Company's
net interest income was $25.4 million, compared to $16.5 million in 1995 and
$19.1 million in 1994. For 1996, earnings from core operations (net interest
income and noninterest revenues less operating costs, before loan loss
provisions, real estate operations and non-recurring items) totaled $6.3
million, as compared to a loss of $2.5 million for 1995 and a loss of $2.8
million for 1994. The improved core results lowered the Company's efficiency
ratio to 77% during 1996, from 114% during 1995 and 113% in 1994.
In 1996, noninterest revenues totaled $1.9 million, as compared to $1.3
million for 1995 and $2.0 million for 1994. These amounts are exclusive of gains
on sales of assets or other non-recurring revenues.
For 1996, total operating costs were $21.0 million, as compared with
total operating costs of $20.3 million in 1995 and $23.9 million in 1994. During
the last half of 1996, the Company significantly enhanced its resources
dedicated to new loan origination, credit evaluation and management, and loan
portfolio management, in order to meet the growing demand for the Company's
distinctive mortgage products. These enhancements will be more fully reflected
in the Company's operating costs during 1997. Operating costs for 1996 do not
include expense associated with real estate operations and the $3.8 million
charge for the FDIC SAIF special assessment which was incurred in the third
quarter of 1996 and is reported under other revenues and costs.
For 1996, the Company recorded loan loss provisions of $7.5 million, as
compared to $14.9 million during 1995 and $5.3 million for 1994. Though a
majority of the 1996 loan provisions, and virtually all of the 1995 loan
provisions, related to loans originated prior to 1995, a growing level of
provisions were recorded during 1995 and 1996 to establish initial general
valuation allowances for the Company's post-1994 loans. Through December 31,
1996, none of the loans originated by the Company since 1994 had resulted in the
foreclosure of the Company's collateral.
The Company continues to be burdened with relatively poor asset
quality, almost exclusively related to loans made prior to 1994. Since 1993, the
Company has resolved the vast majority of its asset quality problems, through
foreclosure and liquidation of its collateral and through substantive loan
restructurings (which generally involved a comprehensive restructuring of the
Company's loans with selected borrowers). A substantial majority of the total
credit loss provisions recorded during 1996 reflect the financial cost resulting
from the restructuring of a small number of large loans and multiple loans with
individual borrowers originated prior to 1993, and the revaluation of the
Company's significant remaining foreclosed housing development.
25
<PAGE> 27
The Company believes that the consistent and sustained pattern of
reduced credit loss provisions (loan loss provisions and post-foreclosure
valuation adjustments on real estate owned), which have declined from $55
million in 1992, to $35 million for 1993 and 1994, to $20 million in 1995 and to
$11 million during 1996, accurately reflects the diminishing adverse influence
of the Company's pre-1995 loan portfolio on the Company's operating results. At
December 31, 1996, loans originated prior to 1995 had declined to approximately
50% of the Company's total loan portfolio, and this portfolio had declined in
dollar terms by approximately 40% from its level at the end of 1994.
During 1996, the Company's real estate operations, which involve the
renovation, operation and disposal of foreclosed properties, produced a net cost
of $1.0 million, compared to a net cost of $0.4 million for 1995 and a net
recovery of $2.4 million for 1994. For 1996, provisions for estimated losses on
real estate owned totaled $3.5 million, compared to $5.1 million in 1995, and
are included in the net cost of real estate operations. No such provisions were
made in 1994.
Other revenues and costs are comprised of non-recurring activities to
the Company's operations. For the year, the Company incurred a $3.8 million
after-tax charge from the special FDIC SAIF assessment, and realized a net gain
of $6.4 million from the sale of its San Diego retail branch franchise.
During 1996, the Company sold $129.5 million of performing loans in
five separate transactions. These sales involved $82.4 million, $33.0 million
and $14.1 million of loans secured by single family homes, apartment buildings
and commercial properties, respectively. Approximately $43.0 million of the
loans sold were originated during 1995 and 1996 and were secured by
income-producing properties. In the aggregate, these transactions resulted in
net gains of $0.4 million. During 1995, the Company sold $19.2 million of loans
in a single transaction, which resulted in a negligible net gain. No loans were
sold during 1994.
For 1996, the Company recorded an income tax benefit of $6.4 million,
$4.2 million of which was attributable to the creation of a deferred tax asset
and $2.1 million of which was attributable to the receipt of a Federal income
tax refund resulting from amendments to certain of the Company's prior years'
tax returns.
At December 31, 1996, gross nonperforming assets totaled $36.8 million,
or 4.3% of total assets. These nonperforming assets were comprised of loans
delinquent 90 days or more ($16.7 million), and net real estate owned ($20.1
million). By comparison, nonperforming assets totaled $49.2 million (6.5% of
total assets) at December 31, 1995, and $80.7 million (10.9% of total assets) at
the end of 1994.
During 1996, the collateral securing $21.5 million of loan principal
was foreclosed upon. The collateral securing $38.3 million and $85.7 million of
loan principal was foreclosed upon during 1995 and 1994, respectively.
Consistent with this decline in new property acquisition, the volume of property
sales, measured by net sales proceeds, also declined from 1994 to 1996. For the
years ended December 31, 1996, 1995, and 1994, net proceeds from property
sales (including internal financings) were $44.8 million, $57.1 million and
$89.0 million, respectively.
The Company expects that virtually all of its current portfolio of
foreclosed properties will be liquidated in the ordinary course of business over
the next 12 months. The completion of the Company's single-largest foreclosed
development project, in addition to two other smaller completed projects now in
final liquidation, marks the last of over 40 failed projects with origins from
the late 1980s and early 1990s. These failed development projects have accounted
for the largest component of the Company's credit losses over the past four
years.
As previously reported, the Company issued an aggregate of $27.0
million of high-cost Senior Notes and Cumulative Perpetual Preferred Stock, and
issued Warrants to purchase the Company's Common Stock, in connection with the
recapitalization of the Bank in December 1995. For 1996, interest expense on the
$13.5 million (par amount) of Senior Notes was $1.9 million, and accrued but
unpaid dividends on the $13.5 million (par amount) of Cumulative Perpetual
Preferred Stock were $2.4 million.
26
<PAGE> 28
INTEREST MARGIN
The Company's interest rate spread is the difference between the yield
earned on loans and investment securities and the cost of deposits and
borrowings, before adjustment for the difference between interest-earning assets
and liabilities. The Company's net interest margin is its net interest income
divided by its average interest-earning assets. These percentage measures are
affected by several factors, including (1) the level of, and the relationship
between, the dollar amount of interest-earning assets and interest-bearing
liabilities, (2) the relationship between repricing or maturity of the Company's
adjustable-rate and fixed-rate loans and short-term investment securities and
its deposits and borrowings, and (3) the magnitude of the Company's
nonperforming assets.
The table below sets forth the Company's average balance sheet, and the
related effective yields and costs on average interest-earning assets and
interest-bearing liabilities, for each of the three years ended December 31,
1996 (dollars are in thousands). In the table, interest revenues are net of
interest associated with nonaccrual loans.
<TABLE>
<CAPTION>
1996 1995
-------------------------------- -----------------------------------
AVERAGE Revenues/ Yield/ Average Revenues/ Yield/
BALANCE Costs Cost Balance(1) Costs Cost
-------- -------- -------- ---------- --------- --------
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Interest-earning assets
Loans $671,365 $ 59,722 8.90% $578,766 $ 45,386 7.84%
Cash and cash equivalents 65,094 3,425 5.26% 21,128 1,446 6.84%
Investment securities 32,014 1,814 5.67% 11,727 626 5.34%
Investment in capital
stock of Federal Home Loan Bank 6,577 393 5.98% 6,473 327 5.05%
Mortgage-backed securities -- -- -- 50,777 3,209 6.32%
-------- -------- -------- --------
Total interest-earning assets 775,050 65,354 8.43% 668,871 50,994 7.62%
Noninterest-earning assets 31,675 -------- ----- 56,118 -------- -------
-------- --------
Total assets $806,725 $724,989
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-bearing liabilities
Deposits $701,836 35,568 5.07% $675,329 33,593 4.97%
Borrowings 41,138 2,471 6.01% 12,153 801 6.59%
Senior notes 12,150 1,921 15.81% 625 92 14.72%
-------- -------- -------- --------
Total interest-bearing liabilities 755,124 39,960 5.29% 688,107 34,486 5.01%
-------- -------- -------- -------- -------- --------
Other liabilities 9,310 6,997
Stockholders' equity 42,291 29,885
-------- --------
Total liabilities & stockholders' equity $806,725 $724,989
======== ========
Net interest income $ 25,394 $ 16,508
======== ========
Interest rate spread 3.14% 2.61%
======== ========
Net interest margin 3.28% 2.47%
======== ========
</TABLE>
<TABLE>
<CAPTION>
1994
----------------------------------
Average Revenues/ Yield/
balance(1) Costs Cost
---------- --------- ------
<S> <C> <C> <C>
ASSETS
Interest-earning assets
Loans $604,410 $ 42,085 6.96%
Cash and cash equivalents 39,370 1,695 4.31%
Investment securities 51,089 2,485 4.86%
Investment in capital
stock of Federal Home Loan Bank 6,983 343 4.91%
Mortgage-backed securities 45,810 2,963 6.47%
-------- --------
Total interest-earning assets 747,662 49,571 6.63%
Noninterest-earning assets 79,524 -------- --------
--------
Total assets $827,186
========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-bearing liabilities
Deposits $763,302 29,694 3.89%
Borrowings 14,333 749 5.23%
Senior notes -- -- --
-------- --------
Total interest-bearing liabilities 777,635 30,443 3.91%
------- -------- --------
Other liabilities 7,163
Stockholders' equity 42,388
--------
Total liabilities & stockholders' equity $827,186
========
Net interest income $ 19,128
========
Interest rate spread 2.72%
========
Net interest margin 2.56%
========
</TABLE>
__________________
(1) Amounts for 1994 and 1995 represent monthly averages.
27
<PAGE> 29
The table below summarizes the components of the changes in the
Company's interest revenues and costs for 1996 and 1995, as compared with the
preceding year (dollars are in thousands).
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
1996 AND 1995
-----------------------------------------------------------------------
INCREASE (DECREASE) DUE TO CHANGE IN
----------------------------------------------------
RATE AND NET
VOLUME RATE VOLUME(1) CHANGE
---------------- -------------- --------------- ---------------
<S> <C> <C> <C> <C>
INTEREST REVENUES
Loans(2) $ 7,243 $ 6,117 $ 976 $ 14,336
Cash and cash equivalents 3,009 (334) (696) 1,979
Investment securities 1,083 38 67 1,188
Investment in capital stock of
Federal Home Loan Bank 5 60 1 66
Mortgage-backed securities (3,209) - - (3,209)
---------------- -------------- --------------- ---------------
8,131 5,881 348 14,360
---------------- -------------- --------------- ---------------
INTEREST COSTS
Deposits 1,319 630 26 1,975
Borrowings 1,910 (66) (174) 1,670
Senior notes 1,697 7 125 1,829
---------------- -------------- --------------- ---------------
4,926 571 (23) 5,474
---------------- -------------- --------------- ---------------
NET INTEREST INCOME $ 3,205 $ 5,310 $ 371 $ 8,886
================ ============== =============== ===============
</TABLE>
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
1995 AND 1994
-----------------------------------------------------------------------
INCREASE (DECREASE) DUE TO CHANGE IN
----------------------------------------------------
RATE AND NET
VOLUME RATE VOLUME(1) CHANGE
--------------- -------------- ---------------- ----------------
<S> <C> <C> <C> <C>
INTEREST REVENUES
Loans(2) $ (1,771) $ 5,295 $ (223) $ 3,301
Cash and cash equivalents (785) 999 (463) (249)
Investment securities (1,915) 242 (186) (1,859)
Investment in capital stock of
Federal Home Loan Bank
(25) 10 (1) (16)
Mortgage-backed securities 321 (68) (7) 246
--------------- -------------- ---------------- ----------------
(4,175) 6,478 (880) 1,423
--------------- -------------- ---------------- ----------------
INTEREST COSTS
Deposits (3,422) 8,275 (954) 3,899
Borrowings (116) 196 (28) 52
Senior notes - - 92 92
--------------- -------------- ---------------- ----------------
(3,538) 8,471 (890) 4,043
--------------- -------------- ---------------- ----------------
NET INTEREST INCOME $ (637) $(1,993) $ 10 $ (2,620)
=============== ============== ================ ================
</TABLE>
(1) Calculated by multiplying change in rate by change in volume.
(2) Interest on loans is net of interest on nonaccrual loans.
28
<PAGE> 30
The Company's net interest margin increased by 81 and 72 basis points
during 1996 as compared with 1995 and 1994, respectively. This substantial
improvement resulted from (1) the continued disposal of properties and the
contribution of capital to the Bank by the Company in late 1995, which
contributed to a turnaround in the difference between the amount of the
Company's interest-earning assets and interest-bearing liabilities, which was a
positive $19.9 million during 1996, as compared to a negative $19.2 million
during 1995 and a negative $30.0 million during 1994, (2) the magnitude of the
Company's loan originations since 1994, at average interest rates well in excess
of the interest rates attributable to the Company's remaining pre-1995 loans,
(3) the relatively modest rise in the Company's interest costs during 1996 as
compared to 1995, which generally reflects the stability of market interest
rates since mid-1995, and (4) the substantial repricing during 1996 of the
Company's pre-1995 adjustable-rate loans, a majority of which are priced off of
the 11th District Cost of Funds Index ("DCOFI") with repricing intervals of
six and twelve months, at levels which are more reflective of current market
interest rates and the Company's deposit costs.
As described elsewhere herein, the Company commenced operation of
several new financing businesses early in 1995, each targeted on a narrow
segment of the real estate finance markets in Southern California and designed
to produce meaningful new loan volume with yields substantially higher than the
Company's pre-1995 loan portfolio while maintaining credit quality. During 1996
and 1995, the Company originated an aggregate $529.7 million of new permanent
loans and construction commitments. At December 31, 1996, $352.9 million of net
loan principal (after deducting undisbursed loans funds and net of sales and
repayments) was outstanding, with a weighted average interest rate (excluding
loan and other fees) of 9.72%. Most of the loans originated during 1995 and 1996
are adjustable-rate and utilize a variety of indices, including the 11th DCOFI,
a designated prime rate and the One-Year Constant Maturity Treasury Index
("CMT").
PROVISIONS FOR POSSIBLE CREDIT LOSSES ON LOANS
The Company recorded loan loss provisions of $7.5 million, $14.9
million and $5.3 million for the years ended December 31, 1996, 1995, and 1994,
respectively. The provisions for 1996 and 1995 were substantially attributable
to losses related to the Company's pre-1995 loan portfolio, though a growing
proportion of the Company's loan loss provisions during this period represent
general valuation allowances ("GVAs") attributable to the Company's post-1994
loan originations. At December 31, 1996, the Company maintained total loan
reserves of $13.5 million, of which $11.3 million were GVAs. See Credit Losses.
NONINTEREST REVENUES
The table below details the Company's noninterest revenues for the
periods indicated (dollars are in thousands).
<TABLE>
<CAPTION>
1996 1995 1994
-------------- --------------- --------------
<S> <C> <C> <C>
Other loan and escrow fees $ 1,223 $ 515 $ 691
Deposit account fees 464 582 560
Other revenues 240 214 722
-------------- --------------- --------------
$ 1,927 $ 1,311 $ 1,973
============== =============== ==============
</TABLE>
Other loan and escrow fees include servicing charges, escrow fees, late
charges, prepayment penalties and non-refundable commitment and extension fees.
In late 1993, the Company substantially terminated its new loan origination and
escrow activities. The Company did not commence originating new loans again
until the last half of 1994, and then did so only moderately until the second
quarter of 1995, when its new financing activities began to produce significant
volumes. New loan volume was $49.9 million in 1993 and $44.9 million in 1994,
rising to $197.4 million in 1995 and $332.3 million in 1996, resulting in an
overall increase in other loan and escrow fees. During 1995 and 1996, the
Company sold one and three branches, respectively, which resulted in lower
deposit account fees. During the 1994 first quarter, the Company received, and
recorded as other revenue, payments of $0.4 million from the Resolution Trust
Corporation resulting from a rent subsidy agreement entered into as part of a
branch office purchase by the Company in the mid-1980s.
29
<PAGE> 31
NONINTEREST EXPENSES
The table below details the Company's operating costs for periods
indicated (dollars are in thousands).
<TABLE>
<CAPTION>
1996 1995 1994
--------------- ---------------- ---------------
<S> <C> <C> <C>
Employee $ 9,800 $ 10,118 $ 10,740
Occupancy 2,890 2,841 2,780
Operating 4,565 3,539 5,002
Professional 1,615 1,579 2,816
SAIF insurance premium and OTS assessment 2,152 2,213 2,557
Goodwill amortization 24 49 16
--------------- ---------------- ---------------
$ 21,046 $ 20,339 $ 23,911
=============== ================ ===============
</TABLE>
EMPLOYEE COSTS
Since June 1993, the Company has hired, and currently retains the
service of, a staff of senior and middle managers to effect the Company's
strategic and operational initiatives, including management and staff which have
responsibility for the Company's financing activities, retail banking operations
and corporate staff and administrative functions. Management also substantially
restructured the Company's retail branch network, reducing from 21 to 6 the
number of branch offices operated by the Company. These actions, largely
accomplished by late 1994, have resulted in almost no change in the number of
employees (210 in June 1993 and 200 at December 31, 1996) but a significant
change in the composition of the employee base. This change in composition has
resulted in an increase in the Company's base compensation from an annualized
rate of $5.2 million in June 1993 to $8.8 million at the end of 1996. During
1994, management initiated a Company-wide incentive compensation program for all
employees. Under this program, cash bonuses could be, and were, earned for
achievement of the Company's principal strategic and recurring operating
initiatives. For each of the three years ended December 31, 1996, cash incentive
compensation totaled $1.0 million, $1.8 million, and $1.4 million, respectively.
The reduction in incentive compensation expense from 1995 to 1996 was due in
part to the granting of stock options to certain managers in lieu of cash
incentive compensation. See NOTE K of the NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS.
During 1994, the Company restructured its employee benefit programs to
provide for comparable or improved coverage to employees at reduced costs and to
require certain employees (based upon salary level) to pay all or a portion of
the premium cost of Company-sponsored programs. During 1994, the Company froze
benefits associated with its defined benefit pension plan and ceased
contributions to the Company's Employee Stock Ownership Plan.
OCCUPANCY COSTS
Since mid-1993, the Company has sold the deposits previously serviced
by 15 branch banking offices and in connection therewith sold or terminated the
lease obligations associated with 14 facilities (the Company retains the lease
obligation with respect to one facility). Despite the sale of branch facilities
or termination of leases on such facilities, the Company has experienced an
overall increase in occupancy costs of about 10% since 1993 primarily due (1) to
the relocation of the Company's corporate offices from two separate owned
facilities into a new leased facility which required significant tenant
improvements and purchase of furnishings and (2) the renovation of all of the
Company's remaining branch facilities.
OPERATING COSTS
Operating costs principally include (1) data processing service charges
from outside vendors, (2) premiums for corporate liability insurance, (3) the
cost of corporate telecommunications and supplies, (4) the cost of advertising
and promotion, (5) transaction service charges from outside vendors and (6) the
amortization of prepaid offerings costs arising from the 1995 recapitalization
of the Company. During 1994, the Company incurred approximately $0.7 million of
nonrecurring costs in connection with several initiatives, including a third
party review of all of the Company's loan files. In September 1994, the Company
sold six retail banking offices and the related deposits, the full-year
impact of which was not reflected until 1995. During 1996, the Company
significantly expanded its community outreach and marketing activities, which
contributed to an increase in operating costs of approximately $0.5 million in
1996 as compared with 1995. During 1996,
30
<PAGE> 32
the Company amortized approximately $0.2 million of issue costs which had their
genesis with the December 1995 sale of investment units.
PROFESSIONAL COSTS
Professional fees are paid to outside lawyers, who represent the
Company in a variety of legal matters, the Company's independent accountants,
and to various other vendors that provide employee search and miscellaneous
consulting services to the Company. Since 1992, the Company has incurred very
high legal costs due to the magnitude of its foreclosure and related actions
against borrowers. The decline in these costs from the level experienced in 1994
generally reflects decreases in the Company's nonperforming assets.
SAIF PREMIUMS
The Company pays premiums to the SAIF based upon the dollar amount of
deposits it holds and the assessment rate charged by the FDIC, which is based
upon the Company's financial condition, its capital ratios and the rating it
receives in connection with annual regulatory examinations by the OTS. Because
of the Company's improved financial condition, the assessment rate charged by
the FDIC has decreased from $0.31 per $100 of deposits in 1994, 1995, and the
first half of 1996 to $0.29 per $100 of deposits in the last half of 1996. As a
result of the special FDIC SAIF assessment paid in 1996, the Company has already
seen a reduction in its assessment rate to $0.24. Continuing improvement in the
financial condition of the Company, as determined by the Company's regulators,
may result in additional assessment reductions.
REAL ESTATE OPERATIONS
The table below details the revenues and costs associated with the
Company's foreclosed properties for the periods indicated (dollars are in
thousands).
<TABLE>
<CAPTION>
1996 1995 1994
-------------- --------------- ---------------
<S> <C> <C> <C>
EXPENSES ASSOCIATED WITH REAL ESTATE OWNED
Property taxes $ (135) $ (35) $ (1,965)
Repairs, maintenance and renovation (160) (475) (361)
Insurance (258) (132) (329)
-------------- --------------- ---------------
(553) (642) (2,655)
NET RECOVERIES FROM SALE OF PROPERTIES 1,769 2,467 2,980
PROPERTY OPERATIONS, NET 1,339 2,839 2,108
PROVISION FOR ESTIMATED LOSSES ON
REAL ESTATE OWNED (3,511) (5,100)
-------------- --------------- ---------------
$ (956) $ (436) $ 2,433
============== =============== ===============
</TABLE>
The decline in expenses associated with foreclosed properties generally
mirrors the decline in the Company's property portfolio since mid-1993. The
large expenditure for property taxes during 1994 was attributable to the volume
of foreclosures during this period and the significant amounts of delinquent
property taxes attached to these properties. Beginning in early 1995, the
Company began to advance delinquent property taxes prior to foreclosure of the
Company's collateral, in order to reduce the penalties associated with
nonpayment, the cost of which is generally reflected in the Company's credit
loss reserves. With respect to foreclosed apartment buildings, which constituted
approximately 10.0%, 35.0% and 25.0% of the Company's property portfolio at
December 31, 1996, 1995, and 1994, respectively, all holding costs, including
property taxes and depreciation, are included with property operations. With
respect to foreclosed construction developments, which constituted approximately
50.0%, 30.0% and 40.0% of the Company's property portfolio at December 31, 1996,
1995, and 1994, respectively, all holding costs, including property taxes, are
included in the basis of the Company's investment.
Net recoveries from property sales represent the difference between the
proceeds received from property disposal and the carrying value of such
properties upon disposal.
31
<PAGE> 33
Property operations include the net cash flows generated from
operation of the Company's foreclosed apartment buildings. During the period
September 1993 through September 1995, the Company operated a growing portfolio
of foreclosed apartment buildings with a combination of in-house professionals
and contracted property management companies. Until the third quarter of 1995,
such buildings were not being marketed for sale, but rather were being operated
for the Company's own account. During this period, the Company funded the
required physical improvements to each building and took the steps necessary to
bring the operation of each building to a stabilized level. Commencing during
the third quarter of 1995, management began marketing for sale the Company's
accumulated portfolio of owned apartment buildings, believing that it had
maximized the operating performance of its portfolio and that general market
conditions had improved substantially from the periods during which the
buildings were originally acquired through foreclosure. Since the third quarter
of 1995 and through the end of 1996, the Company had sold substantially all of
its foreclosed apartment buildings acquired during September 1993 through
September 1995.
During 1995 and 1996, the Company recorded additional provisions for
estimated losses in connection with two large residential developments. At
December 31, 1996, construction of the homes related to one of these
developments had been completed and all but two homes had been sold. With
respect to the other development, construction had commenced at December 31,
1996 with respect to the last 18 units of a total of 100 units to be
constructed, and all but two production units completed at that date had been
sold. See REAL ESTATE OWNED.
GAIN ON SALE OF LOANS
During 1995, the Company sold $19.2 million of loans for a nominal
gain. During 1996, the Company sold $129.5 million of loans for a gain of $0.4
million. The majority of the loans sold during 1996 consisted of seasoned loans
secured primarily by single family homes, with approximately $43 million of
total sales represented by loans originated subsequent to 1994 and secured by
income-producing properties.
GAIN ON SALE OF SECURITIES
During 1996, the Company sold $35 million in U.S. Treasury Securities
for a net gain of $0.2 million. These securities were designated as
available-for-sale and were sold primarily to augment the Bank's capital ratios.
The Company reinvested the proceeds from these sales in U.S. Treasury securities
with weighted average maturities similar to that of the sold securities
(approximately two years).
DISPOSITION OF DEPOSITS AND PREMISES
In June 1996, the Company sold its three San Diego branches and their
approximately $186.6 million in deposits. This sale resulted in a net gain to
the Company of $6.4 million.
OTHER REVENUES (EXPENSES)
During the third quarter of 1996, the Company incurred a $3.8 million
charge due to the special FDIC SAIF assessment. Subsequently, the Company's
annual assessment rate was reduced from $0.29 to $0.24, beginning in January
1997. See DEPOSIT INSURANCE.
INCOME TAXES
The Company recorded an income tax benefit of $6.4 million in 1996 and
income tax expense of $0.6 million and $0.1 million in 1995 and 1994,
respectively. The $6.4 million of income tax benefit in 1996 was attributable to
the creation of a $4.2 million deferred tax asset as a result of the reduction
in the valuation allowance against deferred tax assets and $2.1 million
resulting from a net refund of federal income taxes paid by the Company in prior
years.
At December 31, 1995, the Company had approximately $35.5 million of
accumulated income tax benefits, consisting primarily of net operating loss
carryforwards and future tax deductions which had not been recognized for
financial statement purposes and are available to be utilized to shield future
earnings from income taxes, both for financial reporting and income tax
reporting purposes. The recognition of these accumulated income tax benefits is
subject to limitations for generally accepted accounting principles and for
regulatory capital purposes. The primary factor affecting the timing and
magnitude of recognition of these accumulated income tax benefits is the current
and future profitability of the Company. Additionally, no more than 10% of the
Bank's regulatory capital can be represented by a deferred tax asset created
pursuant to anticipated future utilization of an institution's income tax
benefits. During 1996, the Company utilized approximately $18.1 million of its
accumulated income tax benefits, which is reflected in the Company's 1996
results as an income tax benefit and a deferred tax asset of $6.4 million and
$4.2 million, respectively. At December 31, 1996, the Company had remaining
income tax benefits of $17.4 million, which are available to be utilized during
1997 and beyond, subject to the Company's continuing ability to generate
earnings. Should the Company cease to be profitable, or should the Company
record substantial operating losses in the future, all or a portion of the
deferred tax asset established to date may need to be reversed. Management
believes that the Company's income tax accounting practices fully comport with
generally accepted accounting principles and have been and are appropriate in
the circumstances.
32
<PAGE> 34
FINANCIAL CONDITION, CAPITAL RESOURCES & LIQUIDITY AND ASSET QUALITY
The table below sets forth the Company's consolidated assets,
liabilities and stockholders' equity and the percentage distribution of these
items at the dates indicated (dollars are in thousands).
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------------------------------------
1996 1995
------------------------------ ----------------------------
Balance Percent Balance Percent
-------------- -------------- -------------- ------------
<S> <C> <C> <C> <C>
ASSETS
Cash and cash equivalents $ 93,978 11.1% $ 14,015 1.9%
Investment securities available for sale 38,371 4.5 62,793 8.3
Loans receivable, net (1) 672,401 79.4 617,328 81.9
Real estate owned 20,140 2.4 37,905 5.0
Other assets (2) 22,305 2.6 21,542 2.9
-------------- -------------- -------------- ------------
Total assets $ 847,195 100.0% $ 753,583 100.0%
============== ============== ============== ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Deposits $ 717,809 84.7% $ 698,008 92.6%
Short-term borrowings 50,000 5.9
Accounts payable and other liabilities 23,157 2.7 4,603 0.6
Senior debt 12,307 1.5 12,006 1.6
-------------- -------------- -------------- ------------
803,273 94.8 714,617 94.8
Stockholders' equity 43,922 5.2 38,966 5.2
-------------- -------------- -------------- ------------
Total liabilities and stockholders' equity $ 847,195 100.0% $ 753,583 100.0%
============== ============== ============== ============
</TABLE>
(1) Includes non-accrual loans of $28.6 million and $21.7 million
for 1996 and 1995, respectively. See CLASSIFIED ASSETS below.
(2) Includes fixed assets, accrued interest receivable, FHLB stock
and other assets.
TOTAL ASSETS
Total assets increased by $93.6 million from year end 1995 to year end
1996. This increase was primarily due to a net increase in cash and cash
equivalents of $80.0 million and loans receivable of $55.1 million, which were
partially offset by decreases in investment securities and real estate owned of
$24.4 million and $17.8 million, respectively.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of cash on hand, deposits at
correspondent banks and Federal funds sold. The Company maintains balances at
correspondent banks and the FHLB to cover daily inclearings, wire activities and
other charges. Cash and cash equivalents at year end 1996 were $94.0 million, an
increase of $80.0 million, from $14.0 million at year end 1995. At year end
1996, the Company concluded two loan sales of approximately $76 million which
produced the high levels of cash and cash equivalents. The funds were
subsequently redeployed in investment securities and new loan originations.
INVESTMENT SECURITIES
Investment securities consist of securities classified as
held-to-maturity and available-for-sale, and mortgage-backed securities.
Investment securities decreased by $24.4 million from year end 1995 to year end
1996. At year end 1995, the Company had $62.8 million in investment securities
classified as available-for-sale. During 1995, the Company
33
<PAGE> 35
initiated measures to reduce the interest rate risk exposure inherent in the
balance sheet. These measures included the liquidation of certain fixed rate
assets, both loans and investment securities, in the first and second quarters
of 1995. In December 1995, the Company, consistent with guidance issued in
November 1995 by the Financial Accounting Standards Board ("FASB"), reclassified
all of its mortgage-backed securities from held-to-maturity to
available-for-sale. These securities were then liquidated prior to year end. All
securities held in portfolio as of year end 1994 were converted to cash during
1995 by amortization of principal on mortgage-backed securities or by
liquidation. These cash proceeds were partially utilized to fund loan growth,
and when available, reinvested in short-term Fed funds or U.S. Treasury
obligations. See NOTE C of the NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
Subsequent to December 31, 1996, the Company's Board of Directors granted to
management the authority to purchase up to $200 million of investment securities
during 1997. The interest margin projected to be generated by these securities
purchases will supplement the Company's overall interest margin with no
incremental credit risk borne by the Company. The Board's approval contemplated
that the investment securities to be purchased would have expected durations of
between three and seven years, would be financed with short term repurchase
agreements utilizing the purchased investment securities as collateral, and
would be hedged so as to substantially, though not entirely, mitigate the
Company's interest rate risk. During the first quarter of 1997, the Company
purchased $40 million of U.S. Government and agency securities pursuant to this
strategy. Future purchases of investment securities pursuant to this strategy
are dependent upon, among other things, the availability of excess capital not
otherwise deployed in the Company's lending businesses and the general level and
volatility of market interest rates. There can be no assurance that management
of the Company will elect to implement this program to the extent authorized in
the near term or at all.
LOAN PORTFOLIO
The Company principally invests the proceeds generated from customer
deposit accounts in mortgage loans secured by residential and, to a much lesser
extent, non-residential real estate.
34
<PAGE> 36
The following two tables below set forth the composition of the
Company's loan portfolio, and the percentage composition by type of security,
delineated by the year of origination and in total, as of the dates indicated
(dollars are in thousands).
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------------------------------------------
1996 1995
------------------------------- ------------------------------
BALANCE PERCENT BALANCE PERCENT
------------------------------- ------------------------------
<S> <C> <C> <C> <C>
PERMANENT LOANS
Single family (1-4 units)
Estate $107,891 14.6% $ 51,142 7.8%
Conventional 170,038 23.0 247,955 37.7
Project concentrations (1) 61,268 8.3 70,748 10.8
Multi-family (five or more units) 220,707 29.6 219,015 33.4
Commercial real estate 60,388 8.2 31,258 4.8
Land 14,513 2.0 5,579 0.9
RESIDENTIAL CONSTRUCTION (2)
Single family 56,306 7.6 21,987 3.4
Tract development 33,791 4.6 6,800 1.0
OTHER 15,684 2.1 1,459 0.2
-------- ----- -------- -----
GROSS LOANS RECEIVABLE 740,586 100.0% 655,943 100.0%
===== =====
LESS
Participants' share (1,413) (2,219)
Undisbursed loan funds (46,646) (15,208)
Deferred loan fees and
credits, net (6,611) (5,996)
Allowance for estimated losses (13,515) (15,192)
-------- ---------
NET LOANS RECEIVABLE $672,401 $617,328
======== =========
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------------------------------------------
1994 1993
------------------------------ -------------------------------
BALANCE PERCENT BALANCE PERCENT
------------------------------ ----------------- -------------
<S> <C> <C> <C> <C>
PERMANENT LOANS
Single family (1-4 units)
Estate $ - - % $ - - %
Conventional 299,246 52.4 340,803 49.9
Project concentrations (1) 76,074 13.3 85,807 12.6
Multi-family (five or more units) 172,641 30.2 193,468 28.4
Commercial real estate 7,757 1.4 7,630 1.1
Land 3,797 0.7 22,179 3.3
RESIDENTIAL CONSTRUCTION (2)
Single family 3,270 0.6 6,603 1.0
Tract development 6,000 1.1 22,925 3.4
OTHER 1,654 0.3 2,013 0.3
-------- ----- ------- -----
GROSS LOANS RECEIVABLE 570,439 100.0% 681,428 100.0%
===== =====
LESS
Participants' share (3,072) (3,098)
Undisbursed loan funds (2,795) (966)
Deferred loan fees and
credits, net (6,091) (7,285)
Allowance for estimated losses (21,461) (46,629)
-------- --------
NET LOANS RECEIVABLE $537,020 $623,450
======== ========
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------
1992
------------------------------
BALANCE PERCENT
------------------------------
<S> <C> <C>
PERMANENT LOANS
Single family (1-4 units)
Estate $ - - %
Conventional 500,748 59.4
Project concentrations (1)
Multi-family (five or more units) 207,024 24.6
Commercial real estate 3,332 0.4
Land 35,957 4.3
RESIDENTIAL CONSTRUCTION (2) 87,274 10.4
Single family - -
Tract development - -
OTHER 7,535 0.9
-------- -----
GROSS LOANS RECEIVABLE 841,870 100.0%
=====
LESS
Participants' share (4,250)
Undisbursed loan funds (9,750)
Deferred loan fees and
credits, net (9,484)
Allowance for estimated losses (52,966)
--------
NET LOANS RECEIVABLE $765,420
========
</TABLE>
(1) The Company did not separately identify project concentrations
prior to 1993.
(2) The Company did not separately identify tract developments
prior to 1993.
35
<PAGE> 37
The Company's loan portfolio contains no loans to foreign governments,
foreign enterprises, foreign operations of domestic companies, nor any
concentration to borrowers engaged in the same or similar industries that exceed
10 percent of total loans.
The table below sets forth information concerning the Company's gross
loan portfolio at December 31, 1996 (dollars are in thousands).
<TABLE>
<CAPTION>
PRINCIPAL NUMBER AVERAGE
BALANCE OF LOANS LOAN AMOUNT
--------- -------- -----------
<S> <C> <C> <C>
ORIGINATED PRIOR TO 1995
PERMANENT LOANS
Single family (1-4 units)
Estate $ - - $ -
Conventional 139,600 935 149
Project concentrations 59,779 383 156
Multi-family (five or more units) 131,496 266 494
Commercial real estate 7,638 14 546
Land 1,951 7 279
OTHER 959 57 17
--------- -----
341,423 1,662 205
--------- -----
ORIGINATED AFTER 1994
PERMANENT LOANS
Single family (1-4 units)
Estate 107,891 45 2,398
Conventional 30,438 202 151
Project concentrations 1,489 23 65
Multi-family (five or more units) 89,211 114 783
Commercial real estate 52,750 24 2,198
Land 12,562 14 897
RESIDENTIAL CONSTRUCTION
Single family 56,306 68 828
Tract 33,791 8 4,224
OTHER 14,725 6 2,454
--------- -----
399,163 504 792
--------- -----
GROSS LOANS RECEIVABLE $ 740,586 2,166 342
========= =====
</TABLE>
Estate Financings
During 1995 and 1996, the Company originated $126.2 million of Estate
loans, with respect to which $107.9 million was outstanding at December 31, 1996
(net of unfunded commitments and repayments). See ITEM 1, NEW BUSINESS
GENERATION - LENDING. At year end 1996, two Estate loans with aggregate unpaid
principal of $1.8 million were nonperforming and an additional Estate loan for
$1.0 million was delinquent one payment. See CLASSIFIED ASSETS- Nonaccrual
Loans". Through December 31, 1996, the Company had not foreclosed upon the
collateral securing any of its Estate loans.
Conventional Home Financings
The Company's conventional single family loan portfolio is exclusively
secured by single family homes located within the Company's Southern California
lending markets. Except as described below, the Company's single family loans
originated prior to 1995 have performed better than its other real
estate-secured loans originated prior to 1995 (e.g., project concentrations,
apartments, residential construction, and land). Similarly, the Company's
recovery rate from the disposition of foreclosed homes has exceeded the recovery
rates achieved from the disposition of other foreclosed real estate. At December
31, 1996, no conventional single-family residential loans originated after 1994
were in default.
36
<PAGE> 38
Management believes that the performance of the Company's pre-1995
single family loan portfolio will continue to mirror the general economic
environment within its lending markets. However, management believes that the
future default and foreclosure rates of this portfolio will continue to exceed
that of its local competitors, principally because (1) of the Company's previous
underwriting practices, (2) an unusually large percentage of the loans within
this portfolio had their genesis during 1988-1992 when housing prices generally
were higher than their current levels, and (3) a relatively large percentage of
the portfolio is concentrated in non-owner occupied single family homes.
Project Concentrations
Prior to 1995, the Company made permanent loans, amortizing over, and
maturing at the end of, thirty years, to a large number of purchasers of
individual units from developers in for-sale housing developments with respect
to which the Company financed construction. A majority of these permanent
"takeout" loans were originated during the period 1988 through 1992 and were
made on terms that fell outside the parameters normally associated with
conventional single family home loans.
At December 31, 1996, the Company's portfolio of project concentration
loans was $61.3 million, a decrease from $76.1 million at December 31, 1994.
Virtually all of this reduction was attributable to borrower defaults and
foreclosure by the Company of its collateral.
Because most of these loans were made on favorable terms to foster
sales of units in developments in which unit sales were sluggish, and because
the current retail value of units in many developments has declined
significantly when compared with the purchase price paid by the Company's
borrowers, the performance of this portfolio has been extremely poor. Management
expects that the performance of this portfolio will continue to be quite poor,
principally because the underlying risk factors which have given rise to the
historically poor performance - poorly-qualified borrowers and significant
declines in the value of the Company's collateral - are not expected to change
in the near-term.
Multi-family Financings
At December 31, 1996, the Company maintained a portfolio of loans
secured by five or more units of $220.7 million, approximately 60% of which was
originated prior to 1995. Management estimates that over 50% of the Company's
remaining permanent apartment loan portfolio originated prior to 1995 had its
genesis with construction financing provided by the Company to the original
developer/borrower. Many such properties were subsequently sold by the developer
and the Company's loan was assumed and remains outstanding.
During 1995 and 1996, the Company originated $136.8 million of loans
secured by apartment buildings, of which $30.0 million was made to purchasers of
foreclosed apartment buildings sold by the Company during 1995 and 1996.
Generally, these real estate owned-related financings were made on terms
requiring, among other things, a substantial cash investment by the purchaser.
The remaining $106.8 million of post-1994 apartment-secured financings are
generally secured by buildings with 50 or more units, with respect to which the
Company had no prior financing involvement. Loan principal of approximately
$89.2 million was outstanding against such commitments at December 31, 1996,
which amount is net of sales, repayments and unfunded commitments.
Management expects that the performance of the Company's pre-1995
apartment-secured loan portfolio will continue to be uneven. This expectation
derives from management's view that (1) the underlying economics of its
collateral are not expected to improve materially in the near-term (i.e., rent
and occupancy levels are expected to remain largely static), (2) a large number
of the Company's borrowers are not experienced operators of apartment buildings
and most lack the financial resources to compete effectively with better
capitalized operators, and (3) the cash flows currently being generated by a
sizable portion of the Company's collateral generally are either insufficient,
or barely sufficient, to service the Company's loan in an interest rate
environment which is near cyclical lows.
Commercial Real Estate Financings
During 1995 and 1996, the Company originated $77.7 million of loans
secured by commercial real estate. At December 31, 1996, approximately $60.4
million of commercial real estate-secured loans were outstanding, which amount
is net of sales and repayments, and virtually all of which was originated since
1994. None of the Company's post-1994 loans was in default at December 31, 1996,
and at such date the Company had not foreclosed upon its collateral with respect
to any loan originated since 1994.
37
<PAGE> 39
Construction Financings
As described elsewhere herein, the Company's principal business through
1992 was to provide construction loans for tracts of for-sale housing in
Southern California, principally in the South Bay area of Los Angeles County.
Subsequent to mid-1993, the Company foreclosed upon virtually all of the units
securing construction loans made by the Company during the years 1989 through
1992. At December 31, 1996, the Company had no construction loans remaining
from this period.
The Company originated a total of $132.5 million of commitments for the
construction of individual homes ($83.5 million) and small tracts of for-sale
housing ($49.0 million). This activity is managed by real-estate professionals
and the Company's current customers include experienced developers, none of whom
had previously done business with the Company.
Loan Maturities
The table below sets forth, by contractual maturity, the Company's real
estate loan portfolio at December 31, 1996 (dollars are in thousands). The table
is based on contractual loan maturities and does not consider amortization and
prepayment of loan principal. As a result, the table does not reflect the actual
nor expected repayment maturities of loans.
<TABLE>
<CAPTION>
MATURING IN
-------------------------------------------------------------------
OVER OVER
ONE YEAR FIVE YEARS TOTAL
ONE YEAR THROUGH THROUGH OVER LOANS
OR LESS FIVE YEARS TEN YEARS TEN YEARS RECEIVABLE
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
ORIGINATED PRIOR TO 1995
PERMANENT LOANS
Single family (1-4 units)
Estate $ -- $ -- $ -- $ -- $ --
Conventional 36 1,278 4,397 133,889 139,600
Project concentrations 467 167 182 58,963 59,779
Multi-family (5 or more units) 3,782 5,264 33,597 88,853 131,496
Commercial real estate 863 6,775 7,638
Land 1,150 801 1,951
RESIDENTIAL CONSTRUCTION
Single family
Tract development
OTHER COLLATERALIZED LOANS 875 84 959
----------- ----------- ----------- ----------- -----------
6,310 6,793 39,039 289,281 341,423
----------- ----------- ----------- ----------- -----------
ORIGINATED AFTER 1994
PERMANENT LOANS
Single family (1-4 units)
Estate 9,569 49,700 42,941 5,681 107,891
Conventional 95 1,605 28,738 30,438
Project concentrations 133 1,356 1,489
Multi-family (5 or more units) 9,203 7,078 72,930 89,211
Commercial real estate 6,000 35,278 10,541 931 52,750
Land 7,308 5,254 12,562
RESIDENTIAL CONSTRUCTION
Single family 51,656 4,650 56,306
Tract development 24,991 8,800 33,791
OTHER 3,979 10,746 14,725
----------- ----------- ----------- ----------- -----------
112,706 121,734 128,017 36,706 399,163
----------- ----------- ----------- ----------- -----------
$ 119,016 $ 128,527 $ 167,056 $ 325,987 740,586
=========== =========== =========== ===========
LESS
Participants' share (1,413)
Undisbursed funds (46,646)
Deferred loan fees and credits, net (6,611)
Allowance for estimated losses (13,515)
-----------
NET LOANS RECEIVABLE $ 672,401
===========
</TABLE>
38
<PAGE> 40
As illustrated in the preceding table and as described elsewhere
herein, the Company's post-1994 loans have been made on terms which generally
include shorter final maturities than loans made previously. With respect to
Estate and multifamily residential loans made subsequent to 1994 and with
respect to which maturities are scheduled within five-to-ten years from the
funding of the loan, a majority of such loans carry final maturities of seven
years from the funding of the loan.
The table below sets forth, by interest rate, the Company's fixed rate
and interest-rate sensitive real estate loans at December 31, 1996. The table is
based on contractual loan maturities and does not consider amortization and
prepayment of loan principal (dollars are in thousands).
<TABLE>
<CAPTION>
MATURING IN
-------------------------------------------------------------------------
OVER OVER
ONE YEAR FIVE YEARS TOTAL
LESS THAN THROUGH THROUGH OVER LOANS
ONE YEAR FIVE YEARS TEN YEARS TEN YEARS RECEIVABLE
----------------- ----------------- ----------------- ---------------- ----------------
<S> <C> <C> <C> <C> <C>
FIXED INTEREST RATES $ 13,612 $ 44,447 $ 6,558 $108,138 $172,755
VARIABLE INTEREST RATES
11th DCOFI 4,218 32,009 118,468 216,324 371,019
Prime rate 96,995 45,872 15,614 158,481
1 year CMT 4,191 6,199 26,416 36,806
Other 1,525 1,525
----------------- ----------------- ----------------- ---------------- ----------------
Total variable interest rates 105,404 84,080 160,498 217,849 567,831
----------------- ----------------- ----------------- ---------------- ----------------
TOTAL $119,016 $128,527 $167,056 $325,987 740,586
================= ================= ================= ================
LESS
Participants' share (1,413)
Undisbursed funds (46,646)
Deferred loan fees and
credits, net (6,611)
Allowance for estimated losses (13,515)
----------------
NET LOANS RECEIVABLE $672,401
================
</TABLE>
CLASSIFIED ASSETS
For the purpose of the following discussion, "Classified Assets" are
defined as (1) properties acquired through foreclosure less applicable
writedowns and reserves, plus (2) nonperforming loans delinquent three or more
payments, plus (3) loans delinquent one or more payments, plus (4) performing
loans classified Loss, Doubtful and Substandard pursuant to OTS regulations and
guidelines.
As described elsewhere herein, the Company was an active construction
lender for many years. A majority of the construction loans made during the
period 1987 through 1991 and which did not result in foreclosure of the
Company's collateral were internally refinanced with new permanent loans. With
respect to apartment buildings and individual single family homes, the Company
generally converted the fully-disbursed construction loan into a permanent loan,
amortizing over and due in thirty years. With respect to for-sale housing
developments where the Company financed their construction, the Company
typically made permanent loans to purchasers of individual units from the
developer (project concentrations). During this period, the Company also
financed numerous other for-sale housing developments with respect to which it
did not make any permanent loans following construction.
Generally, the risk profile associated with the types of loans made
prior to 1995 by the Company (i.e., construction loans, project concentration
loans and apartment loans) is greater than for other types of mortgage finance,
such as owner-occupied single family home loans acquired through purchase
transactions. Further, many of the concentration loans were made on terms
outside the parameters normally associated with conventional financing
(including having loan-to-value ratios greater than 80%, below-market interest
rates and subordinate financing provided by the developer). The recent and
current character of the Company's asset quality is a function of both broad and
market-specific economic factors, compounded by (1) the Company's underwriting
standards during the years in which the Company's Classified Assets were
originated, (2) prior management's aggressiveness in providing permanent
39
<PAGE> 41
financing to purchasers of individual units in Company-financed construction
developments, and (3) the generally poor quality of, and internal
inconsistencies within, the underlying loan documentation supporting individual
transactions. See ITEM 1. NEW BUSINESS GENERATION for a discussion of the
Company's lending activities subsequent to 1994.
The table below sets forth certain information regarding the Company's
investment in Classified Assets as of the dates indicated (dollars are in
thousands).
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------------------------------------------
1996 1995 1994 1993 1992
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
PROPERTIES, NET OF RESERVES $ 20,140 $ 37,905 $ 62,613 $ 72,234 $ 29,922
NONPERFORMING LOANS (1) 16,643 11,298 18,103 78,949 88,278
---------- ---------- ---------- ---------- ----------
GROSS NONPERFORMING ASSETS 36,783 49,203 80,716 151,183 118,200
OTHER DELINQUENT LOANS (30-89 DAYS) 10,082 8,811 17,747 31,057 74,194
PERFORMING LOANS CLASSIFIED LOSS,
DOUBTFUL AND SUBSTANDARD (6) 46,987 58,649 67,309 61,673 42,487
---------- ---------- ---------- ---------- ----------
GROSS CLASSIFIED ASSETS $ 93,852 $ 116,663 $ 165,772 $ 243,913 $ 234,881
========== ========== ========== ========== ==========
GROSS CLASSIFIED LOANS (2) (3) (4) $ 73,712 $ 78,758 $ 103,159 $ 171,679 $ 204,959
========== ========== ========== ========== ==========
LOANS RECEIVABLE (5) $ 685,916 $ 632,520 $ 558,481 $ 670,079 $ 818,387
========== ========== ========== ========== ==========
RESERVES ON LOANS
Specific $ 2,185 $ 3,426 $ 8,578 $ 23,294 $ 18,883
General 11,330 11,766 12,883 23,335 34,083
---------- ---------- ---------- ---------- ----------
$ 13,515 $ 15,192 $ 21,461 $ 46,629 $ 52,966
========== ========== ========== ========== ==========
TOTAL RESERVES TO LOANS RECEIVABLE 1.97% 2.40% 3.84% 6.96% 6.47%
TOTAL RESERVES TO CLASSIFIED LOANS 18.33% 19.29% 20.80% 27.16% 25.84%
TOTAL RESERVES TO NONPERFORMING LOANS 81.21% 134.47% 118.55% 59.06% 60.00%
GROSS NONPERFORMING ASSETS TO TOTAL ASSETS 4.34% 6.53% 10.85% 17.15% 11.92%
</TABLE>
________________
(1) Loans three or more payments past due.
(2) Gross classified assets, exclusive of properties.
(3) At December 31, 1996, included $49.3 million of loans
originated prior to 1995.
(4) Includes $16.7 million, $7.3 million, $3.8 million, and $37.1
million of troubled debt restructurings ("TDRs") at December
31, 1996, 1995, 1994 and 1993, respectively. It was not
practicable to determine the classification of TDRs at
December 31, 1992.
(5) Net loans, exclusive of allowance for estimated loan losses.
(6) At December 31, 1996 and 1995, respectively, includes $1.9
million and $1.6 million of performing loans on nonaccrual
status.
OTS regulations require that savings institutions utilize an internal
asset classification system as a means of reporting problem and potential
problem assets for regulatory supervision purposes. The Company has incorporated
the OTS' internal classifications as a part of its credit monitoring system. The
Company currently designates its assets Pass, Special Mention, Substandard,
Doubtful or Loss. A loan is considered in default of its terms and conditions
upon the failure of a borrower to make a scheduled payment of principal and
interest. The Company's internal asset classification policy requires that the
Company's investment in foreclosed properties and nonaccrual loans be classified
Substandard, Doubtful or Loss. A brief description of these categories follows.
An asset classified as Pass is considered of sufficient quality to
preclude designation as Special Mention or an adverse classification. Pass
assets generally are protected by the current net worth or paying capacity of
the obligor or by the value of the asset or underlying collateral.
An asset designated Special Mention does not currently expose an
institution to a sufficient degree of risk to warrant an adverse classification.
However, it does possess credit deficiencies or potential weaknesses deserving
of management's close attention. If uncorrected, such weaknesses or deficiencies
may expose the institution to an increased risk of loss in the future.
40
<PAGE> 42
An asset classified Substandard is inadequately protected by the
current net worth and paying capacity of the obligor or of the collateral
pledged, if any. Assets so classified have a well-defined weakness or
weaknesses. They are characterized by the distinct possibility that the
institution will sustain some loss if the deficiencies are not corrected.
Assets classified as Doubtful have all the weaknesses inherent in those
classified Substandard. In addition, these weaknesses make collection or
liquidation in full, on the basis of currently existing facts, conditions and
values, highly questionable or improbable. The Company views the Doubtful
classification as a temporary category. The Company will generally classify
assets as Doubtful when inadequate data is available or when such uncertainty
exists as to preclude a Substandard classification. Therefore, the Company will
normally tend to have a minimal amount of assets classified in this category.
Assets classified as Loss are considered uncollectible and of such
little value that their continuance as assets without establishment of a
specific reserve is not warranted. A Loss classification does not mean that an
asset has absolutely no recovery or salvage value; rather it means that it is
not practical or desirable to defer establishing a specific reserve for the
asset even though partial recovery may be effected in the future. The Company
will generally classify as Loss the portion of assets identified as exceeding
the asset's fair market value, and a specific reserve is established for such
excess.
The Company designates a loan as impaired when it becomes a troubled
debt restructuring, 90 days delinquent or it is deemed probable that all
principal and interest will not be collected. Income is recognized on impaired
loans while the loan is performing.
The table below shows the Company's gross classified loan portfolio as
of December 31, 1996 (dollars are in thousands).
<TABLE>
<CAPTION>
CLASSIFIED LOANS
--------------------------------------------------------
NON- OTHER PERFORMING
PERFORMING (1) DELINQUENCIES (2) LOANS TOTAL (3)
------------------ ------------------ -------------- --------------
<S> <C> <C> <C> <C>
Single family (1-4 units)
Estate $ 1,806 $ 1,017 $ 2,169 $ 4,992
Conventional 3,380 3,052 6,768 13,200
Project concentrations 5,937 1,682 6,008 13,627
Multi-family (5 or more units) 5,076 4,331 23,778 33,185
Commercial real estate 6,546 6,546
Land 431 431
Residential construction
Single family
Tract development 1,718 1,718
Other Collateralized Loans 13 13
------------------ ------------------ -------------- --------------
Gross Loans Receivable $ 16,643 $ 10,082 $ 46,987 $ 73,712
================== ================== ============== ==============
</TABLE>
________________
(1) Loan principal delinquent 90 days or more.
(2) Loan principal delinquent 30 to 89 days.
(3) Of the Company's $73.7 million of classified loans at December
31, 1996, $49.3 million, or 67%, related to pre-1995 lending
activities.
Nonaccrual Loans
The Company recognizes revenue principally on the accrual basis of
accounting. In recording interest revenues from loans, the Company generally
adheres to a policy of not accruing interest for loans where payment of
principal and interest are delinquent for a period of 30 days or more. The
Company's policy is to assign nonaccrual status to a loan where either (i)
principal or interest payments are delinquent in excess of 30 days or (ii) the
full collection of interest or principal becomes uncertain, regardless of the
length of delinquency status. When a loan reaches "nonaccrual" status, any
interest accrued thereon is reversed and charged against current period
earnings. With respect to loans on nonaccrual status at December 31, 1996, the
Company recognized $1.9 million of interest revenue (representing cash payments
by borrowers prior to their default) and deferred recognition of $0.9 million of
interest revenue (representing uncollected interest payments) during 1996.
41
<PAGE> 43
At December 31, 1996, approximately $16.6 million of loan principal was
delinquent three or more payments. The discussion below highlights the more
significant individual loans which comprise this aggregate.
o One loan with unpaid principal of $3.2 million and secured by
a 248 unit apartment building - (1) this loan was originated
in July 1995, (2) title was transferred by the Company's
borrower in February 1996 without the Company's consent (as
required under its loan agreements), (3) the new owners
defaulted on their obligation in September 1996, (4) a
receiver was appointed in October 1996, (5) the Company
advanced approximately $0.5 million during the receivership
period to renovate a majority of the units and to
substantially release the building, and (6) the Company
completed its foreclosure action in February 1997. At March
31, 1997, the property was in escrow to be sold for $4.0
million in an all-cash transaction, the proceeds from which
would produce a modest gain from disposal and result in no
economic loss to the Company. In connection with the sale, the
Company had received nonrefundable deposits of $0.8 million
from the purchaser.
o One loan with an unpaid principal balance of $3.1 million and
secured by the remaining 53 unsold units in a 182 unit
entry-level condominium project. The Company financed the
construction of this project in 1991 and 129 units have been
sold since 1992. In late 1995, sales of units substantially
ceased and the borrowers ceased making their payments to the
Company in mid-1996. The Company expects to foreclose upon its
collateral during the first half of 1997.
o Two Estate loans, each with unpaid principal of $0.9 million
and secured by the borrower's personal residence. These loans
were originated in early 1995 and the borrowers each defaulted
in mid-1996. The Company expects to complete its foreclosure
actions, or for the borrower(s) to reinstate their loan(s),
during 1997. In the event the Company acquires title,
liquidation of the home(s) would be expected in the ordinary
course of business.
Restructured Loans
Prior to September 1993, the Company's previous management followed a
practice of aggressively modifying loans, based upon verbal or, in some cases
written, requests from borrowers. Consistent with the orientation of the
Company's past lending activities, a majority of modifications prior to mid-1993
were associated with acquisition and development loans. Many of these loans were
modified in order to avoid borrower defaults or, in the case of loans already in
default, to prolong the period prior to foreclosure. In many instances, a single
loan, or groups of loans, were modified more than once. Modifications effected
by the Company generally took the form of (1) reducing the interest rate of the
loan to a market interest rate, (2) extending the maturity date of the loan,
generally for acquisition and development loans, or (3) both.
Commencing in September 1993, new management imposed new parameters to
govern the future restructuring of the Company's loans. Generally, the Company
requires a borrower to submit a written request outlining the borrower's
proposal and to provide the Company with current financial and related
information about the borrower and the Company's collateral. In making its
evaluation, the Company considers whether the proposed modification would
improve the Company's economic position relative to recovery of all or a
substantial portion of its investment in the loan.
In 1996, the Company recognized interest revenue of $3.1 million on
troubled debt restructured loans. The Company would have recognized interest
revenue of $3.8 million had the borrowers paid according to the original
contractual terms on such loans.
During 1994, 1995 and 1996, one or more terms of 72 loans, involving
loan principal of $39.1 million outstanding at December 31, 1996, were modified.
The extent of these modifications defined these loans as troubled debt
restructurings ("TDRs") under generally accepted accounting principles. At
December 31, 1996, $35.3 million of these loans were performing in accordance
with their modified terms and $3.8 million were not performing and payments were
delinquent. At December 31, 1996, $16.7 million of total TDRs were included in
the Company's gross classified loans. Generally, the Company classifies TDRs as
substandard for a period of at least six months following a loan's
restructuring, after which time the loan's classification is based upon the
Company's classification policies. See Classified Assets. The more significant
TDRs are summarized below.
42
<PAGE> 44
o The remaining 30 performing loans within the Company's largest
project concentration were modified during 1995, involving
principal at the time of the initial restructuring of $7.6
million, wherein the Company agreed to forgive loan principal
ratably over 24 months in an amount sufficient to equalize the
amount of each of the Company's loans and the current value of
the Company's collateral, and to provide the funds necessary
to repay the then existing subordinate lienholder (who was the
original seller of units in the project) at a fraction of the
face amount of such liens. Through December 31, 1996, the
Company had forgiven $0.7 million of loan principal and was
obligated to forgive an additional $0.1 million of loan
principal. At December 31, 1996, the remaining principal
balance of these loans was $6.5 million, 26 of the 30
restructured loans were performing and had performed without
incident since their restructuring, and none of the performing
loans were classified.
o During 1996, the Company restructured the terms of 16
apartment-secured loans with a single borrower, involving loan
principal at the restructuring date of $11.0 million which had
been originated variously through 1989. The restructuring
occasioned (1) debt forgiveness of $0.5 million by the
Company, (2) a reallocation of the Company's aggregate loan
principal among the 16 properties securing such loans so as to
produce individual loan-to-value ratios of 75% or less based
upon updated property valuations at the time of the
restructure, and (3) an adjustment to the interest rates on
the loans, such that the loans carry substantially market
interest rates following the restructuring. The borrower has
performed without incident since the loans were restructured
in early 1996. Accordingly, these loans, which represented
outstanding principal of $10.5 million at December 31, 1996,
were not classified.
o During 1994, 1995 and 1996, the Company modified the terms of
17 loans secured by apartment buildings, involving principal
at the various restructuring dates of $14.8 million, with
different borrowers, wherein the Company forgave a portion of
the principal balance of its loans, in exchange for
corresponding principal payments from the borrowers. In some
instances, the interest rate on the loans was adjusted to
levels approximating then market interest rates and payments
were reamortized over 30 years. At December 31, 1996, these
loans represented outstanding principal of $12.3 million and
each was performing. Approximately $8.0 million of such loan
principal was classified at December 31, 1996.
o During 1994, 1995 and 1996, the Company advanced a total of
$0.9 million relating to five loans, involving principal of
$4.4 million and different borrowers, for delinquent property
taxes, renovation to it's collateral and delinquent payments.
At December 31, 1996, two of these loans, totaling $0.7
million, were over 90 days delinquent, and two loans, totaling
$2.8 million, were performing and classified.
o During 1996, the Company agreed to contingently modify the
terms of one loan, with an original commitment amount of $5.3
million and originally secured by an 81 unit condominium
conversion. At December 31, 1996, this loan had an outstanding
balance of $1.8 million, remained secured by the 37 unsold
units within the complex, was on nonaccrual status, and was
classified Substandard. The Company has agreed to forgive up
to $0.3 million of accrued but unpaid interest and fees if the
borrower repays the Company's loan on or before December 31,
1997.
o The terms of one loan, with unpaid principal of $3.1 million,
have been modified several times. See Nonaccrual Loans.
CREDIT LOSSES
Credit losses are inherent in the business of originating and retaining
real estate loans. The Company performs periodic reviews of any asset that has
been identified as having potential excess credit risk. The Company maintains
special departments with responsibility for resolving problem loans and selling
properties. Valuation allowances for estimated potential future losses are
established on a specific and general basis for loans and properties. Specific
reserves for individual nonperforming assets are determined by the excess of the
Company's gross investment over the fair value of the collateral or property.
General reserves are provided for losses inherent in the loan and property
portfolios which have yet to be specifically identified. General reserves are
based upon management's judgment of a number of factors including estimated
migration of loans, collateral deficiency, composition of the loan and property
43
<PAGE> 45
portfolios, loan delinquency experience patterns, loan classifications, and
prevailing and forecasted economic conditions.
During the five years ended December 31, 1996, the Company recorded
cumulative provisions for estimated credit losses of $120.3 million, which
amount includes loan and property credit loss provisions. Approximately $25.4
million of such cumulative provisions represent reserves established with
respect to loans and properties at December 31, 1996. The table below sets forth
the source of these cumulative credit losses by property type.
<TABLE>
<CAPTION>
CUMULATIVE
PROVISIONS
PROPERTY TYPE 1992-1996
- --------------------------------------- ----------------
<S> <C>
Construction-related $ 42,000
Apartments (5 or more units) 32,000
Land 17,000
Single family
Project concentrations 16,000
Other 10,700
Commercial 2,600
----------------
$ 120,300
================
</TABLE>
As described elsewhere herein, (1) the Company's sole remaining
pre-1995 construction-related loan defaulted in 1996 and was nonperforming at
December 31, 1996, (2) the Company's portfolio of foreclosed apartment buildings
(all of which previously secured pre-1995 loans), which peaked at over 70
buildings in the third quarter of 1995, had been substantially liquidated by the
end of 1996, (3) the Company's investment in project concentration loans and
properties had been reduced to $68.4 million at December 31, 1996, from its peak
of $96.5 million in 1994, (4) the Company's remaining portfolio of pre-1995
land loans and properties approximated $4.5 million at December 31, 1996, none
of which were individually significant and all of which were performing at that
date, and (5) the Company's portfolio of commercial real estate-secured loans
originated prior to 1995 approximated $7.6 million at December 31, 1996, which
amount includes two loans with outstanding principal of $1.1 million at December
31, 1996 (which were made by the Company in 1994 in connection with the sale of
the Company's then corporate offices), and which were performing at that date.
The table below sets forth the general and specific credit losses for
the Company's loan and property portfolios as of December 31, 1996 (dollars are
in thousands).
<TABLE>
<CAPTION>
LOANS
------------------------------------
PERFORMING DELINQUENT (1) PROPERTIES TOTAL
--------------- ------------------ --------------- ---------------
<S> <C> <C> <C> <C>
AMOUNTS
Specific reserves $ 523 $ 1,662 $ 11,172 $ 13,357
General reserves 8,433 2,897 699 12,029
--------------- ------------------ --------------- ---------------
Total reserves for estimated losses $ 8,956 $ 4,559 $ 11,871 $ 25,386
=============== ================== =============== ===============
PERCENTAGES
% of total reserves to gross investment 1.4% 17.1% 37.1% 3.6%
% of general reserves to gross investment 1.3% 10.8% 2.2% 1.7%
</TABLE>
________________
(1) Delinquent loans are loans one or more payments past due.
44
<PAGE> 46
The table below summarizes the activity in the Company's reserves for
the periods indicated (dollars are in thousands).
<TABLE>
<CAPTION>
FOR THE YEAR ENDED DECEMBER 31,
--------------------------------------------------------------------------
1996 1995 1994 1993 1992
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
LOANS
Average loans outstanding $ 671,365 $ 578,766 $ 604,410 $ 756,023 $ 845,925
=========== =========== =========== =========== ===========
Reserve balance at beginning of period $ 15,192 $ 21,461 $ 46,629 $ 52,966 $ 10,813
Provision for estimated losses 7,489 14,850 5,298 10,747 42,153
Charge-offs:
Permanent loans
Single family (1-4 units) (3,103) (2,849) (380) -- --
Multi-family (five or more units) (4,641) (3,595) (339) -- --
Commercial real estate -- (70) -- -- --
Land -- (48) -- -- --
Residential construction
(tract development) -- (134) -- -- --
Recoveries -- -- -- 72 --
----------- ----------- ----------- ----------- -----------
Net charge-offs (7,744) (6,696) (719) 72 --
Transfer to property and other reserves (1,422) (14,423) (29,747) (17,156) --
----------- ----------- ----------- ----------- -----------
Balance at end of period $ 13,515 $ 15,192 $ 21,461 $ 46,629 $ 52,966
=========== =========== =========== =========== ===========
Ratio of net charge-offs to average loans
outstanding during the period 1.15% 1.16% 0.12% -0.01% 0.00%
PROPERTIES
Reserve balance at beginning of period $ 15,725 $ 32,609 $ 39,457 $ 15,173 $ 2,709
Provision for estimated losses 3,511 5,100 -- 18,662 12,464
Transfers from loan reserves 1,422 13,873 29,747 17,156 --
Charge-offs (8,787) (35,857) (36,595) (11,267) --
Recoveries -- -- -- (267) --
----------- ----------- ----------- ----------- -----------
Balance at end of period $ 11,871 $ 15,725 $ 32,609 $ 39,457 $ 15,173
=========== =========== =========== =========== ===========
</TABLE>
Because the Company's loan and property portfolios are not homogenous,
but rather consist of discreet segments with different collateral and borrower
risk characteristics, management separately measures reserve adequacy, and
establishes and maintains reserves for credit losses, for each identifiable
segment of its property and loan portfolios. The table and discussion below
summarize credit loss reserves and the Company's approach to measuring credit
risk for each of its property and loan portfolios at the date indicated (dollars
are in thousands).
<TABLE>
<CAPTION>
DECEMBER 31, 1996
--------------------------------------------------------
% OF % OF
LOANS ASSET TYPE PROPERTIES ASSET TYPE
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
PERMANENT
Single family residences (1-4 units)
Estate $ 279 0.3% $ -- --%
Conventional 1,702 1.0 343 12.9
Project concentrations 4,495 7.3 2,233 31.4
Multi-family (five or more units) 5,216 2.4 547 17.0
Commercial real estate 1,150 1.9 106 30.6
Land 167 1.2 1,242 49.3
CONSTRUCTION
Single family 168 0.3 -- --
Tract development 338 1.0 $ 7,400 45.8
------- -------
$13,515 1.8% $11,871 37.1%
======= =======
</TABLE>
45
<PAGE> 47
The discussion below summarizes the Company's approach to establishing
and maintaining reserves for each of its principal loan subportfolios. With
respect to its pre-1995 loan subportfolios, the magnitude of the Company's loan
delinquencies, foreclosures and property liquidations since 1993 have provided
management with significant and relevant empirical data about migration trends,
post-foreclosure costs, marketing timeframes and ultimate recoveries from
property disposal. In addition, management has performed one or more
loan-specific reviews of virtually every loan within the Company's pre-1995 loan
portfolios, including obtaining or calculating the current estimated value of
the Company's collateral. This information is utilized by management in
measuring the reserve adequacy of each of the Company's primary subportfolios.
With respect to each of these subportfolios, the Company generally maintains
GVAs which approximate 200% of the potential annual credit losses which would
result from applying relevant historical migration and loss factors to the
remaining performing loans within each subportfolio. These migration and loss
factors are updated periodically for recent activity and their application in
the future could result in increases or decreases to GVAs allocated to each
subportfolio should the Company's migration and loss experience change.
Conventional
For performing loans, general reserves are established based upon
estimated portfolio migration and estimated loss content (i.e., the estimated
collateral deficiency determined by reference to current market indicators of
the properties' liquidation value). These factors are distinguished by the
classification of the loan. For delinquent loans and for owned homes, general
and specific reserves are established, or charge-offs recorded, based upon the
current fair market value of the property, less selling and renovation costs, by
reference to appraisals or other indicators of the properties' current value
believed by management to be reliable, or the Company's actual loss experience
from selling foreclosed homes since 1993.
Project Concentrations
As described elsewhere herein, management has identified numerous
project concentrations involving takeout loans made by the Company to facilitate
sales within residential tract developments, the construction of which was
financed by the Company. For performing loans within a concentration, management
establishes general reserves in an amount equal to the estimated collateral
deficiency observable by reference to closed unit sales during the past two
years (generally, sales of foreclosed units by the Company) for the number of
performing loans expected to default in the future and result in foreclosure of
the Company's collateral. For delinquent loans and foreclosed units, the
Company's actual sales experience during the past two years is utilized to
establish specific reserves or to charge-off estimated losses.
Multi-family
As described elsewhere herein, management has performed one or more
asset reviews for virtually its entire pre-1995 apartment-secured loan portfolio
(i.e., loans secured by buildings with five or more units). In addition, the
Company has foreclosed upon and sold (during 1995 and 1996) a large number of
buildings with the same characteristics (location, size, age, unit mix) as those
of the Company's remaining loan collateral. The estimated valuations derived
from the foregoing are utilized to establish loss factors, by loan
classification, which are coupled with the portfolio's estimated migration to
establish general reserves for performing loans. For nonperforming loans and for
owned buildings, specific reserves are established and, where appropriate,
charge-offs are recorded, for the estimated loss expected from foreclosure (in
the case of nonperforming loans) and disposition of the building, by reference
to the properties' cash flows and the application of current market investor
return and financing factors, less transaction and renovation costs.
Construction
At December 31, 1996, the Company had investments in three foreclosed
residential tract developments. Reserves had been established, or charge-offs
had been recorded, through December 31, 1996, based upon revenues and costs to
and at completion. With respect to one of these developments, construction was
complete at the end of 1996 and most of the completed units had been sold. With
respect to one other development, construction was approximately 70% complete
and all of the available units in the project had been sold. With respect to the
last development, construction was substantially complete at December 31, 1996
but no units had yet been sold. The Company currently expects to liquidate all
of these units throughout the course of 1997.
46
<PAGE> 48
Post-1994 Originations
The Company originated $529.7 million of permanent loans and
construction loan commitments during 1995 and 1996. At December 31, 1996, $6.8
million of loan principal originated since 1994 was one or more payments
delinquent as to scheduled principal and interest payments, or 1.3% of
cumulative loan commitments. Based upon appraisals completed at the various
origination dates, the average loan-to-value ratio associated with these
delinquent loans is 79%. Through December 31, 1996, the Company had not
foreclosed upon the collateral securing any of its post-1994 loan originations.
However, during the first quarter of 1997, the Company acquired one property
through foreclosure which secured a $3.2 million loan. Shortly following its
acquisition, the Company agreed to sell the property for an amount which would
result in no economic loss to the Company. At March 31, 1997, the Company had
received nonrefundable deposits from the purchaser totaling $0.8 million. See
Nonaccrual Loans. Also during the first quarter of 1997, the Company sold one
loan originated since 1994, with a principal balance of $3.2 million and secured
by an office building, which became delinquent during the quarter. In connection
with this sale, the Bank received consideration equal to its unpaid principal
balance plus all arrearages and out-of-pocket costs. Accordingly, the sale
resulted in no economic loss to the Company.
Because the loans originated by the Company since 1994 have been
outstanding for a limited period of time, and because no realized losses have
been incurred through December 31, 1996 with respect to this portfolio, the
Company does not utilize the same experiential migration and loss factors which
are the basis for establishing GVAs for its pre-1995 loans. Until this portfolio
of loans gains further seasoning, management has established, and will continued
to establish, GVAs based upon broad estimates of potential adverse migration and
the costs attendant to foreclosure, renovation (if applicable), marketing and
disposition.
General reserves are established for each of the business lines, and
loan principal outstanding, based on on-going valuation assessments of the
Company's collateral, expected migration of loans by respective classification
status, and other general factors which may have an impact on the expected
collectability of loan principal outstanding.
Permanent loan financings typically have interim borrower reporting
requirements, and have other financial measurement covenants, which management
assesses in its periodic asset reviews, classifications, and establishment of
general reserves. Establishment of general reserves related to the post-1994
loan portfolio will be evaluated on a continual basis given the nature of the
Company's business lines.
REAL ESTATE OWNED
Real estate acquired in satisfaction of loans is transferred from loans
to properties at estimated fair values, less any estimated disposal costs. The
difference between the fair value of the real estate collateral and the loan
balance at the time of transfer is recorded as a loan charge-off. Any subsequent
declines in the fair value of the properties after the date of transfer are
recorded through the establishment of, or additions to, specific reserves.
Recoveries and losses from the disposition of properties are also included in
Real Estate Operations.
The table below summarizes the composition of the Company's property
portfolio at the dates indicated (dollars are in thousands).
<TABLE>
<CAPTION>
1996 1995
----------- -----------
<S> <C> <C>
SINGLE FAMILY RESIDENCES
Conventional $ 2,660 $ 8,815
Project concentrations 7,117 6,419
MULTI-FAMILY (FIVE OR MORE UNITS) 3,215 18,877
CONSTRUCTION (TRACT DEVELOPMENTS) 16,156 15,414
LAND 2,517 3,759
COMMERCIAL 346 346
----------- -----------
GROSS INVESTMENT(1) 32,011 53,630
ALLOWANCE FOR ESTIMATED LOSSES (11,871) (15,725)
----------- -----------
NET INVESTMENT $ 20,140 $ 37,905
=========== ===========
</TABLE>
- ------------------
(1) Loan principal at foreclosure, plus post-foreclosure capitalized
costs, less cumulative charge-offs.
47
<PAGE> 49
The following summarizes the Company's significant investments in
individual properties and the carrying value of the Company's investment at
December 31, 1996.
Conventional
At December 31, 1996, the Company owned 14 homes with a gross
investment of $2.7 million (net of charge-offs) and a net carrying value of $2.4
million (net of charge-offs and specific valuation allowances). These homes are
expected to be liquidated in the ordinary course of business during 1997 without
the incurrence of significant additional losses.
Project Concentrations
At December 31, 1996, the Company owned 78 units within project
concentrations, with a gross investment of $7.1 million (net of charge-offs) and
a carrying value of $5.1 million (net of charge-offs and specific valuation
allowances). Approximately $3.3 million of the Company's carrying value in
project concentration properties at December 31, 1996 consisted of 64 units in
two projects, which are described below.
o Daisy ($1.9 million) - Represents the Company's investment in
37 entry-level condominiums, which are part of a larger 60
unit condominium project located in Huntington Park,
California. At December 31, 1996, the Company also had
outstanding loan principal of $1.7 million secured by an
additional 19 units within this project. The remaining four
units secure loans from other financial institutions. The
Company financed the construction of this complex in 1989 and
provided original concessionary first trust deed financing for
the individual purchase of 56 of the 60 units therein in 1991
and 1992. The Company's loans approximated 85% of the stated
purchase price of the units and the developer provided most of
the remaining financing necessary to close individual unit
sales, with little or no cash brought to bear by the
purchasers. During 1996, the Company ceased marketing
foreclosed units for sale because of an absence of demand for
such units. Concurrently, the Company began renting its units
with the intention of operating them, and all subsequently
acquired units, as rentals indefinitely into the future. At
December 31, 1996, substantially all of the Company's units
had been rented. Credit losses have been recorded on this
investment (both foreclosed properties and loans) based upon
valuation of the entire complex as a rental apartment
building, rather than as for-sale condominiums. Through
December 31, 1996, the Company had recorded cumulative credit
losses of $2.5 million covering its aggregate exposure,
allocated between loans and properties so as to produce
individual unit carrying values consistent with operation of
the complex as a rental property.
o Cerise Avenue ($1.4 million) - In August 1996, the Company
foreclosed upon the remaining 27 unsold units within a 43 unit
condominium complex located in Hawthorne, California. The 16
units not acquired through foreclosure were sold by the
original developer during 1995 and 1996. These units sales
were not financed by the Company. Subsequent to foreclosure,
the Company has spent approximately $0.4 million to bring the
unsold units to a marketable condition. Retail sales of the
remaining units commenced in early 1997 and sellout is
expected by the end of 1997. Through December 31, 1996, the
Company had recorded cumulative credit losses of $0.7 million
covering the Company's foreclosed property investment. No
significant additional losses are expected through the sellout
of these units.
The remainder of the Company's investment in real estate owned related
to project concentrations at December 31, 1996 is expected to be liquidated in
the ordinary course of business during 1997 without the incurrence of additional
credit losses.
Multi-family (5 or more units)
At December 31, 1996, the Company owned 11 apartment buildings with a
gross investment of $3.2 million (net of charge-offs) and a carrying value of
$2.7 million (net of charge-offs and specific valuation allowances). These
buildings are expected to be liquidated in the ordinary course of business
during 1997 without the incurrence of significant additional losses.
48
<PAGE> 50
Construction (tract development)
At December 31, 1996, the Company retained investments in three
multiple-unit, for-sale housing developments, with a gross investment of $16.2
million (net of charge-offs) and a carrying value of $9.0 million (net of
charge-offs and specific valuation allowances). With respect to one of these
developments, two homes remained unsold at year end 1996, representing $0.5
million of the Company's carrying value. The other two developments, and the
Company's investments therein at December 31, 1996, are further described below.
o Belcourt ($5.3 million) - Represents the Company's investment
in a 40 unit condominium development in Los Angeles County,
California. In April 1994, the Company foreclosed upon
approximately 2.2 acres of land which secured a $1.5 million
loan. In February 1996, the Company commenced development of
40 condominium units on the site. Construction was completed
in December 1996 and retail sales of individual units
commenced in early 1997. At December 31, 1996, there were no
material costs to complete and sellout of the project is
expected by the end of 1997. The Company will not finance
individual unit sales. Through the end of 1996, the Company
had invested a total of $6.1 million (including its original
loan) in this development and had recorded cumulative credit
losses of $0.8 million. No significant additional losses are
expected through the final liquidation of the Company's
investment.
o Marbella ($3.2 million) - represents the Company's remaining
investment in a 100 unit, luxury condominium development
located in a golf course-oriented, master-planned development
in Orange County, California. Since the Company's foreclosure
in May 1993, at which time the Company's investment
approximated $19.0 million and was represented by 42 partially
completed units, the Company has invested approximately $17.6
million to (1) complete, market and sell 76 units, (2)
complete six model units, and (3) commence construction of the
final 18 units. The remaining cost prospectively from December
31, 1996 to complete and to market the remaining units is
estimated to be $5.1 million, which amount has been considered
in the carrying value of the Company's investment at December
31, 1996. Construction is expected to be completed, and the
finished units sold, by the end of 1997. To date, the Company
has not financed, nor does it anticipate financing, unit
sales. Through December 31, 1996, the Company had recorded
credit losses of approximately $14.3 million related to this
development. Based upon current estimates to and at
completion, no additional loss from this development is
anticipated.
Land
At December 31, 1996, the Company owned four land parcels acquired
through foreclosure during 1993 and 1994 with a gross investment of $2.5 million
(net of charge-offs) and a carrying value of $1.3 million (net of charge-offs
and specific valuation allowances). The Company's investment in two of these
parcels has been completely charged off. The other two parcels consist of (i)
160 acres of undeveloped land in Santa Clarita, California with a carrying value
of $0.8 million, which the Company anticipates will be sold in 1997 without
significant additional losses, and (ii) land in Hermosa Beach, California with a
carrying value of $0.5 million, which has tentatively been approved for the
construction of luxury homes and, upon receipt of final approvals, will either
be sold or developed by the Company.
Although the Company expects to sell during 1997 a substantial amount
of the real estate owned held by it at December 31, 1996 without significant
additional losses, there can be no assurance that this will be the case. Sales
of real estate generally are subject to market and economic conditions,
including the real estate markets in which the properties are located and the
level of prevailing interest rates, and other factors beyond the control of
management of the Company, which could cause substantial inter-period variations
in the results of such activities.
LIABILITIES
GENERAL
The Company derives funds principally from deposits and, to a far
lesser extent, from short-term reverse repurchase agreements and borrowings from
the FHLB. In addition, funds are generated from loan repayments and payoffs,
sales of investment securities, and, since late 1993, from sales of foreclosed
properties. Historically, the Company has not accessed the capital markets for
other types of debt instruments, and has had nominal activity in selling
seasoned, single family mortgage loans which are no longer a significant
component to the Company's operations.
49
<PAGE> 51
DEPOSITS
The Company has several types of deposit accounts principally designed
to attract short-term deposits. The following table sets forth the distribution
of average deposits and the weighted average interest rates paid thereon during
the periods indicated (dollars are in thousands). See NOTE G of the NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------------------------------------------------
1996 1995
------------------------------------- --------------------------------------
WEIGHTED WEIGHTED
AVERAGE PERCENT AVERAGE PERCENT
INTEREST OF INTEREST OF
AMOUNT(1) RATE TOTAL AMOUNT(1) RATE TOTAL
---------- ----------- ---------- ---------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
Checking/NOW $ 28,032 0.8% 4.0% $ 29,431 1.6% 4.3%
Passbook 26,500 1.9 3.8 29,831 0.7 4.4
Money market deposits 26,254 1.4 3.7 51,920 2.0 7.7
Certificates of deposit 621,050 5.6 88.5 564,147 5.7 83.6
-------- ------ -------- ------
Total $701,836 5.1% 100.0% $675,329 5.0% 100.0%
======== ====== ======== ======
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------------------------
1994
--------------------------------------
WEIGHTED
AVERAGE PERCENT
INTEREST OF
AMOUNT(1) RATE TOTAL
---------- ---------- ------------
<S> <C> <C> <C>
Checking/NOW $ 38,462 0.5% 5.0%
Passbook 35,978 3.8 4.7
Money market deposits 110,324 1.9 14.5
Certificates of deposit 578,538 4.5 75.8
-------- -----
Total $763,302 3.9% 100.0%
======== ======
</TABLE>
- ----------------
(1) Amounts represent monthly averages.
50
<PAGE> 52
The table below sets forth the maturities of the Company's certificates
of deposit outstanding at the dates indicated (dollars are in thousands).
<TABLE>
<CAPTION>
DECEMBER 31, 1996
------------------------------------------------------------------------------
OVER OVER
THREE MONTHS SIX MONTHS
THREE MONTHS THROUGH THROUGH OVER
OR LESS SIX MONTHS ONE YEAR ONE YEAR TOTAL
-------------- -------------- -------------- -------------- --------------
<S> <C> <C> <C> <C> <C>
BALANCES LESS
THAN $100,000
3.00% or less $ 2,345 $ - $ - $ 4 $ 2,349
3.01% - 4.00% 236 104 340
4.01% - 5.00% 54,800 4,556 3,239 17,127 79,722
5.01% - 6.00% 108,271 91,529 93,528 52,373 345,701
6.01% - 7.00% 9,760 6,464 40,078 22,706 79,008
7.01% or more 234 100 334
-------------- -------------- -------------- -------------- --------------
175,646 102,653 136,845 92,310 507,454
BALANCES GREATER
THAN OR EQUAL
TO $100,000
3.00% or less 104 104
3.01% - 4.00%
4.01% - 5.00% 12,609 160 5,934 18,703
5.01% - 6.00% 29,449 25,322 30,697 11,224 96,692
6.01% - 7.00% 3,554 2,060 13,373 5,010 23,997
7.01% or more 200 100 300
-------------- -------------- -------------- -------------- --------------
45,716 27,582 44,230 22,268 139,796
-------------- -------------- -------------- -------------- --------------
TOTAL $ 221,362 $ 130,235 $ 181,075 $ 114,578 $ 647,250
============== ============== ============== ============== ==============
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, 1995
------------------------------------------------------------------------------
OVER OVER
THREE MONTHS SIX MONTHS
THREE MONTHS THROUGH THROUGH OVER
OR LESS SIX MONTHS ONE YEAR ONE YEAR TOTAL
-------------- -------------- -------------- -------------- --------------
<S> <C> <C> <C> <C> <C>
BALANCES LESS
THAN $100,000
3.00% or less $ 545 $ 2 $ - $ - $ 547
3.01% - 4.00% 5,702 1,636 276 27 7,641
4.01% - 5.00% 64,714 16,518 25,675 2,639 109,546
5.01% - 6.00% 56,392 53,349 116,277 27,994 254,012
6.01% - 7.00% 43,515 12,807 10,977 26,312 93,611
7.01% or more 466 1,536 4,643 1,137 7,782
-------------- -------------- -------------- -------------- --------------
171,334 85,848 157,848 58,109 473,139
BALANCES GREATER
THAN OR EQUAL
TO $100,000
3.00% or less 101 101
3.01% - 4.00% 108 338 446
4.01% - 5.00% 13,800 2,666 5,660 1,286 23,412
5.01% - 6.00% 12,549 16,975 31,331 6,640 67,495
6.01% - 7.00% 15,112 5,292 5,743 8,296 34,443
7.01% or more 1,020 1,191 1,672 630 4,513
-------------- -------------- -------------- -------------- --------------
42,690 26,462 44,406 16,852 130,410
-------------- -------------- -------------- -------------- --------------
TOTAL $ 214,024 $ 112,310 $ 202,254 $ 74,961 $ 603,549
============== ============== ============== ============== ==============
</TABLE>
51
<PAGE> 53
BORROWINGS
The Company considers advances from the FHLB system its primary source
of borrowings. The FHLB system functions as a source of credit to savings
institutions which are members of a Federal Home Loan Bank System. See
REGULATION-Federal Home Loan Bank System. The Company may apply for advances
from the FHLB secured by the capital stock of the FHLB owned by the Company and
certain of the Company's mortgages and other assets (principally obligations
issued or guaranteed by the U.S. Government or agencies thereof). Advances can
be requested for any business purpose in which the Company is authorized to
engage. In granting advances, the FHLB considers a member's credit worthiness
and other relevant factors. At December 31, 1996, the Company had an approved
line of credit (collateralized by specific mortgage collateral) with the FHLB
for $200.0 million at terms of up to two years. The Company had outstanding at
year-end 1996 borrowings from the FHLB of $50.0 million at a weighted average
interest rate of 6.12% which mature in June 1997.
In early 1997, the FHLB approved an increase in the Company's line of
credit to up to 35% of total assets, collateralized by a combination of mortgage
and investment securities collateral with terms up to ten years. With
anticipated future loan fundings and investment purchases, the Company expects
to actively utilize the available line.
To further supplement its funding needs, the Company may enter into
reverse repurchase agreements, in which it sells securities with an agreement to
repurchase the same securities at a specific future date (overnight to 90 days).
The Company enters into such transactions only with dealers determined by
management to be financially strong and who are recognized as primary dealers in
U.S. Treasury securities by the Federal Reserve Board. The Company had no such
borrowings in 1996. See NOTE H of the NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS.
ACCOUNTS PAYABLE AND OTHER LIABILITIES
Accounts payable and other liabilities totaled $23.2 million and $4.6
million at December 31, 1996 and 1995, respectively. At year end 1996, the
Company had recorded a liability of approximately $15.0 million relating to the
repurchase of certain loans sold in December. After year end, the Company agreed
to repurchase these loans and has included them in total loans receivable in the
Company's consolidated balance sheets. This amount represents the cash to be
paid for the loans repurchased. Final settlement of this amount was made in
February 1997.
SENIOR NOTES
At December 31, 1996 and 1995, the Company had outstanding $12.3
million and $12.0 million, respectively, in Senior Notes due 2000, which were
issued in December 1995. The increase in senior notes from 1995 to 1996
represents $0.3 million of amortization on the OID recorded upon the issuance of
these senior notes, which have an aggregate principal amount of $13.5 million,
and is recorded as additional interest expense in the Company's statements of
operations. Total interest expense on senior notes recorded during 1996 was $1.9
million.
STOCKHOLDERS' EQUITY
Total stockholders' equity at December 31, 1996 and 1995 was $43.9
million and $39.0 million, respectively. The increase in equity of $4.9 million
in 1996 over 1995 was due to consolidated net earnings of $7.5 million, which
were offset in part by accrued but unpaid dividends of $2.4 million on the
Cumulative Perpetual Preferred Stock issued by the Company in December 1995.
52
<PAGE> 54
LIQUIDITY
The table below summarizes the principal cash flows which gave rise to
the change in the size of the Company's balance sheet during the past three
years (dollars are in thousands).
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------------------
1996 1995 1994
------------- ------------ -------------
<S> <C> <C> <C>
BEGINNING CASH AND EQUIVALENTS $ 14,015 $ 18,063 $ 42,901
ASSET CASH FLOWS
Net cash flows attributable to
Foreclosed properties(1)(2) 14,655 25,967 54,344
Securities(3) 24,687 39,007 (6,742)
Sales of loans 130,413 19,282 -
Loan principal payments and payoffs 93,953 44,254 67,080
Cash flows from other assets(4) (10,965) 2,221 23,854
------------- ------------ -------------
252,743 130,731 138,536
New loans, net of undisbursed funds(2) (266,590) (160,035) (27,769)
------------- ------------ -------------
Net asset cash flows (13,847) (29,304) 110,767
------------- ------------ -------------
LIABILITY CASH FLOWS
Deposits
Net sales of deposits (178,884) (16,807) (183,260)
Other changes, net 204,972 65,698 6,107
Net short-term borrowings 50,000 (47,141) 47,141
Cash flows from other liabilities 14,616 (1,840) (1,687)
------------- ------------ -------------
Net liability cash flows 90,704 (90) (131,699)
------------- ------------ -------------
EQUITY CASH FLOWS
Net proceeds from capital offering - 25,843 -
Cash flows from operations 3,106 (497) (3,906)
------------- ------------ -------------
Net equity cash flows 3,106 25,346 (3,906)
------------- ------------ -------------
Total liability and equity cash flows 93,810 25,256 (135,605)
------------- ------------ -------------
NET CASH FLOWS 79,963 (4,048) (24,838)
------------- ------------ -------------
ENDING CASH AND EQUIVALENTS $ 93,978 $ 14,015 $ 18,063
============= ============ =============
</TABLE>
- ------------------
(1) Proceeds from sales of properties, less post-foreclosure
capitalized costs.
(2) New loan cash flows and the net proceeds from sales of
properties exclude the financed portion of property sales
where the Company financed the sale. For the three years ended
December 31, 1996, the Company provided $18.2 million, $16.0
million, and $13.4 million, respectively, of financing in
connection with sales of foreclosed properties, which amounts
principally related to sales of apartment buildings.
(3) Includes sales and purchases of investment securities.
(4) Includes fixed assets, FHLB stock, income tax receivable,
other loan related disbursements and other assets.
53
<PAGE> 55
INTEREST RATE RISK MANAGEMENT
The objective of interest rate risk management is to stabilize the
Company's net interest income ("NII") while limiting the change in its net
portfolio value ("NPV") from interest rate fluctuations. The Company seeks to
achieve this objective by matching its interest sensitive assets and
liabilities, and maintaining the maturity and repricing of these assets and
liabilities at appropriate levels given the interest rate environment. When the
amount of rate sensitive liabilities exceeds rate sensitive assets within
specified periods, the NII generally will be negatively impacted by a rising
rate environment during such periods. The speed and velocity of the repricing of
assets and liabilities will also contribute to the effects on NII.
The Company utilizes two methods for measuring interest rate risk. Gap
analysis is the first method, with a focus on measuring absolute dollar amounts
subject to repricing within certain periods of time, particularly the one-year
maturity horizon.
In addition to utilizing gap analysis in measuring interest rate risk,
the Company performs periodic interest rate simulations. These simulations
provide the Company with an estimate of both the dollar amount and percentage
change in NII under various interest rate scenarios. All assets and liabilities
are subjected to tests of up to 400 basis points in increases and decreases in
interest rates. Under each interest rate scenario, the Company projects its net
interest income and the NPV of its current balance sheet. From these results,
the Company can then develop alternatives to dealing with the tolerance
thresholds.
During 1995, the Company initiated certain measures to reduce interest
rate risk exposure embedded within the balance sheet. These measures included
the sale of approximately $110 million in fixed rate assets and the purchase of
a $450 million interest rate cap on the liability base subject to reprice within
a six-month period. During 1996, the Company continued to reduce interest rate
risk exposure by making additional fixed rate loan sales of approximately $35.0
million and sales of single family 11th DCOFI-indexed loans amounting to
approximately $45.0 million. The Company also was successful in extending the
duration of its liability base from six to seven months during the course of
1996.
A principal mechanism used by the Company in the past for interest rate
risk management was the origination of ARMs tied to the 11th DCOFI. The basic
premise was that the Company's actual cost of funds would parallel the 11th
DCOFI and, as such, the interest rate spread would generate the desired
operating results. Adjustable rate mortgage loans ("ARMS") comprised almost all
of the Company's loan originations during 1996. ARMs represented approximately
75% of the Company's loan portfolio at December 31, 1996 and 1995, respectively.
The Company currently originates loans tied to multiple indices including
London Interbank Offered Rate ("LIBOR"), CMT, prime, and 11th DCOFI.
ARMs tied to 11th DCOFI are slower in responding to current interest
rate environments than other types of variable rate loans because the index is a
compilation of the average rates paid by member institutions of the 11th
District of the FHLB. This index typically lags market rate changes in both
directions. If interest rates on deposit accounts increase due to market
conditions and competition, it may be anticipated that the Company will, absent
offsetting factors, experience a decline in its net interest margin. A
contributing factor would be the lag in upward pricing of the ARMs tied to the
11th DCOFI. However, the lag inherent in the 11th DCOFI will also cause the ARMs
to remain at a higher rate for a longer period after interest rates on deposits
begin to decline. The 11th DCOFI lag during a falling interest rate environment
should benefit, in the short-term, the Company's Net Interest Margin, but the
actual dynamics of prepayments and the fact that ARMs reprice at various
intervals may alter this expected benefit.
Since 1995, the Company has been utilizing interest rate floors to
mitigate the risk of interest margin compression on its new loans in a
decreasing interest rate environment. Typically, these floors represent the rate
at underwriting. Additionally, on most new income property loans, the Company
utilizes interest rate caps. These caps are life caps and are usually five
points above the rate at underwriting or at an amount that would still allow for
one-to-one debt service coverage at the maximum rate, thereby reducing the
likelihood of borrower default in a rising interest rate environment. The risk
to the Company that is associated with the interest rate caps is that interest
rates will exceed the maximum loan rates on such loan, and while the Company's
cost of funds continues to rise, the interest income derived from these loans
will be fixed, resulting in an overall compression on net interest income.
54
<PAGE> 56
The following sets forth information concerning sensitivity of the
Company's interest-earning assets and interest-bearing liabilities as of
December 31, 1996 (dollars in thousands). Such assets and liabilities are
classified by the earlier of maturity or repricing date.
<TABLE>
<CAPTION>
OVER THREE OVER SIX OVER ONE
THREE THROUGH THROUGH YEAR OVER
MONTHS SIX TWELVE THROUGH FIVE
OR LESS MONTHS MONTHS FIVE YEARS YEARS TOTAL
----------- ----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
INTEREST-EARNING ASSETS
Cash and cash equivalents(1) $ 12,586 $ -- $ 100 $ -- $ -- $ 12,686
Investments and FHLB stock 6,788 796 802 36,773 -- 45,159
Loans(2) 286,882 191,094 55,409 44,447 114,695 692,527
----------- ----------- ----------- ----------- ----------- -----------
Total interest-earning assets $ 306,256 $ 191,890 $ 56,311 $ 81,220 $ 114,695 $ 750,372
=========== =========== =========== =========== =========== ===========
INTEREST-BEARING LIABILITIES
Deposits
Demand $ 70,559 $ -- $ -- $ -- $ -- $ 70,559
CDs 221,362 130,235 181,075 114,578 -- 647,250
FHLB advances -- 50,000 -- -- -- 50,000
Senior Notes -- -- -- 12,307 -- 12,307
----------- ----------- ----------- ----------- ----------- -----------
Total interest-bearing liabilities $ 291,921 $ 180,235 $ 181,075 $ 126,885 $ -- $ 780,116
=========== =========== =========== =========== =========== ===========
Interest rate sensitivity gap $ 14,335 $ 11,655 $ (124,764) $ (45,665) $ 114,695 $ (29,744)
Cumulative interest rate
sensitivity gap 14,335 25,990 (98,774) (144,439) (29,744) (29,744)
Cumulative interest rate
sensitivity gap as a percentage
of total interest-earning assets 4.7% 13.5% -175.4% -177.8% -25.9% -4.0%
- ---------------
(1) Cash and cash equivalents do not include $81.3 million of non-interest
earning cash, a substantial portion of which was invested in loans and
securities subsequent to December 31, 1996.
(2) Balances include nonaccrual loans of $28.6 million at December 31, 1996.
</TABLE>
REGULATORY CAPITAL REQUIREMENTS
Federally-insured savings institutions such as the Bank are required to
maintain minimum levels of regulatory capital. The OTS also is authorized to
impose capital requirements in excess of these standards on individual savings
institutions on a case-by-case basis. At December 31, 1996, the Bank was in
compliance with all applicable regulatory capital requirements and qualified as
a "well-capitalized" institution under applicable laws and regulations. For
information relating to the Bank's compliance with these requirements, see ITEM
1. BUSINESS - REGULATION - SAVINGS INSTITUTION REGULATION - Regulatory Capital
Requirements.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
See Index included in Item 14 below and the Financial Statements which
begin on the first page following the Signature Page.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not Applicable
55
<PAGE> 57
P A R T III.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required in ITEM 10 is hereby incorporated by reference
to the Company's definitive Proxy Statement to be filed with the Securities and
Exchange Commission for the 1997 Annual Meeting of Stockholders ("Proxy
Statement") under the captions "NOMINATION AND ELECTION OF DIRECTORS" and
"COMPENSATION OF EXECUTIVE OFFICERS DURING 1996."
ITEM 11. EXECUTIVE COMPENSATION.
The information required in ITEM 11 is hereby incorporated by reference
to the Proxy Statement under the captions "COMPENSATION OF EXECUTIVE OFFICERS
DURING 1996" and "REPORT ON EXECUTIVE COMPENSATION."
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required in ITEM 12 is hereby incorporated by reference
to the Proxy Statement under the caption "SECURITY OWNERSHIP OF PRINCIPAL
STOCKHOLDERS AND MANAGEMENT; AFFILIATE TRANSACTIONS."
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required in ITEM 13 is hereby incorporated by reference
to the Proxy Statement under the caption "SECURITY OWNERSHIP OF PRINCIPAL
STOCKHOLDERS AND MANAGEMENT; AFFILIATE TRANSACTIONS."
56
<PAGE> 58
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(A) The following documents are filed as part of this report:
(1) Financial Statements.
INDEPENDENT AUDITORS' REPORT
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Statements of Financial Condition as of
December 31, 1996 and 1995.
Consolidated Statements of Operations for the years
ended December 31, 1996, 1995 and 1994.
Consolidated Statements of Stockholders' Equity for
the years ended December 31, 1996, 1995 and 1994.
Consolidated Statements of Cash Flows for the years
ended December 31, 1996, 1995 and 1994.
Notes to Consolidated Financial Statements for the
years ended December 31, 1996, 1995 and 1994.
MANAGEMENT'S ASSERTION REPORT
INDEPENDENT ACCOUNTANTS' REPORT
(2) Financial Statement Schedules.
Schedules are omitted because the conditions requiring their
filing are not applicable or because the required information
is provided in the Consolidated Financial Statements,
including the Notes thereto.
(3) Exhibits.
EXHIBIT NO. DESCRIPTION OF DOCUMENT
(3.1) Certificate of Incorporation and Bylaws. The
Company's Certificate of Incorporation and
Bylaws are attached as Exhibits 4(a) and
4(b) to the Company's Registration Statement
on Form S-8 (Registration No. 33-74800)
filed on February 3, 1994.
(3.2) Amendment of Certificate of Incorporation.
Filed as Exhibit 3 to the Company's
Quarterly Report on Form 10-Q for the
quarter ended September 30, 1995.
(3.3) Certificate of Designations and Preferences
of the Cumulative Preferred Stock, Series A.
Filed with Form 8-K dated February 7, 1996.
(4.1) Specimen Stock Certificate for the Company's
Common Stock. Filed as Exhibit 4 to the
Company's Annual Report on Form 10-K for the
year ended December 31, 1985.
(4.2) Form of Senior Notes due 2000. Filed as an
exhibit to the Form 8-K dated February 7,
1996.
57
<PAGE> 59
EXHIBIT NO. DESCRIPTION OF DOCUMENT
(10.1) Stock Option Plan. Filed as an exhibit to
the Form S-8 (Registration No. 33-74800)
dated February 3, 1994 and updated filing on
Form S-8 (Registration No. 333-23587) dated
March 19, 1997.
(10.2) Employment Agreement between the Company and
Scott Braly. Filed as Exhibit 10 to the
Company's Annual Report on Form 10-K for the
year ended December 31, 1993.
(10.3) Lease of corporate headquarters.
(10.4) Unit Purchase Agreement between the Company
and the investors named therein. Filed as an
exhibit to the Form 8-K dated February 7,
1996.
(10.5) Form of Warrant to purchase 2.4 million
shares of common stock. Filed as an exhibit
to the Form 8-K dated February 7, 1996.
(10.6) Registration Rights Agreement between the
Company and certain investors as named
therein. Filed as an exhibit to the Form 8-K
dated February 7, 1996.
(11.1) Statement re: Computation of Per Share
Earnings (see Note A of the Notes to
Consolidated Financial Statements).
(21.1) Subsidiaries of the Registrant. Filed as
Exhibit 22 to the Company's Annual Report on
Form 10-K for the year ended December 31,
1994.
(23.1) Independent Auditors' Consent.
(27.1) Financial Data Schedules.
(B) Reports on Form 8-K
No current reports on Form 8-K were filed for the three months ended
December 31, 1996.
58
<PAGE> 60
SIGNATURES
Pursuant to the requirements of section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
DATED: APRIL 14, 1997 HAWTHORNE FINANCIAL CORPORATION
BY: /S/ SCOTT A. BRALY
---------------------------------------
SCOTT A. BRALY, PRESIDENT
AND CHIEF EXECUTIVE OFFICER
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant in
the capacities and on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE DATE
- --------- ----
<S> <C>
/S/ SCOTT A. BRALY April 14, 1997
- -----------------------------------------------------
SCOTT A. BRALY, PRESIDENT AND
CHIEF EXECUTIVE OFFICER
(PRINCIPAL EXECUTIVE OFFICER)
/S/ NORMAN A. MORALES April 14, 1997
- -----------------------------------------------------
NORMAN A. MORALES, EXECUTIVE VICE PRESIDENT AND
CHIEF FINANCIAL OFFICER
(PRINCIPAL FINANCIAL AND ACCOUNTING OFFICER)
/S/ MARILYN G. AMATO April 14, 1997
- -----------------------------------------------------
MARILYN G. AMATO, DIRECTOR
/S/ TIMOTHY R. CHRISMAN April 14, 1997
- -----------------------------------------------------
TIMOTHY R. CHRISMAN, CHAIRMAN OF THE BOARD
/S/ R. MICHAEL HALL April 14, 1997
- -----------------------------------------------------
R. MICHAEL HALL, DIRECTOR
/S/ CHARLES S. JACOBS April 14, 1997
- -----------------------------------------------------
CHARLES S. JACOBS, DIRECTOR
/S/ ANTHONY W. LIBERATI April 14, 1997
- -----------------------------------------------------
ANTHONY W. LIBERATI, DIRECTOR
/S/ HARRY F. RADCLIFFE April 14, 1997
- -----------------------------------------------------
HARRY F. RADCLIFFE, DIRECTOR
/S/ HOWARD E. RITT April 14, 1997
- -----------------------------------------------------
HOWARD E. RITT, DIRECTOR
/S/ ROBERT C. TROOST April 14, 1997
- -----------------------------------------------------
ROBERT C. TROOST, DIRECTOR
</TABLE>
59
<PAGE> 61
FINANCIAL STATEMENTS AND INDEPENDENT AUDITORS' REPORT
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
AS OF DECEMBER 31, 1996 AND 1995
THREE YEARS ENDED DECEMBER 31, 1996
F-1
<PAGE> 62
C O N T E N T S
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
INDEPENDENT AUDITORS' REPORT F-3
CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION F-4
CONSOLIDATED STATEMENTS OF OPERATIONS F-6
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY F-7
CONSOLIDATED STATEMENTS OF CASH FLOWS F-8
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS F-10
MANAGEMENT'S ASSERTION REPORT F-44
INDEPENDENT ACCOUNTANTS' REPORT F-46
</TABLE>
F-2
<PAGE> 63
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders
Hawthorne Financial Corporation
El Segundo, California:
We have audited the accompanying consolidated statements of financial
condition of Hawthorne Financial Corporation and Subsidiary (the "Company") as
of December 31, 1996 and 1995 and the related consolidated statements of
operations, stockholders' equity and cash flows for each of the three years in
the period ended December 31, 1996. These consolidated financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements based upon our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial condition of Hawthorne Financial
Corporation and Subsidiary as of December 31, 1996 and 1995, and the results of
their operations and their cash flows for each of the three years in the period
ended December 31, 1996, in conformity with generally accepted accounting
principles.
DELOITTE & TOUCHE LLP
January 31, 1997
Los Angeles, California
F-3
<PAGE> 64
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(DOLLARS ARE IN THOUSANDS)
ASSETS
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------------
1996 1995
--------------- ---------------
<S> <C> <C>
Cash and cash equivalents (NOTE B) $ 93,978 $ 14,015
Investment securities-available-for-sale, at market (NOTE C) 38,371 62,793
Loans receivable (net of allowance for
estimated credit losses of $13,515 in 1996
and $15,192 in 1995) (NOTE D) 672,401 617,328
Real estate owned (net of allowance for
estimated losses of $11,871 in 1996
and $15,725 in 1995) (NOTE E) 20,140 37,905
Accrued interest receivable 4,781 3,583
Investment in capital stock of Federal
Home Loan Bank - at cost 6,788 6,312
Office property and equipment - at cost,
net (NOTE F) 4,729 9,597
Deferred tax asset, net (NOTE I) 4,243
Other assets 1,764 2,050
--------------- ---------------
$ 847,195 $ 753,583
=============== ===============
</TABLE>
The accompanying notes are an integral part of these statements.
F-4
<PAGE> 65
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION - CONTINUED
(DOLLARS ARE IN THOUSANDS EXCEPT PAR VALUES)
LIABILITIES AND STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------
1996 1995
----------- -----------
<S> <C> <C>
Liabilities
Deposits (NOTE G) $ 717,809 $ 698,008
Short-term borrowings (NOTE H) 50,000
Accounts payable and other liabilities 23,157 4,603
Senior notes (NOTE L) 12,307 12,006
----------- -----------
803,273 714,617
Commitments and contingencies (NOTE P)
Stockholders' equity (NOTES L and M)
Preferred stock - $0.01 par value; authorized 10,000,000 shares
Cumulative preferred stock, series A: liquidation preference,
$50 per share; authorized, 270 shares; outstanding, 270 shares Common
stock - $0.01 par value; authorized, 20,000,000 shares;
issued and outstanding, 2,604,675 shares 26 26
Capital in excess of par value - cumulative preferred stock, series A 11,592 11,592
Capital in excess of par value - common stock 7,745 7,745
Unrealized gain (loss) on available-for-sale securities (132) 6
Retained earnings 24,858 19,788
----------- -----------
44,089 39,157
Less
Treasury stock, at cost - 5,400 shares (48) (48)
Loan to Employee Stock Ownership Plan (NOTE K) (119) (143)
----------- -----------
43,922 38,966
----------- -----------
$ 847,195 $ 753,583
=========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-5
<PAGE> 66
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS ARE IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------------------------
1996 1995 1994
-------------- --------------- ---------------
<S> <C> <C> <C>
Interest revenues
Loans (NOTE D) $ 62,152 $ 47,778 $ 47,751
Investments 5,632 2,399 4,523
Mortgage-backed securities 3,209 2,963
-------------- --------------- ---------------
67,784 53,386 55,237
-------------- --------------- ---------------
Interest costs
Deposits (NOTE G) 35,568 33,593 29,694
Borrowings (NOTE H) 2,471 801 749
Senior notes 1,921 92
-------------- --------------- ---------------
39,960 34,486 30,443
-------------- --------------- ---------------
Net interest income before contractual interest
on nonaccrual loans 27,824 18,900 24,794
Contractual interest due on nonaccrual loans (NOTE A) (2,430) (2,392) (5,666)
-------------- --------------- ---------------
Net interest income 25,394 16,508 19,128
Provision for credit losses (NOTE D) 7,489 14,895 5,298
-------------- --------------- ---------------
Net interest income after provision for
credit losses 17,905 1,613 13,830
Noninterest revenues 1,927 1,311 1,973
Noninterest expenses
Employee 9,800 10,118 10,740
Occupancy 2,890 2,841 2,780
Operating 4,565 3,539 5,002
Professional 1,615 1,579 2,816
SAIF premium and OTS assessment 2,152 2,213 2,557
Goodwill amortization (NOTE A) 24 49 16
-------------- --------------- ---------------
21,046 20,339 23,911
-------------- --------------- ---------------
Real estate operations (NOTE E) (956) (436) 2,433
Gain on sale of loans 437 68
Gain on sale of securities 248 2,954
Disposition of deposits and premises (NOTE J) 6,413 (117) 2,835
Other revenues (expenses), net (3,803) 1,346
-------------- --------------- ---------------
Net earnings (loss) before income taxes 1,125 (13,600) (2,840)
Income tax benefit (expense) (NOTE I) 6,382 (617) (123)
-------------- --------------- ---------------
Net earnings (loss) $ 7,507 $ (14,217) $ (2,963)
============== =============== ===============
Net earnings (loss) available for Common $ 5,704 $ (14,341) $ (2,963)
============== =============== ===============
Net earnings (loss) per share (NOTE A) $ 1.11 $ (5.52) $ (1.14)
============== =============== ===============
Weighted average shares 5,141 2,599 2,599
============== =============== ===============
</TABLE>
The accompanying notes are an integral part of these statements.
F-6
<PAGE> 67
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
CAPITAL IN
CAPITAL IN EXCESS OF UNREALIZED
CUMULATIVE EXCESS OF PAR VALUE- GAIN (LOSS)
PREFERRED PAR VALUE- PREFERRED ON MARKETABLE
COMMON STOCK, COMMON STOCK, EQUITY
STOCK SERIES A STOCK SERIES A SECURITIES
--------------- --------------- --------------- --------------- --------------
<S> <C> <C> <C> <C> <C>
BALANCE AT DECEMBER 31, 1993 $ 2,605 $ 2,921 $ 1,573
UNREALIZED GAINS (LOSSES) (180)
NET EARNINGS (LOSS)
REPAYMENTS
--------------- --------------- --------------- --------------- --------------
BALANCE AT DECEMBER 31, 1994 2,605 2,921 1,393
CHANGE IN PAR VALUE OF COMMON
STOCK (2,579) 2,579
ISSUANCE OF PREFERRED STOCK 12,760
ISSUANCE OF WARRANTS 2,245
OFFERING COSTS (1,168)
UNREALIZED GAINS (LOSSES) (1,387)
NET EARNINGS (LOSS)
ACCRUED DIVIDENDS ON PREFERRED
STOCK
REPAYMENTS
--------------- --------------- --------------- --------------- --------------
BALANCE AT DECEMBER 31, 1995 26 7,745 11,592 6
UNREALIZED GAINS (LOSSES) (138)
NET EARNINGS (LOSS)
ACCRUED DIVIDENDS ON PREFERRED
STOCK
REPAYMENTS
--------------- --------------- --------------- --------------- --------------
BALANCE AT DECEMBER 31, 1996 $ 26 $ $ 7,745 $ 11,592 $ (132)
--------------- --------------- --------------- --------------- --------------
</TABLE>
<TABLE>
<CAPTION>
LOANS TO
EMPLOYEE
STOCK TOTAL
RETAINED TREASURY OWNERSHIP STOCKHOLDERS'
EARNINGS STOCK PLAN EQUITY
--------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C>
BALANCE AT DECEMBER 31, 1993 $ 37,085 $ (48) $ (187) $ 43,949
UNREALIZED GAINS (LOSSES) (180)
NET EARNINGS (LOSS) (2,963) (2,963)
REPAYMENTS 21 21
--------------- --------------- --------------- ---------------
BALANCE AT DECEMBER 31, 1994 34,122 (48) (166) 40,827
CHANGE IN PAR VALUE OF COMMON
STOCK
ISSUANCE OF PREFERRED STOCK 12,760
ISSUANCE OF WARRANTS 2,245
OFFERING COSTS (1,168)
UNREALIZED GAINS (LOSSES) (1,387)
NET EARNINGS (LOSS) (14,217) (14,217)
ACCRUED DIVIDENDS ON PREFERRED
STOCK (117) (117)
REPAYMENTS 23 23
--------------- --------------- --------------- ---------------
BALANCE AT DECEMBER 31, 1995 19,788 (48) (143) 38,966
UNREALIZED GAINS (LOSSES) (138)
NET EARNINGS (LOSS) 7,507 7,507
ACCRUED DIVIDENDS ON PREFERRED
STOCK (2,437) (2,437)
REPAYMENTS 24 24
--------------- --------------- --------------- ---------------
BALANCE AT DECEMBER 31, 1996 $ 24,858 $ (48) $ (119) $ 43,922
--------------- --------------- --------------- ---------------
</TABLE>
The accompanying notes are an integral part of these statements.
F-7
<PAGE> 68
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------------
1996 1995 1994
------------- ------------ -----------
<S> <C> <C> <C>
NET CASH FROM OPERATING ACTIVITIES
Net earnings (loss) $ 7,507 $(14,217) $(2,963)
Adjustments
Provision (benefit) for income taxes (4,257)
Provision for estimated credit losses 7,489 14,895 5,298
Provision for estimated credit losses
on real estate owned 3,511 5,100
Net gain on sale of branches (6,413) 117 (2,835)
Net gain on sale of securities (248) (2,954)
Net gain on sale of real estate owned (1,769) (2,467) (2,980)
Net gain from sale of other assets (462) (68)
Loan fee and discount accretion (3,537) (2,061) (834)
Depreciation and amortization 1,654 1,441 717
FHLB dividends (393) (332) (325)
Goodwill amortization 24 49 16
Decrease (increase) in:
Accrued interest receivable (1,275) (41) 27
Income tax assets 2,630 22,767
Other assets (485) (1,018) (653)
Increase (decrease) in other liabilities 14,616 (1,840) (1,687)
Other, net (219) 81
------------- ------------ -----------
Net cash provided by operating activities 15,743 (685) 16,548
------------- ------------ -----------
NET CASH FLOWS FROM INVESTING ACTIVITIES
Investment securities
Purchases (139,779) (62,792) (25,237)
Maturities 129,576 47,000
Sales proceeds 34,857 44,333
Mortgage-backed securities
Purchases (34,855)
Principal amortization 33 7,007 6,350
Sales proceeds 50,459
Loans
New loans funded (204,914) (143,236) (24,677)
Construction disbursements (61,676) (16,799) (3,092)
Payoffs 72,897 27,760 52,178
Sales proceeds 130,413 19,282
Principal amortization 21,056 16,494 14,902
Other, net (13,137) 503
Real estate
Sale proceeds 26,674 41,176 75,612
Capitalized costs (12,015) (15,209) (21,485)
Other, net (4) 217
Redemption of FHLB stock 1,015 802
Office property and equipment
Sales proceeds 4,566 795 5,782
Additions (441) (1,767) (4,892)
------------- ------------ -----------
Net cash (used) provided by investing activities (11,894) (30,979) 88,605
------------- ------------ -----------
</TABLE>
The accompanying notes are an integral part of these statements.
F-8
<PAGE> 69
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS-CONTINUED
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------------
1996 1995 1994
------------ ------------- ------------
<S> <C> <C> <C>
NET CASH FLOWS FROM FINANCING ACTIVITIES
Payment for sale of deposits (178,884) (16,807) (183,260)
Net change in deposits 204,973 65,698 6,107
Net change in borrowings 50,000 (47,141) 47,141
Collection of ESOP loan 25 23 21
Increase in senior notes 12,006
Net proceeds from issuance of preferred stock 11,592
Net proceeds from issuance of warrants 2,245
------------ ------------- ------------
Net cash provided (used) by financing activities 76,114 27,616 (129,991)
------------ ------------- ------------
INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS 79,963 (4,048) (24,838)
CASH AND CASH EQUIVALENTS
AT BEGINNING OF YEAR 14,015 18,063 42,901
------------ ------------- ------------
CASH AND CASH EQUIVALENTS
AT END OF YEAR $ 93,978 $ 14,015 $ 18,063
============ ============= ============
SUPPLEMENTAL DISCLOSURES OF
CASH FLOW INFORMATION
Cash paid during the year for
Interest $ 39,672 $ 34,815 $ 30,164
Income taxes 175
Non-cash investing and financing activities
Real estate acquired in settlement of loans 21,486 38,275 85,703
Loans originated to finance sales of real estate owned 18,141 15,996 13,411
Net change in unrealized losses on
available-for-sale securities (113) (1,393) (180)
Transfer of held-to-maturity securities to available-for-sale 30,168
Loan activity
Total commitments and permanent fundings $332,325 $197,376 $ 45,004
Less:
Change in undisbursed funds on construction
commitments (31,914) (16,095) (3,824)
Loans originated to finance property sales (18,141) (15,996) (13,411)
Undisbursed portion of new lines of credit (15,680) (5,250)
============ ============= ============
Net construction disbursements and loans funded $266,590 $160,035 $ 27,769
============ ============= ============
</TABLE>
The accompanying notes are an integral part of these statements.
F-9
<PAGE> 70
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE A - SUMMARY OF ACCOUNTING POLICIES
A summary of the significant accounting policies applied in the preparation of
the accompanying consolidated financial statements are set forth in the sections
which follow.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include accounts of Hawthorne Financial
Corporation ("Company") and its wholly-owned subsidiary, Hawthorne Savings,
F.S.B. ("Bank"). All material intercompany transactions and accounts have been
eliminated.
NATURE OF OPERATIONS
Hawthorne Savings is principally engaged in the business of attracting deposits
from the general public and using those deposits, together with borrowings and
other funds, to originate residential and income property real estate loans. The
Bank's principal sources of revenue are interest earned on mortgage loans and
investment securities, and fees received in connection with various deposit
account services and miscellaneous loan processing activities. The Bank's
principal expenses are interest paid on deposit accounts and the costs necessary
to operate the Bank.
CASH AND CASH EQUIVALENTS
The Bank, in accordance with regulations, must maintain qualifying liquid assets
at an average monthly balance of not less than 5% of the average of all deposit
accounts and other borrowings due in less than one year, and short-term
qualifying liquid assets at an average monthly balance of not less than 1% of
the average of all deposit accounts and other borrowings due in less than one
year. Liquid assets consists primarily of cash, certificates of deposit and
overnight investments. In addition, bankers' acceptances, and certain U.S.
Government securities, corporate notes and mortgage-backed securities are liquid
assets for regulatory purposes.
In the consolidated statements of cash flows, cash and cash equivalents include
cash, amounts due from banks, interest-bearing deposits, certificates of deposit
and overnight investments.
INVESTMENT SECURITIES
The Company classifies debt and equity securities upon acquisition into one of
three categories: held-to-maturity, available-for-sale, or trading. Debt
securities that the Company has the positive intent and ability to hold to
maturity are classified as held-to-maturity securities and reported at amortized
cost. Debt and equity securities that are bought and held principally for the
purpose of selling them in the near term are classified as trading securities
and reported at fair value, with unrealized gains and losses included in
earnings. Debt and equity securities not classified as either held-to-maturity
securities or trading securities are classified as available-for-sale securities
and reported at fair value, with unrealized gains and losses excluded from
earnings and reported in a separate component of stockholders' equity. At
December 31, 1996 and 1995, all debt investment securities are classified as
available-for-sale.
In November 1995, the Financial Accounting Standards Board ("FASB") issued a
"Guide to Implementation of Statement 115 on Accounting for Certain Investments
in Debt and Equity Securities: Questions and Answers" (the "Guide"). The Guide
allowed for a onetime assessment of the classification of all securities and, in
connection with such assessment, permitted the reclassification of securities
from the held-to-maturity classification to the available-for-sale as of a
single date no later than December 31, 1995, without calling into question
management's intent to hold to maturity the remaining securities classified as
held-to-maturity. On December 8, 1995, the Bank transferred
F-10
<PAGE> 71
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
$48,287,000 of securities from held-to-maturity to available-for-sale for the
purposes of subsequently selling the securities and improving the Bank's
risk-based capital ratio. The Bank sold the securities in December 1995, which
resulted in a realized loss of $9,643.
LOANS RECEIVABLE
The Company defers all loan fees, net of certain direct costs associated with
originating loans, and amortizes these net deferred fees into interest revenue
as a yield adjustment over the lives of the loans using the interest method for
permanent loans and the straight-line method for construction loans. When a loan
is paid off, any unamortized net deferred fees are recognized in interest
income.
Interest on loans is recognized in revenue as earned and is accrued only if
deemed collectible. Loans one or more payments delinquent are placed on
nonaccrual status, meaning that the Company stops accruing interest on such
loans and reverses any interest previously accrued but not collected. A
nonaccrual loan may be restored to accrual status when delinquent principal and
interest payments are brought current and future monthly principal and interest
payments are expected to be collected.
All loans are classified as held-to-maturity as the Company has the current
intent and ability to hold these loans in portfolio until maturity.
REAL ESTATE OWNED
Properties acquired through foreclosure, or deed in lieu of foreclosure ("real
estate owned"), are carried at the lower of cost or estimated fair value of the
property. Subsequent declines in fair value, if any, are accounted for through
the establishment of a specific reserve on the property. The determination of a
property's estimated fair value incorporates (1) revenues projected to be
realized from disposal of the property, less (2) construction and renovation
costs, (3) marketing and transaction costs and (4) holding costs (e.g., property
taxes, insurance and homeowners' association dues). For multiple-unit
residential construction and land developments, these projected cash flows are
discounted utilizing a market rate of return to determine their fair value.
LOAN IMPAIRMENT
On January 1, 1995 the Company adopted SFAS No. 114, "Accounting by Creditors
for Impairment of a Loan," as amended by SFAS No. 118, "Accounting by Creditors
for Impairment of a Loan-Income Recognition and Disclosures." This statement
amends SFAS No. 5, "Accounting for Contingencies" and SFAS No. 15, "Accounting
by Debtors and Creditors for Troubled Debt Restructurings." This statement
prescribes that a loan is impaired when it is probable that the creditor will be
unable to collect all contractual principal and interest payments under the
terms of the loan agreement. This statement generally requires impaired loans to
be measured based on the present value of expected future cash flows discounted
at the loan's effective interest rate or, as an expedient, at the loan's
observable market price or the fair value of the collateral if the loan is
collateral-dependent. Creditors may select the measurement method on a loan by
loan basis, except that collateral dependent loans must be measured at the
estimated fair value of the collateral less estimated selling costs if
foreclosure is probable. The Company has chosen to measure impairment based on
the fair value of the underlying collateral. The statement also prescribes
measuring impairment of a restructured loan by discounting the total expected
future cash flows at the loan's effective rate of interest in the original loan
agreement. The effect of initially adopting this statement was not material to
the results of operations or the financial position of the Company.
F-11
<PAGE> 72
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
ALLOWANCE FOR ESTIMATED CREDIT AND REAL ESTATE LOSSES
Management establishes specific reserves for losses on individual real estate
loans and properties when it has determined that recovery of the Company's gross
investment is not likely and when the amount of loss can be reasonably
determined. In making this determination, management considers (1) the current
status of the asset, (2) the probable future status of the asset, (3) the value
of the asset or underlying collateral, and (4) management's intent with respect
to the asset. In quantifying the loss, if any, associated with individual loans
and properties, management utilizes external sources of information (i.e.,
appraisals, price opinions from real estate professionals, comparable sales data
and internal estimates). In establishing specific reserves, management estimates
the revenues expected to be generated from disposal of the Company's collateral
or owned property, less construction and renovation costs (if any), holding
costs and transaction costs. For multiple-unit residential construction and land
developments, the resulting projected net cash flows are discounted utilizing a
market rate of return to determine their fair value.
Management establishes general reserves against the Company's portfolio of real
estate loans and properties. Generally, such reserves are established for each
segment of the Company's loan and property portfolios, including loans secured
by, and properties represented by, single family homes, multi-family dwellings,
commercial properties, residential construction developments and land parcels.
In establishing general reserves, management incorporates (1) the recovery rate
for similar properties previously sold by the Company, (2) valuations of groups
of similar assets, (3) the probability of future adverse events (i.e.,
performing loans which become nonperforming, loans in default which proceed
through to foreclosure) and (4) guidelines published by the Office of Thrift
Supervision ("OTS").
When a specific reserve has been established for a particular loan and the
collateral for that loan is subsequently foreclosed upon, the loan is
transferred to real estate owned at the estimated fair value of the underlying
collateral. The net carrying value of the property following foreclosure is,
therefore, the estimated fair value of the property, net of any specific
reserves which may be established after foreclosure due to a subsequent decline
in fair value. In many instances following foreclosure, these properties require
significant time for the completion of construction and their marketing and
eventual sale. During this period, estimates of future revenues and costs can,
and do, vary, requiring changes in the amount of specific reserves allocated to
individual properties.
For multiple-unit, for-sale housing developments, the actual loss incurred from
the sale of individual units is charged against previously established specific
reserves when all of the foreclosed units within the project have been sold. For
individual assets, the actual loss is charged against previously established
specific reserves when the property is sold.
Based upon periodic analysis of future recoverability, changes in specific
reserves established for the Company's property portfolio are charged to real
estate operations.
DEPRECIATION AND AMORTIZATION
Depreciation is provided in amounts sufficient to relate the cost of depreciable
assets to operations over their estimated service lives, on a straight-line
basis. Buildings are depreciated over their estimated useful lives ranging from
twenty to thirty years on a straight-line basis. Leasehold improvements are
amortized over the lives of their respective leases or the service lives of the
improvements, whichever is shorter. Original issuance costs of $1.2 million, as
of December 1995, associated with the Senior Notes have been capitalized and are
being amortized over the life of the debt, which is five years.
F-12
<PAGE> 73
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
INCOME TAXES
The Company and its subsidiary file a consolidated federal income tax return and
a combined state franchise tax return on a fiscal year ending September 30.
Deferred tax assets and liabilities represent the tax effects, calculated at
currently effective tax rates, of future deductible or taxable amounts
attributable to events that have been recognized on a cumulative basis in the
financial statements.
INTEREST RATE CAPS
Premiums paid for purchased interest rate cap agreements are amortized to
interest expense over the term of the caps. Unamortized premiums are included in
other assets in the statement of financial position. Amounts receivable under
cap agreements are accrued as a reduction of interest expense. The Company was a
party to one interest rate cap agreement with a notional amount of $450.0
million at December 31, 1995 that expired in March 1996.
EXCESS OF COST OVER FAIR VALUE OF NET ASSETS ACQUIRED
In 1994, the Company recorded excess of cost over fair value of $244,000 as
goodwill resulting from the acquisition of one branch facility. The amount was
being amortized over five years. However the facility was sold in 1996, at which
time the remaining balance was offset against the gain on sale.
STOCK BASED COMPENSATION PLANS
The Company applies APB Opinion No. 25 and related Interpretations in accounting
for its plans. In 1995, the FASB issued SFAS No. 123, "Accounting for
Stock-Based Compensation", which encourages companies to account for stock
compensation awards based on the fair value at the date the awards are granted.
This statement does not require the application of the fair value method and
allows the continuance of the current accounting method, which requires
accounting for stock compensation awards based on their intrinsic value as of
the grant date. However, SFAS No. 123 requires pro forma disclosure of net
income and, if presented, earnings per share, as if the fair value based method
of accounting defined in this statement had been applied. See NOTE K.
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosures of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates. Significant estimates include
estimates of the allowance for loan losses, valuation of real estate owned, fair
value of stock options and fair values of financial instruments.
IMPAIRMENT OF LONG-LIVED ASSETS
On January 1, 1996, the Bank adopted SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed of."
This statement requires that long-lived assets, certain identifiable
intangibles, and goodwill related to those assets to be held and used or
disposed of be reviewed for impairment based on the fair value of the assets.
Furthermore, this statement requires that certain long-lived assets and
identifiable intangibles to be disposed of be reported at the lower of
historical cost or fair value less cost to sell. The adoption of SFAS No. 121
did not have a material impact on operations in 1996.
F-13
<PAGE> 74
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1996, the Financial Accounting Standards Board issued SFAS No. 125,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities." This statement provides accounting and reporting standards for
transfers and servicing of financial assets and extinguishment of liabilities,
and is applied prospectively to financial statements for fiscal years beginning
after December 31, 1996. In 1996, the FASB also issued SFAS No. 127, "Deferral
of the Effective Date of Certain Provisions of FASB Statement No. 125," which
defers for one year the effective date of certain provisions within SFAS No.
125. The Company does not believe that adoption of SFAS Nos. 125 and 127 will
have a material impact on its operations and financial position.
RECLASSIFICATIONS
Certain amounts in the 1995 and 1994 consolidated financial statements have been
reclassified to conform with classifications in 1996.
EARNINGS PER SHARE CALCULATION
The table below sets forth the Company's earnings per share calculations for the
years ended December 31, 1996, 1995 and 1994. The Modified Treasury Stock Method
was the method used for 1996 as prescribed under Generally Accepted Accounting
Principles ("GAAP"). All other calculations shown for 1996, using alternate
methods, are for informational purposes only. In the table below, (1) Warrants
refers to the warrants issued by the Company in December 1995, which have an
exercise price of $2.25 per share and can be exercised beginning three years
from the issue date and for a period of ten years from the issue date, and (2)
Preferred Stock refers to the Cumulative Perpetual Preferred Stock issued by the
Company in December 1995, which carries an annual dividend equal to 18% of the
face amount of the Preferred Stock, permits dividends thereon to be paid, under
certain circumstances, in equivalent value of the Company's common stock and has
an initial dividend payment in June 1997.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------------------------------------------
1996 1995 1994
----------------------------------------- ------------ ----------
MODIFIED
TREASURY ACTUAL SHARES,
STOCK ACTUAL WARRANTS, ACTUAL ACTUAL
METHOD SHARES AND OPTIONS SHARES SHARES
----------- ---------- ---------------- ------------ ----------
<S> <C> <C> <C> <C> <C>
SHARES OUTSTANDING
Common 2,599 2,599 2,599 2,599 2,599
Warrants 2,376 - 2,376 - -
Options 686 - 686 - -
Less Treasury shares (520) - - - -
----------- ---------- ---------------- ------------ ----------
Total 5,141 2,599 5,661 2,599 2,599
=========== ========== ================ ============ ==========
STOCKHOLDERS' EQUITY
Common $32,330 $32,330 $ 32,330 $ 27,374 $40,827
Warrants 5,346 - 5,346 - -
Options 3,482 - 3,482 - -
Less Treasury shares (2) (3,595) - - - -
----------- ---------- ---------------- ------------ ----------
Total $37,563 $32,330 $ 41,158 $ 27,374 $40,827
=========== ========== ================ ============ ==========
NET EARNINGS (LOSS)
Net earnings for the period $ 7,507 $(14,217) $(2,963)
Partial reduction in interest expense (1) 627
Preferred stock dividends (2,430) (124)
----------- ------------ ----------
Adjusted earnings available
for Common $ 5,704 $(14,341) $(2,963)
=========== ============ ==========
BOOK VALUE PER SHARE $ 7.31 $ 12.44 $ 7.27 $ 10.53 $ 15.71
=========== ========== ================ ============ ==========
EARNINGS PER SHARE $ 1.11 $ 1.95 $ 0.89 $ (5.52) $ (1.14)
=========== ========== ================ ============ ==========
</TABLE>
- ---------------------
(1) Under the Modified Treasury Stock Method, it is assumed that the Company
will use proceeds from the proforma exercise of the Warrants and Options to
acquire 20% of the actual shares currently outstanding (Treasury shares)
and use any remaining assumed proceeds to reduce the outstanding balance of
the Company's Senior Notes.
(2) Treasury shares were assumed to be repurchased at the average closing stock
price for the period.
F-14
<PAGE> 75
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE B - CASH AND CASH EQUIVALENTS
Cash and cash equivalents at December 31 consist of the following:
1996 1995
------------ -----------
Cash $82,578 $ 8,015
Certificates of deposit 100 1,200
Federal funds sold 11,300 4,800
------------ -----------
$93,978 $14,015
============ ===========
Included in cash at December 31, 1996 is $0.2 million which is restricted
- - see NOTE L.
NOTE C - INVESTMENT SECURITIES - AVAILABLE FOR SALE
The cost basis and estimated fair value of investment securities
available-for-sale at December 31 are summarized as follows:
<TABLE>
<CAPTION>
1996
--------------------------------------------------------
GROSS UNREALIZED ESTIMATED
AMORTIZED -------------------------- FAIR
COST GAINS LOSSES VALUE
-------------- ------------ ------------ -----------
<S> <C> <C> <C> <C>
U.S. Government $ 38,503 $ - $ 132 $38,371
-------------- ------------ ------------ -----------
$ 38,503 $ - $ 132 $38,371
============== ============ ============ ===========
</TABLE>
<TABLE>
<CAPTION>
1995
--------------------------------------------
GROSS UNREALIZED ESTIMATED
AMORTIZED ------------------ FAIR
COST GAINS LOSSES VALUE
----------- ------- -------- -----------
<S> <C> <C> <C> <C>
U.S. Government $62,787 $11 $ 5 $62,793
----------- ------- -------- -----------
$62,787 $11 $ 5 $62,793
=========== ======= ======== ===========
</TABLE>
Within the available-for-sale amounts at year end 1996 and 1995 are restricted
U.S. Government securities purchased with proceeds from the recapitalization of
the Company in December 1995. See NOTE L. These proceeds represent prefunded
interest expense associated with the Senior Notes and had both a cost basis and
fair value of $3.2 million and $4.9 million at December 31, 1996 and 1995,
respectively.
F-15
<PAGE> 76
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
The cost basis and estimated fair value of investment securities
available-for-sale at December 31, 1996 are summarized by contractual maturity
as follows:
<TABLE>
<CAPTION>
ESTIMATED
FAIR
COST BASIS VALUE YIELD
---------- ---------- ----------
<S> <C> <C> <C>
Due in less than one year $ 1,605 $ 1,598 5.23%
Due in one year through five years 36,898 36,773 5.61%
---------- ---------- ----------
$ 38,503 $ 38,371 5.59%
========== ========== ==========
</TABLE>
NOTE D - LOANS RECEIVABLE
Loans receivable at December 31 are summarized as follows:
<TABLE>
<CAPTION>
1996 1995
-------------- --------------
<S> <C> <C>
REAL ESTATE LOANS
PERMANENT
Single family (1-4 units)
Estate $ 107,891 $ 51,142
Conventional 170,038 247,955
Project concentrations 61,268 70,748
Multi-family (five or more units) 220,707 219,015
Commercial real estate 60,388 31,258
Land 14,513 5,579
RESIDENTIAL CONSTRUCTION
Single family (1-4) 56,306 21,987
Tract development 33,791 6,800
OTHER 15,684 1,459
------------- --------------
GROSS LOANS RECEIVABLE 740,586 655,943
LESS
Participants' share (1,413) (2,219)
Undisbursed funds (46,646) (15,208)
Deferred fees and credits, net (6,611) (5,996)
Allowance for estimated credit losses (13,515) (15,192)
------------- --------------
NET LOANS RECEIVABLE $ 672,401 $ 617,328
============= ==============
</TABLE>
F-16
<PAGE> 77
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
The table below summarizes the maturities for fixed-rate loans and the repricing
intervals for adjustable-rate loans as of December 31, 1996:
<TABLE>
<CAPTION>
PRINCIPAL BALANCE
--------------------------------------------
FIXED ADJUSTABLE
INTERVAL RATE RATE TOTAL
------------ ------------- ------------
<S> <C> <C> <C>
1 to 3 months $ 3,010 $ 331,931 $ 334,941
*3 to 6 months 351 190,743 191,094
*6 to 12 months 10,252 45,157 55,409
*1 to 2 years 22,302 22,302
*2 to 5 years 22,145 22,145
*5 to 10 years 6,558 6,558
*10 to 20 years 23,491 23,491
More than 20 years 84,646 84,646
------------ ------------- ------------
$ 172,755 $ 567,831 $ 740,586
============ ============= ============
</TABLE>
* Greater than
The contractual weighted average interest rates on loans at December 31, 1996
and 1995 were 8.75% and 8.25%, respectively.
The table below summarizes nonaccrual loans at December 31 by type of
collateral:
<TABLE>
<CAPTION>
1996 1995
------------- ------------
<S> <C> <C>
PERMANENT
Single family (1-4 units)
Estate $ 2,824 $ 1,300
Conventional 6,432 10,005
Project concentrations 7,752 4,140
Multifamily (5 or more units) 11,172 4,516
Land 432 1,748
OTHER COLLATERALIZED LOANS 12
------------- ------------
$ 28,624 $ 21,709
============= ============
</TABLE>
Nonaccrual loans were $28.6 million, $21.7 million and $39.4 million at December
31, 1996, 1995 and 1994, respectively. The interest income recognized for 1996,
1995, and 1994 was $1.9 million, $1.0 million, $1.5 million, respectively. If
these loans had been performing for the entire year the income recognized would
have been $2.8 million, $1.5 million and $2.9 million for 1996, 1995 and 1994,
respectively.
F-17
<PAGE> 78
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
The table below summarizes the amounts of interest revenue that would have been
recognized on troubled debt restructurings had borrowers paid at the original
loan interest rate throughout each of the years below, the interest revenue that
would have been recognized based upon the modified interest rate, and the
interest revenue that was included in the consolidated statements of operations
for the periods indicated. For this purpose, troubled debt restructurings
include loans with respect to which (1) the original interest rate was changed
for a defined period of time, (2) the loan's maturity was extended, or (3)
principal or interest payments were suspended for a defined period of time.
<TABLE>
<CAPTION>
PRINCIPAL ORIGINAL MODIFIED RECOGNIZED
BALANCE INTEREST INTEREST INTEREST
------------ ----------- ----------- --------------
<S> <C> <C> <C> <C>
YEAR ENDED DECEMBER 31, 1996
Construction loans $ 389 $ 43 $ 43 $ 18
Permanent loans 38,695 3,716 3,511 3,088
------------ ----------- ----------- --------------
$ 39,084 $ 3,759 $ 3,554 $ 3,106
============ =========== =========== ==============
YEAR ENDED DECEMBER 31, 1995
Permanent loans $ 24,029 $ 1,929 $ 1,707 $ 1,707
------------ ----------- ----------- --------------
$ 24,029 $ 1,929 $ 1,707 $ 1,707
============ =========== =========== ==============
YEAR ENDED DECEMBER 31, 1994
Construction loans $ 824 $ 113 $ 64 $ 64
Permanent loans 9,404 933 633 626
------------ ----------- ----------- --------------
$ 10,228 $ 1,046 $ 697 $ 690
============ =========== =========== ==============
</TABLE>
The table below summarizes the activity within the allowance for estimated
credit losses on loans for the years ended December 31:
<TABLE>
<CAPTION>
1996 1995 1994
---------- ---------- ---------
<S> <C> <C> <C>
Balance at beginning of year $ 15,192 $ 21,461 $ 46,629
Provision for credit losses 7,489 14,895 5,298
Charge-offs (7,744) (6,741) (719)
Transfers to allowance for real estate losses
and other losses (1,422) (14,423) (29,747)
---------- ---------- ----------
$ 13,515 $ 15,192 $ 21,461
========== ========== ==========
</TABLE>
The Bank is a federally-chartered savings bank engaged in attracting deposits
from the general public and using those deposits, together with borrowings and
other funds, to originate residential real estate loans in areas near its six
branches in Southern California. During the past several years, the Southern
California region has experienced adverse economic conditions, including
declining real estate values. These factors have adversely affected the ability
of certain borrowers to repay loans according to their stated terms. Although
management believes the level of allowance for estimated credit losses on loans
is adequate to absorb losses inherent in the loan portfolio, continuing weakness
in the local economy may result in increasing loan losses that cannot be
reasonably predicted at December 31, 1996.
F-18
<PAGE> 79
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
The recorded investment in loans considered to be impaired under SFAS No. 114
was as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------
1996 1995
------------ ------------
<S> <C> <C>
Impaired loans without specific loss reserves $ 43,209 $ 50,157
Impaired loans with specific loss reserves 8,728 13,159
Specific loss reserves allocated to impaired loans (2,185) (3,426)
------------ ------------
Total impaired loans, net of specific loss reserves $ 49,752 $ 59,890
============ ============
Average investment in impaired loans $ 57,100 $ 78,600
Interest income recognized on impaired loans $ 3,607 $ 4,356
</TABLE>
The table below reconciles the principal balance of impaired loans and troubled
debt restructurings (TDRs"), as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------
1996 1995
------------ -------------
<S> <C> <C>
Total impaired loans $ 51,937 $ 63,316
Impaired loans 90 days or more days delinquent (16,643) (11,298)
------------ -------------
Performing impaired loans 35,294 52,018
Impaired loans which are not TDRs - (27,989)
------------ -------------
Performing TDRs 35,294 24,029
TDRs which are 90 days or more delinquent 3,790 -
------------ -------------
Total TDRs(1) $ 39,084 $ 24,029
============ =============
</TABLE>
(1) At December 31, 1996 TDRs of $16.7 million were classified.
At December 31, 1995, the Company automatically designated as impaired loans
which were delinquent 30-89 days and collateral deficient, or SFR project
concentrations and multifamily loans classified Substandard which were
collateral deficient. That same designation was not applicable at December 31,
1996.
NOTE E - REAL ESTATE OWNED
Real estate owned at December 31 is summarized as follows:
<TABLE>
<CAPTION>
1996 1995
------------ ------------
<S> <C> <C>
Single family (1-4 units)
Conventional $ 2,660 $ 8,815
Project concentrations 7,117 6,419
Multifamily (five or more units) 3,215 18,877
Commercial 346 346
Construction (tract development) 16,156 15,414
Land 2,517 3,759
------------ ------------
Gross investment 32,011 53,630
Allowance for estimated losses (11,871) (15,725)
------------ ------------
Net investment $ 20,140 $ 37,905
============ ============
</TABLE>
F-19
<PAGE> 80
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
The table below summarizes the allowance for estimated losses on real estate
owned for the years ended December 31:
<TABLE>
<CAPTION>
1996 1995 1994
----------- ----------- -----------
<S> <C> <C> <C>
Balance at beginning of year $ 15,725 $ 32,609 $ 39,457
Provision for estimated losses 3,511 5,100
Transfers from allowance for estimated credit losses 1,422 13,873 29,747
Charge-offs (8,787) (35,857) (36,595)
----------- ----------- -----------
Balance at end of year $ 11,871 $ 15,725 $ 32,609
=========== =========== ===========
</TABLE>
Real estate operations for the years ended December 31 are summarized as
follows:
<TABLE>
<CAPTION>
1996 1995 1994
----------- ---------- ------------
<S> <C> <C> <C>
Expenses associated with real estate owned
Property taxes $ (135) $ (35) $ (1,965)
Repairs, maintenance and renovation (160) (475) (361)
Insurance (258) (132) (329)
----------- ---------- ------------
(553) (642) (2,655)
Net recoveries from sales of properties 1,769 2,467 2,980
Rental income, net 1,339 2,839 2,108
Provision for estimated losses on real estate owned (3,511) (5,100)
----------- ---------- ------------
$ (956) $ (436) $ 2,433
=========== ========== ============
</TABLE>
NOTE F - OFFICE PROPERTY AND EQUIPMENT - AT COST
Office property and equipment at December 31 consists of the following:
<TABLE>
<CAPTION>
1996 1995
---------- ----------
<S> <C> <C>
Office buildings $ 1,140 $ 4,520
Furniture and equipment 4,191 4,611
Leasehold improvements 2,290 2,249
---------- ----------
7,621 11,380
Less
Accumulated depreciation and amortization (3,082) (3,225)
Allowance for estimated loss on disposal of offices (753)
---------- ----------
4,539 7,402
Land 190 2,195
---------- ----------
$ 4,729 $ 9,597
========== ==========
</TABLE>
The Company has recognized $1.1 million, $1.0 million and $0.7 million of
depreciation expense for the years 1996, 1995 and 1994, respectively.
F-20
<PAGE> 81
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE G - DEPOSITS
The table below summarizes the balances of and weighted average interest rates
("WAIR") for deposits at December 31:
<TABLE>
<CAPTION>
1996 1995
------------------------ ------------------------
WAIR BALANCE WAIR BALANCE
-------- -------------- -------- --------------
<S> <C> <C> <C> <C>
Money market 1.46% $ 18,793 1.42% $ 34,708
Passbook 1.68% 22,887 1.82% 30,595
Checking/NOW 0.99% 28,879 0.22% 29,156
Certificates of deposit
3.00% or less 2,453 648
3.01% - 4.00% 340 8,087
4.01% - 5.00% 98,425 132,958
5.01% - 6.00% 442,393 321,507
6.01% - 7.00% 103,005 128,054
7.01% or more 634 12,295
============== ==============
5.10% $717,809 5.04% $698,008
============== ==============
</TABLE>
Interest expense on deposits, by type of account, for the years ended December
31 is summarized as follows:
<TABLE>
<CAPTION>
1996 1995 1994
------------ ----------- ------------
<S> <C> <C> <C>
Checking/NOW $ 212 $ 484 $ 208
Passbook 508 205 1,368
Money market 365 1,024 2,134
Certificates of deposit 34,483 31,880 25,984
------------ ----------- -----------
$ 35,568 $ 33,593 $ 29,694
============ =========== ===========
</TABLE>
F-21
<PAGE> 82
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
The table below sets forth the maturities of the Company's certificates of
deposit outstanding at December 31.
<TABLE>
<CAPTION>
1996
---------------------------------------------------------------------------
OVER OVER
THREE MONTHS SIX MONTHS
THREE MONTHS THROUGH THROUGH OVER
OR LESS SIX MONTHS ONE YEAR ONE YEAR TOTAL
-------------- --------------- ------------- ------------- ------------
<S> <C> <C> <C> <C> <C>
BALANCES LESS
THAN $100,000
3.00% or less $ 2,345 $ - $ - $ 4 $ 2,349
3.01% - 4.00% 236 104 340
4.01% - 5.00% 54,800 4,556 3,239 17,127 79,722
5.01% - 6.00% 108,271 91,529 93,528 52,373 345,701
6.01% - 7.00% 9,760 6,464 40,078 22,706 79,008
7.01% or more 234 100 334
-------------- --------------- ------------- ------------- ------------
175,646 102,653 136,845 92,310 507,454
BALANCES GREATER
THAN OR EQUAL
TO $100,000
3.00% or less 104 104
3.01% - 4.00%
4.01% - 5.00% 12,609 160 5,934 18,703
5.01% - 6.00% 29,449 25,322 30,697 11,224 96,692
6.01% - 7.00% 3,554 2,060 13,373 5,010 23,997
7.01% or more 200 100 300
-------------- --------------- ------------- ------------- ------------
45,716 27,582 44,230 22,268 139,796
TOTAL $ 221,362 $ 130,235 $ 181,075 $ 114,578 $ 647,250
============== =============== ============= ============= ============
</TABLE>
<TABLE>
<CAPTION>
1995
---------------------------------------------------------------------------
OVER OVER
THREE MONTHS SIX MONTHS
THREE MONTHS THROUGH THROUGH OVER
OR LESS SIX MONTHS ONE YEAR ONE YEAR TOTAL
-------------- --------------- ------------- ------------- ------------
<S> <C> <C> <C> <C> <C>
BALANCES LESS
THAN $100,000
3.00% or less $ 545 $ 2 $ - $ - $ 547
3.01% - 4.00% 5,702 1,636 276 27 7,641
4.01% - 5.00% 64,714 16,518 25,675 2,639 109,546
5.01% - 6.00% 56,392 53,349 116,277 27,994 254,012
6.01% - 7.00% 43,515 12,807 10,977 26,312 93,611
7.01% or more 466 1,536 4,643 1,137 7,782
-------------- --------------- ------------- ------------- ------------
171,334 85,848 157,848 58,109 473,139
BALANCES GREATER
THAN OR EQUAL
TO $100,000
3.00% or less 101 101
3.01% - 4.00% 108 338 446
4.01% - 5.00% 13,800 2,666 5,660 1,286 23,412
5.01% - 6.00% 12,549 16,975 31,331 6,640 67,495
6.01% - 7.00% 15,112 5,292 5,743 8,296 34,443
7.01% or more 1,020 1,191 1,672 630 4,513
-------------- --------------- ------------- ------------- ------------
42,690 26,462 44,406 16,852 130,410
TOTAL $ 214,024 $ 112,310 $ 202,254 $ 74,961 $ 603,549
============== =============== ============= ============= ============
</TABLE>
F-22
<PAGE> 83
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE H - SHORT-TERM BORROWINGS
A primary alternate funding source for the Company is a $200.0 million credit
line with the FHLB of San Francisco. The FHLB system functions as a source of
credit to savings institutions which are members of a Federal Home Loan Bank.
Advances are typically secured by the Company's real estate loans and the
capital stock of the FHLB owned by the Company. Subject to the FHLB of San
Francisco's advance policies and requirements, these advances can be requested
for any business purpose in which the Company is authorized to engage. In
granting advances, the FHLB of San Francisco considers a member's
creditworthiness and other relevant factors.
The balance and rate of FHLB advances at December 31, 1996, are summarized as
follows:
<TABLE>
<CAPTION>
ORIGINAL TERM PRINCIPAL RATE
- ------------------- ----------- ------
<S> <C> <C>
9 Months $ 25,000 5.99%
12 Months 25,000 6.24%
-----------
$ 50,000 6.12%
===========
</TABLE>
The following schedule summarizes information relating to the Company's FHLB
advances for the periods presented:
<TABLE>
<CAPTION>
1996
-----------
<S> <C>
Average balance during the year $ 41,138
Average interest rate during the year 6.01%
Maximum month-end balance during the year 100,000
Loans underlying the agreements at year end 360,829
</TABLE>
To supplement its funding needs in the past, the Company entered into reverse
repurchase agreements, in which it sold securities with an agreement to
repurchase the same securities at a specific future date (overnight to 90 days).
The Company entered into such transactions only with dealers determined by
management to be financially strong and who were recognized as primary dealers
in U.S. Treasury securities by the Federal Reserve Board. The following schedule
summarizes information relating to the Company's reverse repurchase agreements
for the periods presented:
<TABLE>
<CAPTION>
1995 1994
----------- -----------
<S> <C> <C>
Average balance during the year $ 10,694 $ 14,333
Average interest rate during the year 6.06% 5.23%
Maximum month-end balance during the year 38,575 48,365
Mortgage-backed and agency securities
underlying the agreements at year end
Carrying value 55,855
Estimated market value 52,506
Outstanding reverse repurchase agreements at year end
Balance 47,141
Interest rate 5.85%
</TABLE>
F-23
<PAGE> 84
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE I - INCOME TAXES
Provision (benefit) for income taxes for the years ended December 31 consists of
the following:
<TABLE>
<CAPTION>
1996 1995 1994
------------ -------- ------------
<S> <C> <C> <C>
Current
Federal $ (2,139) $ 615 $ (6,333)
State 2 2
----------- -------- ------------
(2,139) 617 (6,331)
----------- -------- ------------
Deferred
Federal (3,087) 6,454
State (1,156)
----------- -------- ------------
(4,243) 6,454
----------- -------- ------------
$ (6,382) $ 617 $ 123
=========== ======== ============
</TABLE>
The components of the net deferred income tax liability (asset) at December 31
are summarized as follows:
<TABLE>
<CAPTION>
1996 1995
------------ ------------
<S> <C> <C>
Deferred income tax liabilities
Loan fees $ 1,234 $ 3,391
FHLB stock 1,170 1,187
Depreciation 740 719
Other 1,158 493
------------ ------------
4,302 5,790
------------ ------------
Deferred income tax assets
Bad debts (8,140) (10,637)
State NOL carryforward (703) (1,545)
Federal AMT credit carryforward (936) (936)
Federal NOL carryforward (5,166) (7,440)
Delinquent interest (684) (450)
Other (1,673) (1,166)
------------ ------------
(17,302) (22,174)
------------ ------------
Valuation allowance (8,757) (16,384)
------------ ------------
Net deferred income tax assets $ (4,243) $ --
============ ============
</TABLE>
F-24
<PAGE> 85
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
At December 31, 1996, the Company had (1) a federal net operating loss
carryforward of $15.2 million expiring in 2009 through 2011, (2) state net
operating loss carryforwards of $2.1 million, $2.2 million, $2.2 million and
$4.0 million expiring in 1998, 1999, 2000 and 2001, respectively and (3) a
federal alternative minimum tax credit carryover of $936,000 which can be
carried forward indefinitely.
The income tax (receivable) liability at December 31 consists of the following:
<TABLE>
<CAPTION>
1996 1995
---------- ----------
<S> <C> <C>
Current
Federal $ $
State
---------- ----------
$ $
========== ==========
Deferred
Federal
Income tax asset $ (8,997) $ (12,066)
Valuation allowance 5,910 12,066
State
Income tax asset (4,002) (4,318)
Valuation allowance 2,846 4,318
---------- ----------
$ (4,243) $ 0
========== ==========
</TABLE>
The table below summarizes the differences between the statutory income tax and
the Company's effective tax for the years ended December 31:
<TABLE>
<CAPTION>
1996 1995 1994
----------- ----------- ---------
<S> <C> <C> <C>
Federal income tax (benefit) $ 393 $ (4,760) $ (994)
Addition (reduction) in rate resulting from
Valuation allowance (6,090) 4,743 1,966
Goodwill amortization and charge-off 13 (163) (852)
California franchise tax, net of federal income taxes (763)
Other 65 797 3
----------- ----------- --------
$ (6,382) $ 617 $ 123
=========== =========== ========
</TABLE>
F-25
<PAGE> 86
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE J - DISPOSITION OF DEPOSITS AND PREMISES
During 1996, 1995 and 1994, the Company sold certain of its branch deposits and
sold or closed the related branch facilities, consolidated deposits from certain
branches and sold the related facilities, and sold its two owned corporate
office buildings. The table below sets forth the composition of the net gain or
loss realized from these transactions for the years ended December 31:
<TABLE>
<CAPTION>
1996 1995 1994
------------ ----------- -------------
<S> <C> <C> <C>
Deposits sold $ 186,573 $ 17,072 $ 186,534
============ =========== ============
Net premium received from sales of deposits $ 6,305 $ 265 $ 3,274
Net gain (loss) on disposition of premises
Proceeds received 1,826 743 5,782
Net book value at disposition (1,479) (922) (5,721)
Provision for loss on disposition (203) (500)
------------ ----------- ------------
Net gain (loss) from disposition of premises 347 (382) (439)
Other sale-related expenses (239)
------------ ----------- ------------
Net gain (loss) $ 6,413 $ (117) $ 2,835
============ =========== ============
</TABLE>
During 1996, three branches were sold with deposits of $186.6 million. The
Company received a premium of $6.3 million on these deposits as well as a net
gain of $0.3 million for the premises, offset by $0.2 million in sale-related
expenses, resulting in a net gain of $6.4 million.
During 1995, one branch was sold with deposits of $17.1 million. The Company
received a premium of $0.3 million on these deposits as well as $0.7 million for
the premises resulting in a gain of $86,000. Also during 1995, an agreement was
reached to sell a branch office facility at year end. The reserve for estimated
loss on this facility was $0.8 million. The sale was completed at no additional
loss to the Company in February 1996.
During 1994, the Company's two owned corporate headquarters buildings were sold.
These sales were financed by the Company and the resulting financings have been
discounted in order to produce a market yield over the contractual terms of the
loans. Including the discounted financings, these two sales produced net
proceeds of $2.3 million compared with a net book value at disposition of $1.9
million.
During 1994, reserves were established for the estimated future net lease
obligations associated with closed branch facilities. During 1993, reserves were
established for the estimated loss associated with the disposition, completed
during 1994, of the Company's owned corporate buildings. During 1993, the
Company wrote-off the remaining balance of intangible assets associated with
certain deposits and branch facilities acquired during the 1980's, based upon
management's conclusion that such intangibles retained no further value. The
branch deposits and related facilities to which these intangibles related were
sold during 1994.
F-26
<PAGE> 87
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE K - EMPLOYEE BENEFIT PLANS
The Company has an Employee Stock Ownership Plan ("ESOP") that previously
covered substantially all employees over 21 years of age who met minimum service
requirements. As of December 15, 1995, the Company froze the ESOP and all
accounts became fully vested and nonforfeitable. At December 31, 1996, the ESOP
owned 154,753 shares of the Company's common stock. As of December 31, 1996, the
Company had a loan receivable from the ESOP of $119,000 collateralized by 7,833
shares of common stock owned by the ESOP.
Effective April 1, 1996, the ESOP was amended to include a 401(k) plan. The
Company makes a matching contribution equal to 100% of the amount each
participant elects to defer up to a maximum of 3% of the participant's
compensation for the calendar quarter. Employees are eligible to participate if
they were employed by the Company on March 1, 1996 or have been employed for 6
months, worked at least 500 hours, and be over 21 years of age.
The Company has a retirement income plan ("Retirement Plan") that previously
covered substantially all employees over 21 years of age who met minimum service
requirements. The Company does not have an accumulated post-retirement benefit
obligation associated with the Retirement Plan at December 31, 1996, as the
assets of the Retirement Plan exceeded the vested benefits of participants. At
that date, participants benefits were fixed at their levels as of May 1989.
The Company has two stock option plans ("Option Plans") which cover the issuance
of stock option grants to (1) executive officers of the Company and (2) certain
other employees of the Company. The purpose for both plans is the rewarding of
exemplary performance by key employees of the Company as well as the recruiting
and retaining of key employees. The Option Plans provide for the issuance of a
maximum of 755,000 shares of common stock of the Company upon exercise of
options. The exercise price of any option may not be less than the fair market
value of the common stock on the date of grant and the term of any option may
not exceed 10 years.
Options to purchase 247,500 shares were granted during 1994 at prices ranging
from $13.48 to $14.75. Subsequent to the initial grants, the Board of Directors
approved a reduction of the option price for all outstanding options to the then
market price for the Company's common stock of $7.22. During 1995, these grants
were canceled and replaced with options to purchase 696,000 shares of which
356,000 of these options were issued to senior executives at an exercise price
of $4.65. The remaining options to purchase 340,000 shares were issued to other
officers at an exercise price of $5.26 per share. During 1996, 46,000 of the
options to purchase 340,000 shares previously granted at $5.26 were canceled and
options to purchase 36,000 shares with an exercise price of $7.81 per share were
granted.
F-27
<PAGE> 88
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS, EXCEPT PER SHARE DATA)
A summary of the status of the Option Plans as of December 31, and changes
during the years ended on those dates, is presented below:
<TABLE>
<CAPTION>
1996 1995
-------------------------- ---------------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
EXERCISE EXERCISE
SHARES PRICE SHARES PRICE
------------ ----------- -------------- -----------
<S> <C> <C> <C> <C>
Outstanding at beginning of year 696,000 $ 4.95 247,500 $ 7.22
Granted 36,000 7.81 696,000 4.95
Exercised
Terminated (46,000) 5.26 (247,500) 7.22
------------ --------------
Outstanding at end of year 686,000 5.08 696,000 4.95
============ ==============
Options exercisable at year end 226,050 33,000
============ ==============
</TABLE>
The following table summarizes information about stock options outstanding at
December 31, 1996:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE
REMAINING
EXERCISE NUMBER CONTRACTUAL NUMBER
PRICES OUTSTANDING LIFE EXERCISABLE
- ------------ -------------- -------------- --------------
<S> <C> <C> <C>
$ 4.65 356,000 6.00 118,700
5.26 294,000 6.59 107,350
7.81 36,000 8.00
-------------- --------------
686,000 6.35 226,050
============== ==============
</TABLE>
If compensation costs for the Company's stock option plans had been determined
based on the fair value at the grant date for awards in 1996 and 1995 consistent
with the provisions of SFAS No. 123, the Company's net earnings and net earnings
per share would have been reduced to the pro forma amounts indicated below:
<TABLE>
<CAPTION>
1996 1995
--------- ---------
<S> <C> <C>
Net earnings (loss) - as reported $7,507 $(14,217)
========= =========
Net earnings (loss) - pro forma $6,548 $(14,270)
========= =========
Net earnings (loss) per share - as reported $ 1.11 $ (5.52)
========= =========
Net earnings (loss) per share - pro forma $ 0.92 $ (5.54)
========= =========
</TABLE>
The fair value of options granted under the Company's stock option plans during
1996 and 1995 were estimated on the date of grant using the Black-Scholes
option-pricing model with the following weighted average assumptions used: no
dividend yield, expected volatility of 124%, risk free interest rate of 5.6% and
expected lives of 3 to 5 years.
F-28
<PAGE> 89
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE L - CAPITAL OFFERING
In December 1995, the Company sold $27.0 million of "investment units" at a
price of $500,000 per unit in a private placement offering (the "Offering").
Each investment unit consisted of $250,000 principal amount of the Company's
senior notes ("Senior Notes"), five shares of the Company's cumulative preferred
stock, series A ("Series A Preferred"), and one warrant to purchase 44,000
shares of the Company's common stock ("Warrants"). The Company contributed $19.0
million of the net proceeds of the Offering as qualifying Tier 1 capital to the
Bank during December to satisfy the capital-raising provisions of a Prompt
Correction Action Directive ("PCA") issued in June 1995 by the OTS and enabled
the Bank to meet the quantitative requirements to be categorized as a
"well-capitalized" institution.
Upon completion of the Offering, the Company recorded the Senior Notes, with a
face amount of $13.5 million, at $12.0 million. The Senior Notes bear interest
payable semi-annually at a rate of 12% per annum and have an effective annual
yield of 16.5% after the recording of Original Issue Discount ("OID") of $1.5
million. The OID will be accreted using the constant yield method over the five
year term of the Senior Notes. During 1996 and 1995, the Company recorded
$301,000 and $11,000, respectively, of OID as part of its interest expense. The
Company was obligated to deposit three years of interest ($4.9 million) in a
separate account in which the noteholders have a security interest. Funds in
that account may be invested in certain permitted investments (as defined),
including U.S. Government Securities. See NOTES B and C. After three years,
interest will be payable either in cash or in an equivalent value (determined in
accordance with the relevant agreement) in common stock of the Company.
The Company also recorded the receipt of $12.8 million from the issuance of 270
shares of Series A Preferred with a par value of $.01 as Capital in Excess of
Par Value - Cumulative Preferred Stock, Series A. The Series A Preferred
provides for cumulative dividends, payable quarterly commencing June 1997 at an
annual rate of 18% on the $13.5 million liquidation preference of the stock. The
Company may pay dividends in common stock if the Company does not have the
financial capability of paying the dividends in cash.
The Company recorded $2.2 million of the proceeds from the sale of the units to
the Warrants as additional paid in capital. The Warrants entitle the holders to
purchase up to an aggregate of 2.4 million shares of Common Stock for $2.25 per
share at any time after December 15, 1998. The Warrants will terminate in
December 2005.
The Company incurred offering expenses of $2.3 million which were attributable
evenly to the Senior Notes and the Series A Preferred. The $1.2 million
attributable to the Senior Notes was capitalized and included with other assets
and is being amortized over the five year term of the Senior Notes. During 1996
and 1995, the Company recorded amortization of $234,000 and $11,000 related to
these capitalized expenses. The $1.2 million attributable to the Preferred Stock
has been recorded as a reduction to Capital in Excess of Par Value - Cumulative
Preferred Stock, Series A.
NOTE M - STOCKHOLDERS' EQUITY
Retained earnings, which include bad debt deductions of approximately $25.5
million for federal income tax purposes at December 31, 1996, are restricted and
may be used only for the absorption of losses on loans and real estate acquired
through foreclosure. They are not subject to federal income tax unless used for
other purposes. The Company has not provided for federal income tax on these
amounts, since it is not contemplated that such amounts will be used for
purposes other than to absorb such losses.
Under applicable law and the capital regulations of the OTS promulgated
thereunder (the "Capital Regulations"), savings institutions are subject to
three capital requirements - a "leverage limit," a "tangible capital
requirement" and a "risk-based capital requirement."
The OTS may also establish, on a case-by-case basis, individual minimum capital
requirements for a savings institution which vary from the requirements that
would otherwise apply under the Capital Regulations.
F-29
<PAGE> 90
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
The leverage limit requires each savings institution to maintain "core capital"
of not less than 3.0% of adjusted total assets. "Core Capital" generally
includes common stockholders' equity (including common stock, paid in capital,
and permanent noncumulative preferred stock) less intangible assets (other than
certain mortgage servicing rights and purchased credit card relationships).
The tangible capital requirement requires each savings institution to maintain
"tangible capital" in an amount not less than 1.5% of adjusted total assets.
"Tangible capital" means core capital less any intangible assets (including
supervisory goodwill), plus certain mortgage service rights, subject to certain
limitations.
The risk-based capital requirements provide, among other things, that the
capital ratios applicable to various classes of assets are to be adjusted to
reflect the degree of credit risk deemed to be associated with such assets. In
addition, the asset base for computing a savings institution's risk-based
capital requirement includes certain off-balance sheet items. Generally, the
risk-based capital requirement requires each savings institutions to maintain
"total capital" equal to 8.0% of risk-weighted assets. "Total capital" means
core capital and supplementary capital. Supplementary capital includes, among
other things and subject to certain limitations, general reserves up to 1.25% of
risk-weighted assets. The Bank's supplementary capital included $6.7 million of
general reserves at December 31, 1996. A savings institution's supplementary
capital may be used to satisfy the risk-based capital requirement only to the
extent of that institution's core capital.
In measuring a savings institution's compliance with the three requirements
under the Capital Regulations, the savings institution must deduct from capital
its investments in, and advances to, subsidiaries engaged in activities not
permissible for national banks. In computing an institution's total capital for
purposes of the risk-based capital standard, similar capital deduction and
phase-in provisions generally apply to: (a) other equity investments in equity
securities (not meeting the definition of a subsidiary) and in real estate and
(b) that portion of land loans and nonresidential construction loans in excess
of an 80% loan-to-value ratio. The Federal Deposit Insurance Corporation
("FDIC") may suspend deposit insurance for an institution that has no tangible
capital (computed by considering qualifying supervisory goodwill).
Any savings institution that is not in compliance with its regulatory capital
requirements must, within 60 days from the date the savings institution falls
out of compliance, submit a capital plan acceptable to the OTS demonstrating how
the savings institution will meet applicable capital standards. The OTS places
an asset growth restriction on all institutions failing any of the three capital
standards pending review of their capital plans and consideration of future
growth restrictions.
The OTS may treat the failure of any savings institution to maintain capital at
or above the minimum required levels or to comply with an approved capital plan
as an "unsafe and unsound practice." In general, unsafe and unsound practices
are subject to a number of enforcement actions, including the appointment of a
conservator or receiver.
Under the Prompt Corrective Action Rules ("PCA Rules") of the Federal Deposit
Insurance Act and regulations of the OTS thereunder, savings institutions are
classified in one of five categories based upon the regulatory capital levels.
Two of these classifications are for savings institutions that meet the Capital
Requirements ("well capitalized" and "adequately capitalized") and three are for
savings institutions that do not meet the Capital Requirements ("under
capitalized," "significantly under capitalized," and "critically under
capitalized"). In addition, the OTS also has authority, after an opportunity for
a hearing, to downgrade an institution from "well-capitalized" to "adequately
capitalized" or to subject an "adequately capitalized" or "undercapitalized"
institution to the supervisory actions applicable to the next lower category, if
the OTS deems such action to be appropriate as a result of supervisory concerns.
Progressively more stringent operational limitations and other corrective
actions are required as an institution declines in the capital ranking tiers.
F-30
<PAGE> 91
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
As of December 31, 1996 and 1995, the most recent notification from the OTS
categorized the Bank as well capitalized under the PCA Rules. The following
table sets forth as of December 31, 1996, the Bank's actual regulatory capital
amounts and ratios and the regulatory capital amounts and ratios for the Bank to
be "adequately capitalized" and "well capitalized."
<TABLE>
<CAPTION>
REQUIREMENTS
-------------------------------------------
ACTUAL ADEQUATELY CAPITALIZED WELL CAPITALIZED
-------------------- --------------------- --------------------
AMOUNT RATIOS AMOUNT RATIOS AMOUNT RATIOS
---------- -------- ------------ ------- ----------- -------
<S> <C> <C> <C> <C> <C> <C>
AS OF DECEMBER 31, 1996:
Total Capital
(to Risk Weighted Assets) $ 59,560 11.11% $ 42,879 8.00% $ 53,599 10.00%
Tier 1 Capital
(to Risk Weighted Assets) 52,803 9.85% 21,439 4.00% 32,159 6.00%
Tier 1 Capital
(to Average Assets) 52,803 6.55% 32,269 4.00% 40,336 5.00%
Core Capital
(to Adjusted Assets) (1) 52,803 6.27% 25,267 3.00% N/A N/A
Tangible Capital
(to Adjusted Assets) (1) 52,803 6.27% 12,634 1.50% N/A N/A
AS OF DECEMBER 31, 1995
Total Capital
(to Risk Weighted Assets) $ 49,448 10.27% $ 38,508 8.00% $ 48,135 10.00%
Tier 1 Capital
(to Risk Weighted Assets) 43,360 9.01% 19,254 4.00% 28,881 6.00%
Tier 1 Capital
(to Average Assets) 43,360 5.96% 29,079 4.00% 36,349 5.00%
Core Capital
(to Adjusted Assets) (1) 43,360 5.80% 22,425 3.00% N/A N/A
Tangible Capital
(to Adjusted Assets) (1) 43,360 5.80% 11,213 1.50% N/A N/A
</TABLE>
- ---------------
(1) The term "adjusted assets" refers to the term "adjusted total
assets" as defined in 12 C.F.R. Section 567.1(a) for purposes of
tangible and core capital requirements, and refers to the term
"risk-weighted assets" as defined in 12 C.F.R. Section 567.1(b) for
purposes of risk-based capital requirements.
The thrift industry is exposed to economic trends and fluctuations in real
estate values. In recent periods, those trends have been recessionary in nature,
particularly in Southern California. Accordingly, the trends have adversely
affected both the delinquencies being experienced by institutions such as the
Bank and the ability of such institutions to recoup principal and accrued
interest through acquisition and sale of the underlying collateral. No
assurances can be given that such trends will not continue in future periods,
creating increasing downward pressure on the earnings and capital of thrift
institutions.
F-31
<PAGE> 92
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE N - REGULATORY MATTERS
In early 1993, the OTS completed its annual examination of the Bank, and issued
its report thereon, dated March 5, 1993. In their report, the OTS concluded that
the Bank's future viability was threatened by inadequacies in the Board of
Directors and management, deteriorating asset quality and moderate-to-high
interest rate risk. The Board of Directors was advised to restructure itself and
to strengthen management, to commence actions to improve loan underwriting
controls, to improve the internal asset review system, to reduce large
concentrations of construction and land loans to certain developer borrowers and
to improve the internal audit department. The OTS also communicated its
intention to consider assessing civil money penalties against current and former
Directors of the Bank arising from the perceived noncompliance with the
previously issued cease and desist order and letter directive. In connection
with the OTS' examination, additional provisions for loan and real estate losses
were recorded, in the aggregate amount of $54.6 million, as of September 30,
1992.
On March 31, 1993, the Company's and the Bank's President and Chief Executive
Officer, Vernon Herbst retired. In July 1993, the Company and the Bank hired a
new President and Chief Executive Officer, Scott A. Braly. During the period
from August through December 1993, a full complement of senior management was
hired covering each of the Bank's line and staff units, and previous management
was either terminated or reassigned. Subsequent to the OTS' 1992/1993
examination, two new non-management Directors were appointed by the Boards of
Directors of the Bank and the Company.
On June 30, 1995, the Bank stipulated and consented to the issuance of a prompt
corrective action directive ("PCA Directive") by the OTS. The PCA Directive was
issued as a condition of acceptance by the OTS of the Bank's capital restoration
plan. The Directive required the Bank, among other things, (i) to comply with
the terms of the revised business plan, (ii) to achieve a capital infusion of
between $15 million and $20 million by December 15, 1995, (iii) to retain an
investment banking firm to assist in the recapitalization of the Bank, (iv) to
comply with all of the mandatory prompt corrective action provisions
automatically applicable to the Bank based on its prompt corrective action
capital category, and (v) to maintain its total assets at a level not to exceed
its total assets as of year end 1994. Unless otherwise approved by the OTS, the
Directive also required that the Bank comply with an OTS-approved time schedule
specifying dates between the execution of the Directive and December 15, 1995 by
which the Bank must complete specific intermediate steps toward achievement of
the capital infusion required by the Directive. Failure to comply with the PCA
Directive could have resulted in a forced sale of the Bank at a distressed price
under regulatory compulsion or the appointment of a conservator or receiver for
the Bank. In addition, the PCA Directive stated that it does not prevent the OTS
from taking any other type of supervisory, enforcement or resolution action that
the OTS determines to be appropriate.
In December 1995, the Company sold $27.0 million of "investment units" in a
private placement offering. See NOTE L. The Company's contribution of $19.0
million of the net proceeds of the private placement into the Bank during
December 1995 satisfied the PCA Directive, and the OTS terminated the PCA
Directive and released the Bank from its capital plan.
The President has signed legislation which repealed the tax rules formerly
applicable to bad debt reserves of thrift institutions for taxable years
beginning after December 31, 1995. The Company will thereupon be required to
change its tax method of accounting for bad debts from the reserve method
formerly permitted under section 593 of the Internal Revenue Code (the "Code")
to the "specific charge-off" method effective for its tax year beginning October
1, 1996. Under the specific charge-off method, tax deductions may be taken for
bad debts only as to the extent that the loans become wholly or partially
worthless. The enacted legislation requires thrift institutions, such as the
Company, which have previously utilized the section 593 reserve method to
recapture (i.e., include in taxable income) over a six-year period a portion of
their existing bad debt reserves equal to their "applicable excess reserves."
The Company does not believe that the recapture of its bad debt reserves, if
any, would be material. Under these provisions, the remainder of the Company's
bad debt reserve balance as of September 30, 1996 (approximately $25.5 million)
will in future years be subject to recapture in whole or in part upon the
occurrence of certain events such as a distribution to stockholders in excess of
the Company's current and accumulated earnings
F-32
<PAGE> 93
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
and profits, a redemption of shares, or upon a partial or complete liquidation
of the Company. The Company does not intend to make distributions to its
stockholders that would result in recapture of any portion of its bad debt
reserves.
NOTE O - DERIVATIVE FINANCIAL INSTRUMENTS
The Company has only limited involvement with derivative financial instruments
and does not use them for trading purposes. They are used to manage well-defined
interest rate risks.
Interest rate cap agreements were used to reduce the potential impact of
increases in interest rates on repriceable liabilities. At December 31, 1995,
the Company was a party to one interest rate cap agreement, with a notional
amount of $450.0 million and an expiration in March 1996. The agreement entitled
the Company to receive from the counterparty, on a quarterly basis, the amount,
if any, of the excess of the 3 month LIBOR rate over 7.34%. The Company
amortized the cost of this cap over its life. The Company was not a party to any
other derivative instrument contracts since March 1996.
NOTE P - COMMITMENTS AND CONTINGENCIES
LITIGATION
On September 6, 1996, the Company and the Bank were named as defendants in a
class action lawsuit entitled Stanley D. Mosler and Eileen C. Mosler vs.
Hawthorne Savings and Loan Association, Hawthorne Financial Corporation, et al.,
filed in the Superior Court of the State of California as Case No. BC154729 (the
"Action"). The plaintiffs had previously filed an individual action alleging the
same matters contained in the class action complaint. The individual action is
scheduled for trial in July 1997. Plaintiffs contend they were entitled to a
notice of availability of foreclosure counseling, which they allege they did not
receive, before the Bank foreclosed. Plaintiffs contend that the alleged failure
to provide counseling notices and the underbidding by the Bank of the loan
amount at foreclosure resulted in damages to the purported class in an amount in
excess of $40 million. The Company has been named and alleged to have liability
based upon its relationship as trustee on the Deed of Trust securing the Bank's
loans. The Company and the Bank filed responsive pleadings to the action
alleging that the complaint is defective on its face and that the plaintiffs are
not proper representatives of the purported class. The court granted the Company
and Bank's motion and dismissed the plaintiff's case. The plaintiffs have
appealed.
The Bank has been named as a defendant in an action entitled Takaki vs.
Hawthorne Savings and Loan Association, filed in the Superior Court of the State
of California, Los Angeles, as Case No. YC021815. The plaintiffs were owners of
real property which they sold in 1991 to a third party. The Bank provided escrow
services in connection with the transaction and provided purchase money
financing to the purchaser. A substantial portion of the consideration paid to
the plaintiffs took the form of a deed of trust secured by another property then
owned by an affiliate of the purchaser. The value of the collateral securing
this deed of trust ultimately proved to be inadequate. The plaintiffs allege
that the Bank knew, or should have known, that the security for the plaintiffs'
loan was inadequate and should have so advised them. The Bank disputes the
plaintiffs' allegations and believes that the law in California is unambiguous
that there is no duty which attaches to escrow providers to advise the
parties to an escrow. Trial is scheduled for April 1997. The plaintiffs have
claimed damages in excess of $5 million.
F-33
<PAGE> 94
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
The Company is involved in a variety of other litigation matters which, for the
most part, arise out of matters and events which were alleged to have occurred
prior to 1994. Many of these lawsuits either allege construction defects or
allege improper servicing of the loan. In the opinion of management, none of
these cases will have a material adverse effect on the Bank's or the Company's
financial condition or operations.
LENDING COMMITMENTS
At December 31, 1996, the Company had outstanding commitments to originate loans
of $64.5 million and had commitments to fund the undisbursed portion of existing
construction loans of $45.5 million.
ERRORS AND OMISSIONS INSURANCE
The Company had a mortgagee's errors and omissions insurance policy as of
December 31, 1996. The Company did not have errors and omissions insurance on
other aspects of its operation.
LEASES
The Company has entered into agreements to lease certain office facilities under
operating leases which expire at various dates to the year 2010. The leases
generally provide that the Company pay property taxes, insurance and other
items. Current rental commitments for the remaining terms of these noncancelable
leases as of December 31, 1996 are as follows:
<TABLE>
<CAPTION>
AMOUNT
--------------
<S> <C>
1997 $ 1,106
1998 1,100
1999 1,092
2000 883
2001 343
Thereafter 487
-------------
$ 5,011
=============
</TABLE>
Lease expense for office facilities was $968,000, $966,000, and $767,000 for the
years ended December 31, 1996, 1995 and 1994, respectively.
F-34
<PAGE> 95
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE Q - ESTIMATED FAIR VALUE INFORMATION
The following disclosure of the estimated fair value of financial instruments is
made in accordance with the requirements of SFAS No. 107, "Disclosures about
Fair Value of Financial Instruments." The estimated fair value amounts have been
determined by the Company using available market information and appropriate
valuation methodologies. However, considerable judgment is required to interpret
market data to develop the estimates of fair value. Accordingly, the estimates
presented herein are not necessarily indicative of the amounts the Company could
realize in a current market exchange. The use of different market assumptions
and or estimation methodologies may have a material effect on the estimated fair
value amounts.
<TABLE>
<CAPTION>
1996 1995
-------------------------- --------------------------
ESTIMATED ESTIMATED
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Assets
Cash and cash equivalents $ 93,978 $ 93,978 $ 14,015 $ 14,015
Investment securities 38,371 38,371 62,793 62,793
Loans receivable 672,401 683,622 617,328 627,090
Liabilities
Deposits
Money market $ 18,793 $ 18,793 $ 34,708 $ 34,675
Passbook 22,887 22,887 30,595 30,557
Checking/NOW 24,954 24,954 26,241 26,241
Certificates of deposit 647,250 646,766 603,549 590,080
Noninterest bearing demand 3,925 3,925 2,915 2,915
FHLB advances 50,000 50,136
</TABLE>
The methods and assumptions used to estimate the fair value of each class of
financial instruments for which it is practicable to estimate that value are
explained below.
For cash and cash equivalents, the carrying amount is considered to be their
estimated fair value.
For investment securities, fair values are based on quoted market prices
obtained from an independent pricing service (NOTES A and C).
The carrying amount of loans receivable is their contractual amounts outstanding
reduced by net deferred loan origination fees and the allowance for loan losses
(NOTE D). Variable rate loans consist primarily of loans whose interest rates
float with changes in either a specified bank's reference rate or the FHLB
eleventh district cost of funds index.
The fair value of both variable and fixed rate loans was estimated by
discounting the remaining contractual cash flows using the estimated current
rate at which similar loans would be made to borrowers with similar credit risk
characteristics over the same remaining maturities, reduced by net deferred loan
origination fees and the allocable portion of the allowance for the loan losses.
The estimated current rate for discounting purposes was not adjusted for any
change in borrowers' credit risks since the origination of such loans. Rather,
the allocable portion of the allowance for loan losses is considered to provide
for such changes in estimating fair value.
F-35
<PAGE> 96
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
The fair value of nonaccrual loans (NOTE D) has been estimated at the carrying
amount of these loans as it is practicable to reasonably assess the credit risk
adjustment that would be applied in the market place for such loans.
The withdrawable amounts for checking accounts are considered to be stated at
their estimated fair value. The fair value of passbook accounts and
fixed-maturity certificates of deposit is estimated using the rates currently
offered for deposits of similar remaining maturities.
The fair value of FHLB advances is estimated using the rates currently offered
on similar instruments with similar terms.
The fair value of an interest rate cap is based upon the quoted termination
price as of the reporting date, as provided by independent dealers in these
instruments. As such the interest rate cap had no fair value at December 31,
1995.
The fair value estimates presented herein are based on pertinent information
available to management as of December 31, 1996. Although management is not
aware of any factors that would significantly affect the estimated fair value
amounts, such amounts have not been comprehensively revalued for purposes of
these financial statements since that date and, therefore, current estimates of
fair value may differ significantly from the amounts presented above.
F-36
<PAGE> 97
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE R - SEPARATE PARENT COMPANY FINANCIAL STATEMENTS
STATEMENTS OF FINANCIAL CONDITION
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------
1996 1995
----------- -----------
<S> <C> <C>
ASSETS
Cash at the Bank $ 1,222 $ 1,829
Investment securities 3,203 4,856
Investment in subsidiary 53,490 43,534
Other assets 987 1,216
----------- -----------
$ 58,902 $ 51,435
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable and other liabilities $ 2,673 $ 463
Senior notes 12,307 12,006
----------- -----------
14,980 12,469
Stockholders' equity
Preferred stock - $0.01 par value; authorized 10,000,000 shares
Cumulative preferred stock, series A: liquidation preference,
$50 per share; authorized, 270 shares; outstanding, 270 shares
Common stock - $0.01 par value; authorized 20,000,000 shares;
issued and outstanding, 2,604,675 shares 26 26
Capital in excess of par value - cumulative preferred stock, series A 11,592 11,592
Capital in excess of par value - common stock 7,745 7,745
Unrealized (loss) gain on available-for-sale securities (132) 6
Retained earnings - partially restricted 24,858 19,788
----------- -----------
44,089 39,157
Less
Treasury stock, at cost - 5,400 shares (48) (48)
Loan to Bank ESOP (119) (143)
----------- -----------
43,922 38,966
----------- -----------
$ 58,902 $ 51,435
=========== ===========
</TABLE>
F-37
<PAGE> 98
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-----------------------------------------
1996 1995 1994
---------- ------------ -----------
<S> <C> <C> <C>
Interest revenues
Interest income
Loans $ - $ 49 $ 79
Investments 246 13
From subsidiary 16 12 30
---------- ------------ -----------
Total interest revenues 262 74 109
Interest costs 1,921 92
Provision for credit losses
---------- ------------ -----------
Net interest income (1,659) (18) 109
Noninterest revenues 13 49 96
Operating costs (910) (515) (471)
Real estate operations, net (102)
Loss on sale of loans (1) (89)
---------- ------------ -----------
Pre-tax loss before equity in
earnings (loss) of subsidiary (2,557) (675) (266)
Income tax benefit (expense) (37)
---------- ------------ -----------
Loss before equity in
earnings (loss) of subsidiary (2,557) (712) (266)
Equity in earnings (loss) of subsidiary 10,064 (13,505) (2,697)
---------- ------------ -----------
Net earnings (loss) $ 7,507 $ (14,217) $ (2,963)
========== ============ ===========
Net earnings (loss) available for Common $ 5,704 $ (14,341) $ 2,963
========== ============ ===========
Net earnings (loss) per share $ 1.11 $ (5.52) $ (1.14)
========== ============ ===========
Weighted average shares 5,141 2,599 2,599
========== ============ ===========
</TABLE>
F-38
<PAGE> 99
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------------
1996 1995 1994
----------- ------------ -----------
<S> <C> <C> <C>
Cash flows from operating activities
Net earnings (loss) $ 7,507 $ (14,217) $ (2,963)
Adjustments
Equity in undistributed earnings (loss) of subsidiary (10,064) 13,505 2,697
Depreciation and amortization 479 112
Increase in interest receivable (2) (13)
Loss on sale of REOs 80
Increase in other assets (1,178)
Increase (decrease) in accounts payable and other liabilities (228) 14 (169)
Other
----------- ------------ -----------
Net cash used in operating activities (2,308) (1,697) (435)
----------- ------------ -----------
Cash flows from investing activities
Purchases of securities (4,845)
Maturities of securities 1,677
Sales of loans receivable 760
Collection of loans receivable 16 76
Net proceeds from real estate owned 671 (3)
----------- ------------ -----------
Net cash provided by (used in) investing activities 1,677 (3,398) 73
----------- ------------ -----------
Cash flows from financing activities
Net collection of ESOP loan 24 23 21
Cash contribution to subsidiary (20,000) (750)
Net proceeds from issuance of senior notes 11,994
Net proceeds from issuance of preferred stock 12,760
Net proceeds from issuance of warrants 1,078
----------- ------------ -----------
Net cash provided by (used in) financing activities 24 5,855 (729)
----------- ------------ -----------
Increase (decrease) in cash (607) 760 (1,091)
Cash at beginning of year 1,829 1,069 2,160
----------- ------------ -----------
Cash at end of year $ 1,222 $ 1,829 $ 1,069
=========== ============ ===========
Non-cash investing and financing items
Net unrealized gain (loss) on available-for-sale securities $ (124) $ 6 $
Accrued dividends payable 2,430 124
</TABLE>
F-39
<PAGE> 100
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE S - QUARTERLY INFORMATION (UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
-------------------------------------------------------
MAR 31, JUNE 30, SEP 30, DEC 31,
------------ ------------ ----------- ------------
<S> <C> <C> <C> <C>
YEAR ENDED DECEMBER 31, 1996
Interest revenues $ 15,430 $ 16,491 $ 17,061 $ 18,802
Interest costs (9,409) (9,899) (9,722) (10,930)
------------ ------------ ----------- ------------
Net interest income before contractual
interest on nonaccrual loans 6,021 6,592 7,339 7,872
Contractual interest on nonaccrual loans (629) (447) (641) (713)
------------ ------------ ----------- ------------
Net interest income 5,392 6,145 6,698 7,159
Provision for credit losses (1,200) (2,489) (2,800) (1,000)
------------ ------------ ----------- ------------
4,192 3,656 3,898 6,159
Net interest income after provision
for credit losses
Noninterest revenues 440 491 626 370
Operating costs (5,111) (5,344) (5,139) (5,452)
Real estate operations, net 441 (395) (597) (405)
Other income 346 6,333 (3,829) 445
------------ ------------ ----------- ------------
308 4,741 (5,041) 1,117
Income tax benefit (expense) 2,253 1,230 2,885 14
------------ ------------ ----------- ------------
Net earnings (loss) $ 2,561 $ 5,971 $ (2,156) $ 1,131
============ ============ =========== ============
Net earnings (loss) available for Common $ 2,136 $ 5,523 $ (2,764) $ 668
============ ============ =========== ============
Net earnings (loss) per share (1) $ 0.41 $ 1.07 $ (1.06) $ 0.13
============ ============ =========== ============
Weighted average shares (2) 5,141 5,141 2,599 5,141
============ ============ =========== ============
</TABLE>
- ----------------------
(1) Calculated using the modified Treasury method.
(2) Calculated using actual shares outstanding for the quarter ended
September 30, 1996. Inclusion of options and warrants would have
been antidilutive.
F-40
<PAGE> 101
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
--------------------------------------------------------
MAR 31, JUNE 30, SEP 30, DEC 31,
------------- ----------- ------------ ------------
<S> <C> <C> <C> <C>
YEAR ENDED DECEMBER 31, 1995
Interest revenues $ 13,214 $ 12,718 $ 12,858 $ 14,596
Interest costs (7,913) (8,487) (8,806) (9,280)
------------- ----------- ------------ ------------
Net interest margin before contractual
interest on nonaccrual loans 5,301 4,231 4,052 5,316
Contractual interest on nonaccrual loans (730) (677) (420) (565)
------------- ----------- ------------ ------------
Net interest margin 4,571 3,554 3,632 4,751
Provision for credit losses (12,745) (1,700) (450)
------------- ----------- ------------ ------------
Net interest margin after provision (8,174) 3,554 1,932 4,301
for credit losses
Noninterest revenues 276 364 536 135
Operating costs (5,421) (5,217) (4,672) (5,029)
Real estate operations 466 949 (2,692) 841
Other revenues, net 3,309 215 450 277
------------- ----------- ------------ ------------
(9,544) (135) (4,446) 525
Income tax benefit (expense) (585) (32)
------------- ----------- ------------ ------------
Net earnings (loss) $ (10,129) $ (135) $ (4,478) $ 525
============= =========== ============ ============
Net earnings (loss) available for Common $ (10,129) $ (135) $ (4,478) $ 430
============= =========== ============ ============
Earnings (loss) per share (1) $ (3.90) $ (0.05) $ (1.72) $ 0.13
============= =========== ============ ============
Weighted average shares 2,599 2,599 2,599 2,599
============= =========== ============ ============
</TABLE>
(1) Calculated using the Modified Treasury method for fourth
quarter only.
F-41
<PAGE> 102
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
NOTE T - CONSOLIDATING SCHEDULES
<TABLE>
<CAPTION>
HAWTHORNE HAWTHORNE
SAVINGS FINANCIAL ELIMINATIONS CONSOLIDATED
------------- ----------- --------------- ---------------
<S> <C> <C> <C> <C>
ASSETS
Cash and cash equivalents $ 93,782 $ 1,222 $ (1,026) $ 93,978
Investment securities 35,168 3,203 38,371
Investment in subsidiary 53,490 (53,490)
Loans receivable, net 672,391 10 672,401
Real estate owned, net 20,140 20,140
Accrued interest receivable 4,765 16 4,781
FHLB stock 6,788 6,788
Office property and equipment 4,729 4,729
Other assets 5,046 971 (10) 6,007
------------- ----------- --------------- ---------------
$ 842,809 $ 58,902 $ (54,516) $ 847,195
============= =========== =============== ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Deposits $ 718,835 $ - $ (1,026) $ 717,809
Borrowings 50,000 50,000
Accounts payable and other liabilities 20,484 2,673 23,157
Senior debt 12,307 12,307
------------- ----------- --------------- ---------------
789,319 14,980 (1,026) 803,273
Stockholders' equity
Capital stock 150 26 (150) 26
Preferred Stock
Capital in excess of par
value - common stock 20,765 7,745 (20,765) 7,745
Capital in excess of par
value - preferred stock 11,592 11,592
Unrealized gain (loss) on available-
for-sale securities (113) (132) 113 (132)
Retained earnings 32,688 24,858 (32,688) 24,858
------------- ----------- --------------- ---------------
53,490 44,089 (53,490) 44,089
Less
Treasury stock (48) (48)
Loan to Bank ESOP (119) (119)
------------- ----------- --------------- ---------------
53,490 43,922 (53,490) 43,922
------------- ----------- --------------- ---------------
$ 842,809 $ 58,902 $ (54,516) $ 847,195
============= =========== =============== ===============
</TABLE>
F-42
<PAGE> 103
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED DECEMBER 31, 1996
(DOLLAR AMOUNTS IN TABLES ARE IN THOUSANDS)
<TABLE>
<CAPTION>
HAWTHORNE HAWTHORNE
SAVINGS FINANCIAL ELIMINATIONS CONSOLIDATED
------------- ------------ ---------------- ---------------
<S> <C> <C> <C> <C>
YEAR ENDED DECEMBER 31, 1996
Interest revenues
Loans $ 62,153 $ - $ (1) $ 62,152
Investments 5,386 262 (16) 5,632
------------- ------------ ---------------- ---------------
67,539 262 (17) 67,784
Interest costs
Deposits 35,584 (16) 35,568
Borrowings 2,471 2,471
Senior notes 1,921 1,921
------------- ------------ ---------------- ---------------
38,055 1,921 (16) 39,960
Net interest income before contractual
interest on nonaccrual loans 29,484 (1,659) (1) 27,824
Contractual interest on nonaccrual loans (2,430) (2,430)
------------- ------------ ---------------- ---------------
Net interest income 27,054 (1,659) (1) 25,394
Loan provision for credit losses 7,489 7,489
------------- ------------ ---------------- ---------------
Net interest income after provision
for credit losses 19,565 (1,659) (1) 17,905
Noninterest revenues 2,057 13 (143) 1,927
Operating costs
Employee 9,737 63 9,800
Occupancy 2,890 2,890
Operating 4,103 605 (143) 4,565
Professional 1,373 242 1,615
SAIF Premium and OTS assessment 2,152 2,152
Goodwill 24 24
------------- ------------ ---------------- ---------------
20,279 910 (143) 21,046
Real estate operations (956) (956)
Gain on (loss) sale of loans 437 (1) 1 437
Gain on sale of securities 248 248
Disposition of deposits and premises 6,413 6,413
Other revenues (expense) (3,803) (3,803)
------------- ------------ ---------------- ---------------
2,339 (1) 1 2,339
Pretax earnings (loss) before income taxes
and equity in loss of subsidiary 3,682 (2,557) - 1,125
Income tax benefit 6,382 6,382
------------- ------------ ---------------- ---------------
Loss before equity in loss
of subsidiary 10,064 (2,557) 7,507
Equity in loss of subsidiary 10,064 (10,064)
------------- ------------ ---------------- ---------------
NET EARNINGS (LOSS) $ 10,064 $ 7,507 $ (10,064) $ 7,507
============= ============ ================ ===============
</TABLE>
F-43
<PAGE> 104
MANAGEMENT'S ASSERTION REPORT
January 31, 1997
To our Stockholders:
FINANCIAL STATEMENTS
The management of Hawthorne Financial Corporation ("Company") and its
subsidiary, Hawthorne Savings, F.S.B. is responsible for the preparation,
integrity, and fair presentation of its published financial statements and all
other information presented in this annual report. The financial statements have
been prepared in accordance with generally accepted accounting principles
("GAAP") and, as such, include amounts based on judgments and estimates made by
management.
The financial statements have been audited by an independent accounting firm,
which was given unrestricted access to all financial records and related data,
including minutes of all meetings of stockholders, the Board of Directors and
committees of the Board. Management believes that all representations to the
independent auditors during their audit were valid and appropriate.
INTERNAL CONTROL
Management is responsible for establishing and maintaining an effective internal
control structure over financial reporting, presented in conformity with both
GAAP and the Office of Thrift Supervisors ("OTS") instructions for the Thrift
Financial Report ("TFR"). The structure contains monitoring mechanisms, and
actions are taken to correct deficiencies identified.
There are inherent limitations in the effectiveness of any structure of internal
control, including the possibility of human error and the circumvention or
overriding of controls. Accordingly, even an effective internal control
structure can provide only reasonable assurance with respect to financial
statement preparation. Further, because of changes in conditions, the
effectiveness of an internal control structure may vary over time.
Management assessed the Company's internal control structure over financial
reporting presentation in conformity with both GAAP and TFR instructions as of
December 31, 1996. The assessment was based on criteria for effective internal
control over financial reporting described in Internal Control-Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission. Based on this assessment, management believes that the Company
maintained an effective internal control structure over financial reporting
presented in conformity with both GAAP and TFR instructions, as of December 31,
1996.
The Audit Committee of the Board of Directors is comprised entirely of outside
directors who are independent of management; it includes members with banking or
related management experience, has access to its own outside counsel, and does
not include any large customers of the Company. The Audit Committee is
responsible for recommending to the Board of Directors the selection of
independent auditors. It meets periodically with management, the independent
auditors, and the internal auditors to ensure that they are carrying out their
responsibilities. The Audit Committee is also responsible for performing an
oversight role by reviewing the Company's financial reports. The independent
auditors and the internal auditors have full and free access to the Audit
Committee, with or without the presence of management, to discuss the adequacy
of the internal control structure for financial reporting and any other matter
which they believe should be brought to the attention of the Audit Committee.
F-44
<PAGE> 105
COMPLIANCE WITH LAWS AND REGULATIONS
Management is also responsible for ensuring the compliance with federal laws and
regulations concerning loans to insiders and federal and state laws and
regulations concerning dividend restrictions, both of which are designated by
the FDIC as safety and soundness standards.
Management assessed its compliance with the designated safety and soundness laws
and regulations and has maintained records of its determinations and assessments
as required by the OTS. Based on this assessment, Management believes that the
Company has complied, in all material respects, with the designated safety and
soundness laws and regulations for the year ended December 31, 1996.
/S/ SCOTT A. BRALY /s/ NORMAN A. MORALES
- --------------------------- -----------------------------------
Scott A. Braly Norman A. Morales
President and Executive Vice
Chief Executive Officer President and
Chief Financial Officer
F-45
<PAGE> 106
INDEPENDENT ACCOUNTANTS' REPORT
To the Audit Committee
Hawthorne Financial Corporation
El Segundo, California
We have examined management's assertion that, as of December 31, 1996,
Hawthorne Financial Corporation ("the Company") and its subsidiary, Hawthorne
Savings, F.S.B. maintained an effective internal control structure over
financial reporting presented in conformity with both generally accepted
accounting principles and the Office of the Thrift Supervision Instructions for
Thrift Financial Reports included in the accompanying management's report on
internal controls.
Our examination was made in accordance with standards established by the
American Institute of Certified Public Accountants, and, accordingly, included
obtaining an understanding of the internal control structure over financial
reporting, testing and evaluating the design and operating effectiveness of the
internal control structure over financial reporting, and such other procedures
as we considered necessary in the circumstances. We believe that our examination
provides a reasonable basis for our opinion.
Because of inherent limitations in any internal control structure, errors
or irregularities may occur and not be detected. Also, projections of any
evaluation of the internal control structure over financial reporting to future
periods are subject to the risk that the internal control structure may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies may deteriorate.
In our opinion, management's assertion that, as of December 31, 1996, the
Company maintained an effective internal control structure over financial
reporting presented in conformity with both generally accepted accounting
principles and the Office of Thrift Supervision Instructions for Thrift
Financial Reports is fairly stated, in all material respects, based on the
criteria established in Internal Control - Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission.
DELOITTE & TOUCHE LLP
January 31, 1997
Los Angeles, California
F-46
<PAGE> 1
LEASE AGREEMENT
THIS LEASE AGREEMENT (this "Lease") is made and entered into by and
between Lessor and Lessee, as defined below. Lessor hereby agrees to lease to
Lessee and Lessee hereby agrees to lease from Lessor, the Premises, as defined
below, pursuant to all of the terms and conditions set forth below:
ARTICLE 1 - DEFINED TERMS, GENERAL CONDITIONS AND PREMISES
Section 1.1 Defined Terms. The terms listed below ("Defined Terms")
shall have the following meanings throughout this Lease:
(a) Lessor: Continental Development Corporation,
a California corporation
2041 Rosecrans Avenue, Suite 265
El Segundo, CA 90245
(b) Lessee: Hawthorne Savings and Loan Association
13658 Hawthorne Boulevard, 4th Floor
Hawthorne, CA 90250
(c) Premises: The designated space shown on Exhibit "C-2" attached
hereto and to be commonly known as 2361/2381 Rosecrans Avenue,
Suite 200, El Segundo, California.
(d) Building: The Building, all other buildings and office,
commercial and retail space and all roads, walks, plazas,
landscaped areas, improvements, facilities and common areas
associated therewith, including the Parking Facilities (as
hereinafter defined) shown on Exhibit "A-l" and the land
legally described on Exhibit "A-2" (the land) on which the
same are situated.
(e) Property: That portion of Continental Park (depicted in
Exhibit "A-3") described in Exhibit "A-2".
(f) Rentable Area of the Building: 189,526 square feet.
(g) Rentable Area of the Premises: 42,202 square feet. Usable Area
of the Premises: 39,574 square feet. The usable area shall be
subject to verification by Lessee, at its cost, using BOMA
Standard ANSI Z-65.1. Lessee may submit any difference, if it
is more or less than 500 usable square feet, Lessor may if
evidence is satisfactory to our Architect, modify number of
usable square feet. If the parties cannot agree then they
shall select a mutually agreed upon Architect to determine the
number of square feet.
(h) Lessee's Pro Rata Share: Twenty-one point eight six eight
percent (21.868%). See Article 4.
(i) Term: Six Years (6) years following the actual Commencement
Date. See Article 2.
(j) Scheduled Commencement Date: November 1, 1994. The actual
Commencement Date shall be calculated in accordance with
Section 2.2.
(k) Scheduled Expiration Date: October 31, 2000.
(l) Base Rental: $39,373.70 per month ($.95 per rentable square
foot per month). See Articles 3 and 4.
(m) Base Rental Adjustments: None
(n) Base Year: 1995
(o) Deposit: $40,000.00. See Article 5.
(P) Use: Administrative business for Savings and Loan Offices. See
Article 6.
(q) Parking Privileges: Lessee must take a minimum of One Hundred
Twenty (120) permits. As and when the need may arise, Lessee
may take an additional Forty (40) permits. See Article 32.
(r) Monthly Parking Charges: Reserved $60.00/Non-Reserved $45.00
throughout only the initial six (6) year Term. See Rider No.
1.
Page 1 of 22
<PAGE> 2
(s) Date of Lease: April 28, 1994 (for reference purposes only.)
(t) Lessor's Construction Allowance: None.
(u) Normal Hours: Monday through Friday, from 7:30 a.m. to 6:30
p.m., Saturday, from 9:00 a.m. to 1:00 p.m., excepting state
and/or federal holidays. See Exhibit "D".
Section 1.2 General Conditions.
(a) Unless this Lease provides for a contrary standard, whenever in
this Lease the consent or approval of the Lessor or Lessee is required, such
consent or approval shall not be unreasonably withheld or delayed (except,
however, with respect to any Lessor consent, for matters which could possibly
have an adverse effect on the Building's plumbing, heating, mechanical, life
safety, ventilation, air conditioning or electrical systems, which could affect
the structural integrity of the Building, or which could affect the exterior
appearance of the Building, Lessor may withhold such consent or approval in its
sole discretion but shall act in good faith); and
(b) Unless a contrary standard or right is set forth in this Lease,
whenever the Lessor or Lessee is granted a right to take action, exercise
discretion, or make an allocation, judgment or other determination, Lessor or
Lessee shall act reasonably and in good faith and take no action which might
result in the frustration of the reasonable expectations of a sophisticated
tenant and a sophisticated landlord concerning the benefits to be enjoyed under
this Lease.
Section 1.3 Lease of Premises. Lessor leases to Lessee, and Lessee
leases from Lessor, the Premises.
ARTICLE 2 - TERM
Section 2.1 Effective Date. This Lease will become effective when
signed by Lessor and Lessee.
Section 2.2 Commencement Date. The Term of this Lease and the Base
Rental shall commence ninety (90) days from and after the date the Premises are
Ready for Occupancy but in no event shall the Term and Rent commence after the
Commencement Date.
Section 2.3 Delivery of Premises. Provided the Lessee shall have
delivered to Lessor prior to execution of this Lease: (i) a letter indemnifying
Lessor from any and all costs incurred by Lessor for the preparation of plans
and specifications for the Lessee Improvements (defined in Exhibit "C" attached
hereto) and (ii) an approved set of Schematic Drawings (defined in Exhibit "C"),
the Premises will be delivered to Lessee on the date the Premises are Ready for
Occupancy. Delay of the Commencement Date to the extent not caused by Lessee
Delays shall be Lessee's sole remedy for any delay in constructing Lessee
Improvements or making the Premises Ready for Occupancy.
Section 2.4 Notice of Commencement Date. Lessor shall send Lessee
notice of the occurrence of the Commencement Date in the form of the attached
Exhibit "B," which notice Lessee shall acknowledge by executing a copy of the
notice and returning it to Lessor. If Lessee fails to sign and return the notice
to Lessor within ten (10) days of receipt of the notice from Lessor, the notice
as sent by Lessor shall be deemed to have correctly set forth the Commencement
Date. Failure of Lessor to send such notice shall have no effect on the
Commencement Date.
Section 2.5 Definition of Lessee Improvements, Ready For Occupancy and
Lessee Delays. The terms "Lessee Improvements," "Ready For Occupancy," and
"Lessee Delays" are defined in the attached Exhibit "C" - Construction Work
Letter.
ARTICLE 3 - RENT
Section 3.1 Payment of Base Rental. Lessee shall pay the Base Rental as
computed and adjusted from time to time pursuant to Section 4.1 of this Lease,
in advance, on or before the first day of each calendar month during the entire
Term. In addition to the payment of Base Rental, Lessee shall also pay all
Operating Expense Adjustments computed pursuant to Section 4.2 of this Lease. On
the Commencement Date, Lessee shall pay to Lessor the prorated Base Rental
attributable to the month in which the Commencement Date occurs if the
Commencement Date occurs on a date other than the first day of a calendar month.
Section 3.2 Governmental Assessments. In addition to the Base Rental,
Lessee shall pay, prior to delinquency, (a) all personal property taxes,
charges, rates, duties and license fees assessed against or levied upon Lessee's
occupancy of the Premises, or upon any Lessee Improvements, trade fixtures,
furnishings, equipment or other personal property contained in the Premises
(collectively, "Personal Property"), and (b) Lessee's Pro Rata Share (as defined
in Section 4.4) of any governmental fees or charges, general and special,
ordinary and
Page 2 of 22
<PAGE> 3
extraordinary, unforeseen as well as foreseen, of any kind whatsoever (other
than Taxes, as defined in Section 4.4(m), which shall be handled in accordance
with the provisions of Article 4) (collectively, "Assessments"). Lessee shall
cause such Assessments upon Personal Property to be billed separately from the
property of Lessor. Lessee hereby agrees to indemnify, defend and hold Lessor
harmless from and against the payment of all such Assessments.
Section 3.3 Special Charges for Special Services. Lessee agrees to pay
to Lessor, within ten (10) days following written demand, all charges for any
services, utilities, goods or materials furnished by Lessor at Lessee's request
which are not required to be furnished by Lessor under this Lease without
separate charge or reimbursement.
Section 3.4 Definition of Rent. Any and all payments of Base Rental
(including any and all increases thereof) and any and all taxes, fees, charges,
costs, expenses, insurance obligations, late charges, interest, Assessments,
Operating Expense Adjustments, and all other payments, disbursements or
reimbursements (collectively, "Rent") which are attributable to, payable by or
the responsibility of Lessee under this Lease, constitute "rent" within the
meaning of California Civil Code Section 1951(a). Any Rent payable to Lessor by
Lessee for any fractional month shall be prorated based on a three hundred
sixty-five (365) day year. All payments owed by Lessee under this Lease shall be
paid to Lessor in lawful money of the United States of America at the Lessor's
Address for Payment of Rent set forth in Section 1. 1 (a) or such other address
as Lessor notifies Lessee in writing from time to time. All payments shall be
paid without deduction, setoff or counterclaim.
Section 3.5 Late Charge. Lessee acknowledges that the late payment of
Rent will cause Lessor to incur damages, including administrative costs, loss of
use of the overdue funds and other costs, the exact amount of which would be
impractical and extremely difficult to ascertain. Lessor and Lessee agree that
if Lessor does not receive a payment of Rent within five (5) business days after
the date that such payment is due, Lessee shall pay to Lessor a late charge
equal to ten percent (10 %) of the delinquent amount, as liquidated damages for
the damages which Lessor is likely to incur for the thirty (30) day period
following the due date of such payment. Further, all portions of Rent not paid
within thirty (30) days following its due date and all late charges associated
therewith shall bear interest at the Interest Rate (as defined below) beginning
on the thirty-first (31st) day following the due date of such Rent and
continuing until such Rent, late charges and interest are paid in full.
Acceptance of the late charge, and/or interest by Lessor shall not cure or waive
Lessee's default, nor prevent Lessor from exercising, before or after such
acceptance, any and all of the rights and remedies for a default provided by
this Lease or at law or in equity. Payment of the late charge and/or interest is
not an alternative means of performance of Lessee's obligation to pay Rent at
the times specified in this Lease. Lessee will be liable for the late charge
regardless of whether Lessee's failure to pay the Rent when due constitutes a
default under this Lease. The term "Interest Rate" shall mean the lower of (x)
the maximum interest rate permitted by law or (y) five percentage points above
the rate publicly announced from time to time by Bank of America N.T.&S.A. (or
if Bank of America N.T.&S.A. ceases to exist, then the largest bank
headquartered in the State of California) ("Bank") as its Reference Rate. If the
use of the announced Reference Rate is discontinued by the Bank, then the
reference to Reference Rate shall mean the announced rate, charged by the Bank
which is from time to time substituted for such Reference Rate. Whenever
interest is required to be paid under this Lease, the interest shall be
calculated from the date the payment was due (unless a late charge is assessed
by Lessor, in which case the interest shall be calculated from the thirty-first
(31st) day following the date the payment was due) or should have been due if
correctly assessed or estimated (or any overcharge paid), until the date payment
is made or the refund is paid or is credited against Rent next due. However,
there shall not be any credit against Rent unless expressly allowed by the terms
of this Lease.
Section 3.6 Acceleration of Base Rental Payments. In the event a late
charge becomes payable pursuant to Section 3.5 of this Lease for three (3)
payments of any one or more elements of Rent within a twelve (12) month period,
then all subsequent Rent payments shall immediately and automatically become
payable by Lessee quarterly, in advance, instead of monthly.
Section 3.7 Disputes as to Payments of Rent. Lessee agrees to pay the
Rent required under this Lease within the time limits set forth in this Lease.
If Lessee receives from Lessor an invoice or statement, which invoice or
statement is sent by Lessor in good faith, and Lessee in good faith disputes
whether all or any part of such Rent is due and owing, Lessee shall nevertheless
pay to Lessor the amount of the Rent indicated on the invoice or statement until
Lessee receives a final judgment from a court of competent jurisdiction
relieving or mitigating Lessee's obligation to pay such Rent. In such instance
where Lessee disputes its obligations to pay all or part of the Rent indicated
on such invoice or statement, Lessee shall, concurrently with the payment of
such Rent, provide Lessor with a letter or notice entitled "Payment Under
Protest," specifying in detail why Lessee is not required to pay all or part of
such Rent. Lessee will be deemed to have waived its right to contest any past
payment of Rent unless it has filed a lawsuit against Lessor and has served a
summons on Lessor, within one (1) year of such payment. Until an Event of
Default by Lessee occurs, Lessor shall continue to provide the services and
utilities required by this Lease.
Page 3 of 22
<PAGE> 4
ARTICLE 4 - ADJUSTMENTS TO RENT
Section 4.1 Cost of Living Adjustment - Base Rental Increase.
This Section intentionally deleted.
Section 4.2 Operating Expense Adjustments. Lessee shall pay to Lessor,
in addition to the Base Rental due pursuant to Section 3.1, an Operating
Expense Adjustment during each successive calendar year of the Term after the
Base Year, in the manner and at the times herein provided. Such payments shall
become due and owing when the Pro Rata Share of the Operating Expenses for any
subsequent year of the Term exceed the Pro Rata Share of the aggregate annual
Operating Expenses for the Base Year (the Excess Operating Expenses). Should the
Termination Date be other than the last day of a subsequent year of the Term,
Operating Expense Adjustment for such year shall be prorated.
Section 4.3 Procedure for Payment of Operating Expense Adjustments.
Lessee shall pay any Excess Operating Expenses, as follows:
(a) Commencing on the Commencement Date, Lessor may, from time to time
by ten (10) days notice to Lessee, reasonably estimate in advance the amounts
Lessee shall owe on a monthly basis for Excess Operating Expenses for any full
or partial calendar year of the Term. In such event, Lessee shall pay such
estimated amounts, on a monthly basis, on or before the first day of each
calendar month, together with Lessee's payment of Base Rental. Such estimate may
be reasonably adjusted from time to time by Lessor by written notice to Lessee.
(b) Within one hundred twenty (120) days after the end of each calendar
year, or as soon thereafter as practicable, Lessor shall provide a statement
(the "Statement") to Lessee showing: (i) the amount of actual Operating Expenses
for such calendar year, (ii) any amount paid by Lessee toward Excess Operating
Expenses during such calendar year on an estimated basis, and (iii) any revised
estimate of Lessee's obligations for Excess Operating Expenses for the current
calendar year.
(c) If the Statement shows that Lessee's estimated payments were less
than Lessee's actual obligations for Excess Operating Expenses for such year,
Lessee shall pay the difference, whether or not the Term has expired or
terminated. If the Statement shows an increase in Lessee's estimated payments
for the current calendar year, Lessee shall pay the difference between the new
and former estimates, for the period from January 1 of the current calendar year
through the month in which the Statement is sent. Lessee shall make such
payments within thirty (30) days after Lessor sends the Statement.
(d) If the Statement shows that Lessee's estimated payments exceeded
Lessee's actual obligations for Excess Operating Expenses, Lessee shall receive
a credit of such difference against payments by Lessee next due. If the Term
shall have expired and no further payments of Excess Operating Expenses by
Lessee shall be due, Lessee shall receive a refund of such difference within
thirty (30) days after Lessor sends the Statement, provided Lessee is not in
default of this Lease.
(e) No delay by Lessor in providing the Statement (or separate
Statements) shall be deemed a default by Lessor or a waiver of Lessor's right to
require payment of Lessee's obligations for actual or estimated Excess Operating
Expenses.
(f) If the Term commences other than on January 1, or ends other than
on December 31, Lessee's obligations to pay estimated and actual amounts toward
Excess Operating Expenses for such first or final calendar years shall be
prorated to reflect the portion of such years included in the Term. Such
proration shall be made by multiplying the total estimated or actual (as the
case may be) Excess Operating Expenses for such calendar years by a fraction,
the numerator of which shall be the number of days of the Term during such
calendar year, and the denominator of which shall be 365.
Section 4.4 Certain Defined Terms. "Lessee's Pro Rata Share" means the
ratio of the Rentable Area of the Premises to the Rentable Area of the Building.
"Operating Expenses" are defined to be the sum of all costs, expenses, and
disbursements, of every kind and nature whatsoever, and the Taxes, incurred by
Lessor in connection with the ownership, management, use, maintenance,
operation, administration and repair of all or any portion of the Building or
the Property and all areas appurtenant thereto which provide access to or
otherwise benefit the Building, including, but not limited to, the following:
(a) All utility costs not otherwise charged (pursuant to Section 3.3)
directly to Lessee or any other tenant of the Property;
(b) All wages and benefits and costs of employees or independent
contractors or employees of independent contractors engaged in the operation,
supervision, maintenance and security of the Building;
(c) All expenses for janitorial, maintenance, security and safety
services;
Page 4 of 22
<PAGE> 5
(d) All repairs to, replacements of, and physical maintenance of the
Building, including the cost of all supplies, uniforms, equipment, tools and
materials;
(e) All license, permit and inspection fees required in connection with
the operation of the Building;
(f) All auditor's or accounting fees and costs incurred in connection
with the operation, maintenance, repair and replacement of the Building;
(g) All legal fees and costs incurred in connection with the operation,
maintenance, repair and replacement of the Building;
(h) All reasonable fees for management services provided by a
management company and/or by Lessor and/or an agent of Lessor;
(i) The annual amortization of costs, including financing costs, if
any, incurred by Lessor after completion of the Building for any capital
improvements installed or paid for by Lessor and required by any new (or change
in) laws, rules or regulations of any governmental or quasi-governmental
authority;
(j) The annual amortization of costs, including financing costs, if
any, of any equipment, device or capital improvement purchased or incurred as a
labor-saving measure or to affect other economies in the operation or
maintenance of the Building (provided the annual amortized cost does not exceed
the actual cost savings realized and such savings do not redound primarily to
the benefit of any particular tenant);
(k) All insurance premiums and other charges (including, without
limitation, unreimbursed deductible amounts) incurred by Lessor with respect to
the insuring of the Building including, without limitation, the following to the
extent carried by the Lessor: (i) fire and extended coverage insurance,
windstorm, hail and explosion; (ii) riot attending a strike, civil commotion,
aircraft, vehicle and smoke insurance; (iii) public liability, bodily injury and
property damage insurance; (iv) elevator insurance; (v) workers' compensation
insurance for the employees specified in Section 4.4(b) above; (vi) boiler and
machinery insurance, sprinkler leakage, water damage, property, burglary,
fidelity and pilferage insurance on equipment and materials; (vii) loss of rent,
rent abatement, rent continuation, business interruption insurance, and similar
types of insurance; (viii) earthquake insurance; and (ix) such other insurance
as is customarily carried by operators of other comparable first-class office
buildings in Southern California;
(l) Such other usual costs and expenses incurred by Lessor and which
are paid by other landlords for the purpose of providing for the on-site
operation, supervision, management, security, servicing, maintenance, repair and
replacement of first-class office buildings in Southern California; and
(m) All actual taxes, assessments, levies, charges, water and sewer
charges, rapid transit and other similar or comparable governmental charges
(collectively, "Taxes") levied or assessed on, imposed upon or attributable to
the Calendar year in question (i) to the Building, and/or (ii) to the operation
of the Building, including, but not limited to, Taxes against the Building,
personal property taxes or assessments levied or assessed against the Building,
plus any tax measured by gross rentals received from the Building, together with
any costs incurred by Lessor, including attorneys' fees, in contesting any such
Taxes but excluding any net income, franchise, capital stock, estate or
inheritance taxes imposed by the State of California or the United States or by
their respective agencies, branches or departments provided that, if at any time
during that Term there shall be levied, assessed or imposed on Lessor or the
Building by any governmental entity, any general or special, ad valorem or
specific excised capital levy or other taxes on the payments received by Lessor
under this Lease or other leases affecting the Building and/or any license fee,
excise or franchise taxes measured by or based, in whole or in part, upon such
payments, and/or transfer, transaction, or taxes based directly or indirectly
upon the transaction represented by this Lease or other leases affecting the
Building, and/or any occupancy, use, per capita or other taxes, based directly
or indirectly upon the use or occupancy of the Premises or the Building, then
all such taxes shall be deemed to be included within the definition of the term
Taxes.
If the Building does not have at least ninety-five percent (95 %) of
the usable area of the Building occupied during the entirety of any calendar
year during the term, then the Operating Expenses for such calendar year period
shall be deemed to be equal to the total of (x) the Operating Expenses, that
vary in amounts based upon the occupancy level of the building including, but
not limited to, janitorial, maintenance, utilities and property management,
which would have been incurred by Lessor if ninety-five percent (95%) of the
usable area of the Building had been occupied for the entirety of such calendar
year and (y) the actual Taxes as defined in Section 4.4(m). The annual
amortization of costs as required above shall be determined by Lessor. Operating
Expenses shall be computed according to the cash or accrual basis of accounting,
as Lessor may elect in accordance with generally accepted accounting principles
employed by Lessor. Lessor shall have the right, in its discretion, to allocate
and prorate any portion or portions or all of the Operating Expenses on a
building-by-building basis, then Lessee's Pro Rata Share shall, as to the
portion of Operating Expenses so allocated, be based on the ratio of the
Rentable Area of the Premises to the Rentable Area of the Building.
Page 5 of 22
<PAGE> 6
Section 4.5 Review of Operating Expenses. Lessee shall have a period of
sixty (60) days following receipt of each Statement, within which to inspect, at
Lessor's office during normal business hours, Lessor's books and records
concerning Operating Expenses for the preceding calendar year period in
question. Such inspection may only be done by an accounting firm which is
mutually approved by Lessor and Lessee or Lessee may choose one person from
among Lessee's Controller, Treasurer or Chief Financial Officer to conduct such
inspection, provided that the person chosen by Lessee is a Certified Public
Accountant. If Lessee shall not have availed itself of such inspection, Lessee
shall be deemed to have accepted as final and determinative the amounts shown on
the Statement. If Lessee shall have availed itself of its right to inspect the
books and records, and then disputes the accuracy of the information set forth
in Lessor's books and records with respect to the Statement, Lessee shall
nevertheless continue to pay the amounts as required by the provisions of this
Article 4; provided, however, that no later than six (6) months after receipt of
the Statement, Lessee must (or its right to contest such charges shall be deemed
waived) institute arbitration proceedings against Lessor in an arbitration
proceeding governed by the rules of the American Arbitration Association to
collect and recover any overpayments made by Lessee resulting from errors in the
books and records of Lessor; and provided further, that Lessee shall, within ten
(10) days of filing of the complaint, serve Lessor with a copy of the complaint
filed in any such proceeding. Lessee shall be precluded from contesting
Operating Expenses and Lessor's computations of the amounts payable by Lessor or
Lessee pursuant to this Article 4, unless an arbitration complaint is filed and
served within such six (6) month period. Should the arbitrator find errors in
excess of ten percent (10%) of the Statement, then Lessor shall be responsible
for all reasonable fees and costs incurred by Lessee with respect to the
arbitration proceeding. Should the arbitrator find errors of less than four
percent (4%) of the Statement, then Lessee shall be responsible for all the
reasonable fees and costs incurred by Lessor with respect to the arbitration
proceeding. Should the arbitrator find errors of between four percent (4 %) and
ten percent (10%) of the Statement, then each party shall be responsible for
all fees and costs incurred by it with respect to the arbitration proceeding.
If Lessee institutes such arbitration proceedings, then the arbitrator
shall have the power to, and shall inquire into and determine, not only whether
or not Lessee was overcharged for any Excess Operating Expenses, but whether or
not Lessee was undercharged for such Excess Operating Expenses. At the
conclusion of the arbitration, the arbitrator shall issue a ruling as to what
the Excess Operating Expenses should have been had Lessor strictly complied with
the provisions of this Lease. If Lessor overcharged Lessee for Excess Operating
Expenses, the amount of the overcharge shall be returned to Lessee within thirty
(30) days following the conclusion of the arbitration. If the arbitrator
determines that Lessee was undercharged for Excess Operating Expenses, Lessee
shall pay the amount of such undercharge to Lessor within thirty (30) days
following the issuance of the arbitration ruling.
ARTICLE 5 - SECURITY DEPOSIT
Concurrently with Lessee's execution of this Lease and submission
thereof for Lessor's execution, Lessee shall pay the Deposit to Lessor, which
Deposit shall be held by Lessor as security for the full and faithful
performance of Lessee's covenants and obligations under the Lease. The Deposit
is not an advance Base Rental deposit, an advance payment of any other kind, or
a measure of Lessor's damages in case of Lessee's default. If Lessee fails to
comply with the full and timely performance of any or all of Lessee's covenants
and obligations set forth in this Lease, then Lessor may, from time to time,
without waiving any other remedy available to Lessor, use the Deposit, or any
portion of it, to the extent necessary to care or remedy such failure or to
compensate Lessor for any or all damages sustained by Lessor resulting from
Lessee's failure to comply fully and timely with its obligations pursuant to
this Lease. Lessee shall immediately pay to Lessor on demand the amount so
applied in order to restore the Deposit to its original amount, and Lessee's
failure to immediately do so shall constitute a default under this Lease. If
Lessee is in compliance with the covenants and obligations set forth in this
Lease at the time which is sixty (60) days following the time of both the
expiration (or earlier termination) of this Lease and Lessee's vacating of the
Premises, Lessor shall return the Deposit to Lessee promptly thereafter.
Lessor's obligations with respect to the Deposit are those of a debtor and not a
trustee. Lessor shall not be required to maintain the Deposit separate and apart
from Lessor's general or other funds, and Lessor may commingle the Deposit with
any of Lessor's general or other funds. Lessee shall not at any time be entitled
to interest on the Deposit.
ARTICLE 6 - USE
Section 6.1 Restriction on Use. Lessee shall not do or permit to be
done in or about the Property, nor bring, keep or permit to be brought or kept
therein, anything which is prohibited by the attached Exhibits "D" and "F" or by
any standard form fire insurance policy or which will in any way increase the
existing rate of, or affect, any fire or other insurance upon the Building or
its contents, or which will cause a weight load or stress on the floor or any
other portion of the Premises in excess of the weight load or stress which the
floor or other portion of the Premises is designed to bear. Lessee, at Lessee's
sole cost, shall comply with all laws (as defined in Section 21.2) affecting the
Premises, and with the requirements of any Board of Fire Underwriters or other
similar body now or hereafter instituted, and shall also comply with any order,
directive or certificate of occupancy issued pursuant to any Laws, which affect
the condition, use or occupancy of the Premises, including, but not limited to,
any requirements of structural changes related to or affected by Lessee's acts,
occupancy or use of the Premises. The judgment of any court of competent
jurisdiction or the admission of Lessee in any action against Lessee, whether or
not Lessor is a party to such action, shall be conclusive as between Lessor and
Lessee in establishing
Page 6 of 22
<PAGE> 7
such violation. Lessee shall not conduct retail operations from the Premises or
use the Premises for medical or dental offices or for any other office purpose
which is different from the office operations permitted by Lessor of its other
tenants in the Building.
Section 6.2 Compliance by Other Lessees. Lessor shall not be liable to
Lessee for any other occupant's or tenant's failure to conduct itself in
accordance with the provisions of this Article 6, and Lessee shall not be
released or excused from the performance of any of its obligations under this
Lease in the event of any such failure. Lessor shall not lease space in the
Premises to any commercial bank, savings bank or savings and loan association
for branch office or administrative facilities without the consent of the
Lessee.
ARTICLE 7 - ALTERATIONS AND ADDITIONS
Section 7.1 Lessee's Rights To Make Alterations. Following the date on
which Lessee first occupies the Premises, Lessee, at its sole cost and expense,
shall have the right upon receipt of Lessor's consent, to make alterations,
additions or improvements to the Premises if such alterations, additions or
improvements are made in accordance with this Article 7, are normal for general
office use, do not adversely affect the utility or value of the Premises or the
Building for future tenants, do not alter the exterior appearance of the
Building, are not of a structural nature, do not require excessive removal
expenses and are not otherwise prohibited under this Lease (collectively,
"Alterations"). All such Alterations shall be made in conformity with the
requirements of Section 7.2 below and at the option of Lessor with Lessor's
contractors. Once the Alterations have been completed, such Alterations shall
thereafter be included within the designation of Lessee Improvements and shall
be treated as Lessee Improvements.
Section 7.2 Installation of Alterations. Provided the Lessor shall have
previously given Lessee written approval and consent to Alterations, any
Alterations installed by Lessee during the Term shall be done in strict
compliance with all of the following:
(a) No such work shall proceed without Lessor's prior approval of (i)
Lessee's contractor(s); (ii) certificates of insurance from a company or
companies approved by Lessor, furnished to Lessor by Lessee's Contractor(s), for
combined single limit bodily injury and property damage insurance covering
comprehensive general liability and automobile liability, in an amount not less
than One Million Dollars ($1,000,000) per person and per occurrence and endorsed
to show Lessor as an additional insured, and for workers' compensation as
required by law, endorsed to show a waiver of subrogation by the insurer to any
claims Lessee's contractor may have against Lessor, Lessor's agents, employees,
contractors and other tenants of the Building (provided, however, nothing in
this Section 7.2(a) shall release Lessee of its other insurance obligations
hereunder); and (iii) detailed plans and specifications for such work.
(b) All such work shall be done in a first-class workmanlike manner and
in conformity with a valid building permit and all other permits and licenses
when and where required, copies of which shall be furnished to Lessor before the
work is commenced, and any work not acceptable to any governmental authority or
agency having or exercising jurisdiction over such work, or not reasonably
satisfactory to Lessor, shall be promptly replaced and corrected at Lessee's
expense. Lessor's approval or consent to any such work shall not impose any
liability upon Lessor. No work shall proceed until and unless Lessor has
received at least ten (10) days notice that such work is to commence.
(c) Lessee shall immediately reimburse Lessor for any expense incurred
by Lessor in reviewing and approving the plans and specifications for such work
or by reason of any faulty work done by Lessee or Lessee's contractors, or by
reason of delays caused by such work, or by reason of inadequate cleanup.
(d) Lessee or its contractors will in no event be allowed to make
plumbing, mechanical or electrical improvements to the Premises, or any
structural modification to the Building without first obtaining Lessor's written
consent, which Lessor can withhold in its sole and absolute discretion. Lessee
may not make changes to, or install, acoustical or integrated ceilings, or
partitions over 5'10"in height without first obtaining Lessor's written
consent.
(e) All work by Lessee shall be scheduled through Lessor and shall be
diligently and continuously pursued from the date of its commencement through
its completion; and
(f) Lessee shall obtain any bonds required by Lessor pursuant to
Article 9 of this Lease.
Section 7.3 Lessee Improvements - Treatment at End of Lease. All
Alterations and Lessee Improvements made by or for Lessee, whether temporary or
permanent in character, made either by Lessor or Lessee, shall be Lessor's
property, and shall be surrendered to Lessor in good condition upon expiration
of the Term or earlier termination of this Lease without compensation to Lessee;
provided, however, that at the election of Lessor, exercisable by notice to
Lessee, Lessee shall, at Lessee's sole expense, prior to the expiration of the
Term (or within 10 days following the earlier termination of this Lease), remove
from the Premises the Lessee Improvements (or that portion of the Lessee
Improvements) required to be removed by Lessee and repair all damage
Page 7 of 22
<PAGE> 8
to the Premises caused by such removal. All of Lessee's Personal Property,
including moveable furniture, trade fixtures, and equipment not attached to the
Building or the Premises, shall be completely removed by Lessee prior to the
expiration of the Term (or within 10 days following the earlier termination of
this Lease). Provided, however, that Lessee shall repair all damage caused by
such removal prior to the expiration of the Term (or within 10 days following
the earlier termination of this Lease), and provided further, that any of
Lessee's Personal Property not so removed shall, at the option of Lessor, be
deemed abandoned by Lessee and automatically become the property of Lessor.
Lessor shall have the right, upon reasonable notice to Lessee to enter and fully
inspect the entire Premises just prior to the expiration of the Term or earlier
termination of this Lease to determine the condition of the Premises and for
purposes of ascertaining what removals, if any, Lessor shall require of Lessee
pursuant to the terms of this Section and this Lease. Thereafter, Lessor may
retain or dispose of in any manner said Personal Property not so removed,
without liability to Lessee.
ARTICLE 8 - LESSEE'S REPAIRS
Lessee shall, at Lessee's sole cost and expense, keep the Premises in
good and sanitary condition and repair at all times during the Term. All damage,
injury or breakage to any part or portion of the Premises, and all damage,
injury or breakage to any portion of the Property caused by the willful or
negligent act or omission of Lessee or Lessee's agents, employees, contractors,
licensees, directors, officers, partners, trustees, visitors or invitees
(collectively, "Lessee's Employees"), shall be promptly repaired or replaced by
Lessee, at Lessee's sole cost and expense, to the satisfaction of Lessor;
provided, however, that Lessee shall be entitled to receive reimbursement for
such expense to the extent that the cost of any such repair or replacement is
received by Lessor from insurance obtained by Lessor as part of Operating
Expenses and is related to damage to the Property rather than expenses, Lessor
may make any repairs or replacements which are not made by Lessee within a
reasonable amount of time (except in the case of emergency when such repairs or
replacements can be made immediately), and charge Lessee for the cost of such
repairs and replacements. Lessee shall be solely responsible for the design and
function of all of Lessee Improvements whether or not installed by Lessor at
Lessee's request. Lessee waives all rights to make repairs or replacements to
the Premises or to the Property at the expense of Lessor, or to deduct the cost
of such repairs or replacements from any payment owed to Lessor under this
Lease.
ARTICLE 9 - NO LIENS BY LESSEE
Lessee shall at all times keep the premises, the Building and the
Property free from any liens arising out of any work performed or allegedly
performed, materials, furnished or allegedly furnished or obligations incurred
by or for Lessee. At any time Lessee either desires or is required to make any
Alterations, Lessor may, in addition to the provisions of Article 7, require
Lessee, at Lessee's sole cost and expense, to obtain and provide to Lessor
performance and payment bonds in a form and by a surety acceptable to Lessor and
in an amount not less than one and one-half (1-1/2) times the estimate cost of
such Alterations to insure Lessor against liability from mechanics' and
materialmen's liens and to insure completion of the work and may also require
such additional items or assurances as Lessor in its sole discretion may deem
reasonable or desirable. Lessee agrees to indemnify, defend, protect, and hold
Lessor harmless from and against any and all claims for mechanics',
materialmen's or other liens in connection with any Alterations, repairs, or any
work performed, materials furnished or obligations incurred by or for Lessee.
Lessor reserves the right to enter the Premises for the purpose of posting such
notices of nonresponsibility as may be permitted by law, or desired by Lessor.
ARTICLE 10 - LESSOR'S REPAIRS
Section 10.1 Scope of Lessor's Repairs. So long as no Event of Default
(as defined in Article 17) has occurred, which remains uncured, Lessor shall
maintain and repair the structural elements and the public and common areas of
the Building as the same may exist from time to time, except for non-insured
damage or wear and tear which is the result of a negligent or willful act or
omission of Lessee or Lessee's Employees. Lessor shall have no obligation to
make repairs under this Article 10 until a reasonable time after receipt of
written notice of the need for such repairs. In no event shall any payments owed
by Lessee under this Lease be abated on account of Lessor's failure to make
repairs under this Article 10.
Section 10.2 Lessor's Right of Entry to Make Repairs. Lessor and
Lessor's Employees (as defined in Section 14. 1) shall have the right to enter
the Premises at all reasonable times for the purpose of making any alterations,
additions, improvements, repairs or replacements to the Premises or the Property
as Lessor may deem necessary or desirable. Lessor shall give reasonable notice
to Lessee of Lessor's intent to enter the Premises, except, however, in an
emergency situation, in which case no prior notice shall be required.
ARTICLE 11 - BUILDING SERVICES
Section 11.1 Standard Building Services. Subject to the full
performance by Lessee of all of Lessee's obligations under this Lease, Lessor
shall furnish the Premises with the standard building services and utilities as
set forth in the attached Exhibit "D".
Page 8 of 22
<PAGE> 9
Section 11.2 Additional Services. Lessee agrees to immediately pay on
demand all reasonable charges imposed by the Lessor from time to time for all
building services and utilities supplied to or used by Lessee in excess of or in
addition to those standard building services and utilities (e.g., HVAC is a
building service and the electricity to run the HVAC system is a utility,
therefore, there would be separate costs billed for HVAC including, but not
limited to, maintenance and depreciation costs) and the electricity which Lessor
agrees to provide to Lessee in accordance with Exhibit "D" (said excess and
additional building services and utilities are referred to as "Additional
Services"). Lessee agrees to pay Lessor, within five (5) business days, for all
such Additional Services consumed as shown by said meters, at the rates charged
for such services by the local public or private utility furnishing the same, if
applicable, plus any additional expense incurred by Lessor in keeping records or
accounts of the Additional Services so consumed.
Section 11.3 Lessor's Right to Cease Providing Services. Lessor
reserves the right in its sole and absolute discretion with respect to item (a)
below, and in its reasonable discretion with respect to item (b) below, to
reduce, interrupt or cease service of the heating, air conditioning,
ventilation, elevator, plumbing, electrical systems, telephone systems and/or
utilities services of the Premises, the Building or the Property, for any or all
of the following reasons or causes:
(a) any accident, emergency, governmental regulation, or Act of God,
including, but not limited to, any cause set forth in Article 29, or
(b) the making of any repairs, replacements, additions, alterations or
improvements to the Premises or the Property until said repairs, additions,
alterations or improvements shall have been completed.
No such interruption, reduction or cessation of any such building
services or utilities shall constitute an eviction or disturbance of Lessee's
use or possession of the Premises or Property, or an ejection or eviction of
Lessee from the Premises, or a breach by Lessor of any of its obligations, or
entitle Lessee to be relieved from any of its obligations under this Lease, or
result in any abatement of Rent. In the event of any such interruption,
reduction, or cessation, Lessor shall use reasonable diligence to restore such
service where it is within Lessor's reasonable control to do so.
ARTICLE 12 - ASSIGNMENT AND SUBLETTING
Section 12.1 Right to Assign and Sublease. Lessor and Lessee recognize and
specifically agree that this Article 12 is an economic provision, like Rent, and
that the Lessor's right to recapture, and to share in profits, is granted by
Lessee to Lessor in consideration of certain other economic concessions granted
by Lessor to Lessee. Lessee may voluntarily assign its interest in this Lease or
in the Premises, or sublease all or any part of the Premises, or allow any other
person or entity to occupy or use all or any part of the Premises, upon first
obtaining Lessor's prior written consent, but only if (i) Lessee is not then in
default of this Lease, (ii) such assignment or sublease does not conflict with
or result in a breach of the permitted Use of the Premises, and (iii) such
proposed assignee or sublessee of Lessee's proposed assignment or sublease is
not:
(a) a governmental entity;
(b) a present tenant in the Building or other space or building in
Continental Park;
(e) a person whose tenancy in the Building or other space or building
in Continental Park would violate any exclusivity arrangement which Lessor has
with any other space or building in Continental Park-.
(d) a person whose tenancy results in more people working at, or
visiting, the Premises, than the number of people who worked at, or visited, the
Premises at the time when Lessee was the sole occupant of the Premises; or
(e) a person who is not comparable in quality, financial standing and
business reputation to Lessee or whose business operations are not comparable to
the business operations of the then tenants in the Building leasing space
similar to the Premises.
Any assignment, encumbrance or sublease without Lessor's prior written
consent shall be voidable, at Lessor's election, and shall constitute a default
by Lessee. No consent to an assignment, encumbrance or sublease shall constitute
a further waiver of the provisions of this Article 12.
Section 12.2 Procedure for Assignment and Sublease/Lessor's Recapture
Rights. Lessee shall advise Lessor by notice of (a) Lessee's intent to assign,
encumber or sublease this Lease, (b) the name of the proposed assignee or
sublessee, and evidence reasonably satisfactory to Lessor that such proposed
assignee of sublessee is comparable in reputation, stature and financial
condition to the other tenants then leasing comparable space in the Building,
and (c) the terms of the proposed assignment or subletting. Lessor shall, within
thirty (30) days of receipt of such notice, and any additional information
requested by Lessor concerning the proposed assignee's or sublessee's financial
responsibility, elect one of the following:
Page 9 of 22
<PAGE> 10
(i) Consent to such proposed assignment, encumbrance or
sublease;
(ii) Refuse such consent, which refusal shall be on
reasonable grounds; or
(iii) Elect to terminate this Lease in the event of an
assignment, or in the case of a sublease,terminate this Lease as to the portion
of the Premises proposed to be sublet for the proposed term of the sublease. In
the event that Lessor elects, pursuant to this subsection (iii), to terminate
this Lease with respect to all or any portion of the Premises, Lessee shall have
the right, during the ten (10) day period following Lessor's election, to
rescind its notice of intent to assign, encumber or sublease, in which case
termination of this Lease as a result thereof shall be of no effect.
Section 12.3 Conditions Regarding Consent to Sublease and Assignment.
As a condition for obtaining Lessor's consent to any assignment, encumbrance or
sublease, Lessee must require that the rent payable by such assignee or
sublessee is at least at the then current rental rates for the Premises or
comparable premises in the Building, and, if Lessor so requests, shall require
that the assignee or sublessee remit directly to Lessor on a monthly basis, all
rent due to Lessee by said assignee or sublessee. Lessee shall pay upon demand
Lessor's processing costs and attorneys' fees incurred in determining whether to
give such consent. Notwithstanding any permitted assignment or subletting,
Lessee shall at all times remain directly, primarily and fully responsible and
liable for all payments owed by Lessee under this Lease and for compliance with
all obligations under the terms, provisions and covenants of this Lease. If for
any proposed assignment or sublease, Lessee receives rent or other
consideration, either initially or over the term of the assignment or sublease,
in excess of the rent required by this Lease, or, in the case of the sublease of
a portion of the Premises, in excess of such rent fairly allocable to such
portion, after appropriate adjustments to assure that all other payments called
for hereunder are taken into account, Lessee shall pay to Lessor as additional
rent, fifty percent (50%) of the excess of each such payment of rent or other
consideration received by Lessee within five (5) days of its receipt or, in the
event the sublessee or assignee makes payment directly to the Lessor, Lessor
shall refund fifty percent (50%) of the excess to Lessee.
Section 12.4 Affiliated Companies/Restructuring of Business
Organization. Occupancy of all or part of the Premises by a parent or
wholly-owned subsidiary company of Lessee or by a wholly-owned subsidiary
company of Lessee's parent company (collectively, "affiliated companies") shall
not be deemed an assignment or subletting provided that any such affiliated
companies were not formed as a subterfuge to avoid the obligations of this
Article 12. If Lessee is a corporation, unincorporated association, trust or
general or limited partnership, then the sale, assignment, transfer or
hypothecation of any shares, partnership interest or other ownership interest of
such entity which from time to time in the aggregate exceeds twenty-five percent
(25 %) of the total outstanding shares, partnership interests or ownership
interests of such entity or which effects a change in the -management or control
of Lessee, or the dissolution, merger, consolidation or other reorganization of
such entity, or the sale, assignment, transfer or hypothecation of more than
forty percent (40 %) of the value of the assets of such entity, shall be deemed
an assignment subject to the provisions of this Article 12.
ARTICLE 13 - SUBSTITUTED PREMISES
This section intentionally deleted.
ARTICLE 14 - INDEMNIFICATION; INSURANCE
Section 14.1 Indemnification.
(a) Lessee's Indemnification. Lessee shall, at its expense, protect,
defend, indemnify and hold Lessor and Lessor's agents, contractors, licensees,
employees, directors, officers, partners, trustees and invitees (collectively,
"Lessor's Employees") and any and all of Lessor's lessors and mortgagees (whose
names shall have been furnished to Lessee) harmless from and against any and all
claims, arising out of or in connection with Lessee's use of the Premises, the
Building or the Property, the conduct of Lessee's business, any activity, work
or things done, permitted or allowed by Lessee in or about the Premises or the
Property, Lessee's or Lessee's Employees' nonobservance or nonperformance of any
statute, ordinance, rule, regulation or other Law, or any negligence or willful
act or failure to act of Lessee or Lessee's Employees.
(b) Lessor's Indemnification. Lessor shall, at its expense, protect,
defend, indemnify and hold Lessee and Lessee's agents, contractors, licensees,
employees, directors, officers, partners, trustees and invitees (collectively,
"Lessee's Employees") harmless from and against any and all claims, arising out
of or in connection with Lessor's use of the Building or the Property, the
conduct of Lessor's business, any activity, work or things done, permitted or
allowed by Lessor about the Premises or the Property, Lessor's or Lessor's
Employees' nonobservance or nonperformance of any statute, ordinance, rule,
regulation or other Law, or any negligence or willful act or failure to act of
Lessor or Lessor's Employees.
Page 10 of 22
<PAGE> 11
Section 14.2 Insurance. Lessee shall have the following insurance
obligations:
(a) Liability Insurance. Lessee shall obtain and keep in full force a
policy of commercial general liability and property damage insurance (including
automobile, personal injury, broad form contractual liability and broad form
property damage) under which Lessee is named as the insured and Lessor, Lessor's
agent and any and all of Lessor's lessors and mortgagees (whose names from time
to time shall have been furnished to Lessee) are named as additional insureds
and shall contain an endorsement naming Lessor as an additional loss payee and
under which the insurer agrees to indemnify, protect, defend, and hold Lessor,
its managing agent and all such lessors and mortgagees harmless from and against
any and all costs, expenses and liabilities arising out of or based upon the
indemnification obligations of this Lease. The minimum limits of liability shall
be a combined single limit with respect to each occurrence of not less than Two
Million Dollars ($2,000,000.00). The policy shall contain a separation of
insureds clause identical in form and substance to the Separation of Insureds
clause contained in the standard ISO form #CG00 01 (11-88) and shall not
otherwise eliminate cross-liability. The policy shall be primary coverage for
Lessee and Lessor for any liability arising out of Lessee's and Lessee's
Employees' use, occupancy, maintenance, repair and replacement of the Premises
and all areas appurtenant thereto. Such insurance shall provide that it is
primary insurance and not "excess over" or contributory with any other valid,
existing and applicable insurance in force for or on behalf of Lessor. Not more
frequently than once each year, if, in the opinion of Lessor's lender or of the
insurance consultant retained by Lessor, the amount of public liability and
property damage insurance coverage at that time is not adequate, Lessee shall
increase the insurance coverage as required by either Lessor's lender or
Lessor's insurance consultant.
(b) Lessee's Property Insurance. Lessee, at its cost, shall maintain on
all of its Personal Property, Lessee Improvements and Alterations, in, on or
about the Premises, a policy of standard fire and extended coverage insurance,
with theft, vandalism and malicious mischief endorsements, to the extent of at
least full replacement value without any deduction for depreciation. The
proceeds from any such policy shall be used by Lessee for the repair,
replacement and restoration of such Personal Property, Lessee Improvements and
Alterations. The "full replacement value" of the improvements to be insured
under this Article 14 shall be determined by the company issuing the insurance
policy at the time the policy is initially obtained. Not less frequently than
once every three (3) years, Lessor shall have the right to notify Lessee that it
elects to have the replacement value redetermined by an insurance company or
insurance consultant. The redetermination shall be made promptly and in
accordance with the rules and practices of the Board of Fire Underwriters, or a
like board recognized and generally accepted by the insurance company, and each
party shall be promptly notified of the results by the company. The insurance
policy shall be adjusted according to the redetermination.
(c) Worker's Compensation. Lessee shall maintain Worker's Compensation
and Employer's Liability insurance as required by law.
(d) Business Interruption. Not required.
(e) Other Coverage. Lessee, at its cost, shall maintain such other
insurance as Lessor may reasonably require from time to time.
(f) Insurance Criteria. All the insurance required under this Lease
shall:
(i) Be issued by insurance companies authorized to do
business in the State of California, with a financial rating of at least an
A:Xlll status as rated in the most recent edition of Best's Insurance Reports;
(ii) Be issued as a primary policy;
(iii) Contain an endorsement requiring thirty (30) days'
written notice from the insurance company to both parties before cancellation or
change in the coverage, scope, or amount of any policy; and
(iv) With respect to property loss or damage by fire or other
casualty, a waiver of subrogation must be obtained, as required by Section 14.4.
(g) Evidence of Coverage. A certificate of insurance, together with
evidence of payment of premiums, shall be deposited with Lessor at least ten
(10) days prior to the date which Lessor estimates the Commencement Date will
occur, and on renewal of the policy not less than thirty (30) days before
expiration of the term of the policy. Lessor shall have the right to require
Lessee to provide a certified copy of actual insurance policy.
(h) No Limitation of Liability. The insurance obligations of Lessee
hereunder, and/or the limits on such insurance as described herein shall in no
event waive, release or discharge Lessee of any or all other obligations and
liabilities of Lessee contained in this Lease or otherwise.
Page 11 of 22
<PAGE> 12
Section 14.3 Assumption of Risk. Lessee, as a material part of the
consideration to Lessor, hereby assumes all risk of damage to Lessee's Personal
Property, Lessee Improvements and Alterations or injury to persons, in, upon or
about the Premises and/or the Property from any cause (except for damage or
injury caused by the gross negligence or willful misconduct of Lessor) and
Lessee hereby waives all such claims against Lessor. Lessor and Lessor's
Employees shall not be liable for any damage to any of Lessee's Personal
Property entrusted to Lessor or Lessor's Employees, nor for loss or damage to
any of Lessee's Personal Property by theft or otherwise. Lessee shall give
prompt notice to Lessor in case of fire or accidents in the Premises or in the
Building. Further, with the exception of Lessor's gross negligence or willful
misconduct, Lessor and Lessor's Employees shall have no liability to Lessee or
any of Lessee's Employees for any damage, loss, cost or expense incurred or
suffered by any of them (including, without limitation, damage to Lessee's
business), and Lessee hereby waives any claim with respect to Lessor's and
Lessor's Employees' acts or omissions hereunder, including, without limitation,
any claims relating to the maintenance, repair, restoration and/or replacement
of the Premises, or the Building, and the exercise of any other right which
Lessor is authorized hereunder to do.
Section 14.4 Allocation of Insured Risks/Subrogation. Lessor and Lessee
release each other from any claims and demands of whatever nature for damage,
loss or injury to the Premises and/or the Building, or to the other's Property
in, on or about the Premises and the Building, that are caused by or result from
risks or perils insured against under any insurance policies required by this
Lease to be carried by Lessor and/or Lessee and in force at the time of any such
damage, loss or injury. Lessor and Lessee shall cause each insurance policy
obtained by them or either of them to provide that the insurance company waives
all right of recovery by way of subrogation against either Lessor or Lessee in
connection with any damage covered by any policy. Neither Lessor nor Lessee
shall be liable to the other for any damage caused by fire or any of the risks
insured against under any insurance policy required by this Lease. If an
insurance policy cannot be obtained with a waiver of subrogation, or is
obtainable only by the payment of an additional premium charge above that
charged by insurance companies issuing policies without waiver of subrogation,
the party undertaking to obtain the insurance shall notify the other party of
this fact. The other party shall have a period of ten (10) days after receiving
the notice either to place the insurance with a company that is reasonably
satisfactory to the other party and that will carry the insurance with a waiver
of subrogation, or to agree to pay the additional premium if such a policy is
obtainable at additional cost. If the insurance cannot be obtained or the party
in whose favor a waiver of subrogation is desired refuses to pay the additional
premium charged, the other party is relieved of the obligation to obtain a
waiver of subrogation with respect to the particular insurance involved.
ARTICLE 15 - DAMAGE OR DESTRUCTION
Section 15.1 Loss Covered by Insurance. If, at any time prior to the
expiration or termination of this Lease, the Premises or the Building or the
Property is wholly or partially damaged or destroyed by a casualty, the loss to
Lessor from which is fully covered (except for the normal deductible) by
insurance maintained by Lessor or for Lessor's benefit, which casualty renders
the Premises totally or partially inaccessible or unusable by Lessee in the
ordinary conduct of Lessee's business, then (provided that Lessor shall not be
required to use the proceeds of such insurance for the purposes described in
subsections (a) and (b) below):
(a) Repairs Which Can Be Completed Within Nine Months. Within sixty
(60) days of notice to Lessor of such damage or destruction, Lessor shall
provide Lessee with notice of its determination of whether the damage or
destruction can be repaired within nine (9) months of such damage or destruction
without the payment of overtime or other premium. If all repairs to such
Premises or Building or Property can, in Lessor's judgment, be completed within
nine (9) months following the date of notice to Lessor of such damage or
destruction without the payment of overtime or other premium, Lessor shall, at
Lessor's expense, repair the same and this Lease shall remain in full force and
effect and a proportionate reduction of Base Rental shall be allowed Lessee for
such portion of the Premises as shall be rendered inaccessible or unusable to
Lessee, and which is not used by Lessee, during the period of time that such
portion is unusable or inaccessible and not used by Lessee.
(b) Repairs Which Cannot Be Completed Within Nine Months. If all such
repairs to the Premises or Building or Property cannot, in Lessor's judgment, be
completed within nine (9) months following the date of notice to Lessor of such
damage or destruction without the payment of overtime or other premium, Lessor
shall notify Lessee of such determination and Lessor may, at Lessor's sole and
absolute option, upon written notice to Lessee given within sixty (60) days
after notice to Lessor of the occurrence of such damage or destruction, elect to
repair such damage, or destruction at Lessor's expense, and in such event, this
Lease shall continue in full force and effect but the Base Rental shall be
proportionately reduced in the amount and for the duration as hereinabove
provided in Section 15. 1(a). If Lessor does not elect to make such repairs,
then either Lessor or Lessee may, by written notice to the other no later than
ninety (90) days after the occurrence of such damage or destruction, elect to
terminate this Lease as of the date of the occurrence of such damage or
destruction.
Section 15.2 Loss Not Covered By Insurance. If, at any time prior to
the expiration or termination of this Lease, the Premises or the Building or the
Property is totally or partially damaged or destroyed from a casualty, the loss
(except for the deductible) to Lessor from which is not fully covered by
insurance maintained by Lessor or for Lessor's benefit, and which damage renders
the Premises inaccessible or unusable to Lessee in the ordinary course of its
business, Lessor may, at its option, upon written notice to Lessee within sixty
(60) days after
Page 12 of 22
<PAGE> 13
notice to Lessor of the occurrence of such damage or destruction, elect to
repair or restore such damage or destruction, or Lessor may elect to terminate
this Lease (provided Lessor shall not be required to use said insurance
proceeds, if any, for the purposes described in this Section 15.2). Lessor shall
provide Lessee with notice of its determination within sixty (60) days of such
damage or destruction. If Lessor elects to repair or restore such damage or
destruction, this Lease shall continue in full force and effect but the Base
Rental shall be proportionately reduced as provided in Section 15.1(a). If
Lessor does not elect by notice to Lessee to repair or restore such damage, this
Lease shall terminate.
Section 15.3 Substantial Damage; Damage During Final Year.
Notwithstanding anything to the contrary contained in Section 15.1 or 15.2:
(a) If the Building or any other portion of the Property is damaged by
more than twenty-five percent (25%) of its respective replacement value
(without deduction for depreciation or physical deterioration), or if the
Building or any other portion of the Property cannot be rebuilt to its condition
prior to such damage due to governmental limitations or restrictions, then
Lessor shall have the right to terminate this Lease by written notice thereof to
Lessee;
(b) If the Premises or the Building or the Property are wholly or
partially damaged or destroyed within the final twelve (12) months of the Term
of this Lease, and no renewal rights have been exercised prior to such damage or
destruction, Lessor shall have the right to terminate this Lease by written
notice thereof to Lessee; or
(c) If the Premises or the Building or the Property are wholly or
partially damaged or destroyed within the final twelve (12) months of the Term
of this Lease, and no renewal rights have been exercised prior to such damage or
destruction, and if, as a result of such damage or destruction, Lessee is denied
access or use of the Premises for the conduct of its business operations for a
period of ten (10) consecutive business days, then, Lessee may, at its option,
by giving Lessor written notice no later than sixty (60) days after the
occurrence of such damage or destruction, elect to terminate this Lease.
Section 15.4 Exclusive Remedy. This Article 15 shall be Lessee's sole
and exclusive remedy in the event of damage or destruction to the Premises or
the Building or the Property, and Lessee, as a material inducement to Lessor's
entering into this Lease, irrevocably waives and releases Lessee's rights under
California Civil Code Sections 1932(2) and 1933(4). No damages, compensation or
claim shall be payable by Lessor for any inconvenience, any interruption or
cessation of Lessee's business, or any annoyance, arising from any damage to or
destruction of all or any portion of the Premises or the Building of the
Property.
ARTICLE 16 - EMINENT DOMAIN
Section 16.1 Permanent Taking - When Lease Can Be Terminated. If the
whole of the Premises, or so much of the Premises as to render the balance
unusable by Lessee, shall be taken under the power of eminent domain, this Lease
shall automatically terminate as of the date of final judgment in such
condemnation, or as of the date possession is taken by the condemning authority,
whichever is earlier. A sale by Lessor under threat of condemnation shall
constitute a "taking" for the purpose of this Article 16. No award for any
partial or entire taking shall be apportioned and Lessee assigns to Lessor all
awards which may be made in such taking or condemnation, together with all
rights of Lessee to such award, including, without limitation, any award of
compensation for the value of all or any part of the leasehold estate created
hereby; provided that nothing contained in this Article 16 shall be deemed to
give Lessor any interest in or to require Lessee to assign to Lessor any award
made to Lessee for (a) the taking of Lessee's Personal Property, or (b)
interruption of or damage to Lessee's business, or (c) Lessee's unamortized cost
of the Lessee Improvements to the extent paid for by Lessee; provided further
that Lessee's award shall in no event diminish the award to Lessor.
Section 16.2 Permanent Taking - When Lease Cannot Be Terminated. In the
event of a partial taking which does not result in a termination of this Lease
under Section 16.1, Base Rental shall be proportionately reduced based on the
portion of the Premises rendered unusable, and Lessor shall restore the Premises
or the Building to the extent of available condemnation proceeds.
Section 16.3 Temporary Taking. No temporary taking of the Premises or
any part of the Premises and/or of Lessee's rights to the Premises or under this
Lease shall terminate this Lease or give Lessee any right to any abatement of
any payments owed to Lessor pursuant to this Lease, any award made to Lessee by
reason of such temporary taking shall belong entirely to Lessee; provided,
however, in no event shall an award to Lessee reduce any award to Lessor.
Section 16.4 Exclusive Remedy. This Article 16 shall be Lessee's sole
and exclusive remedy in the event of a taking or condemnation. Lessee hereby
waives the benefit of California Code of Civil Procedure Section 1265.130.
Page 13 of 22
<PAGE> 14
Section 16.5 Release Upon Termination. Upon termination of this Lease
pursuant to this Article 16, Lessee and Lessor hereby agree to release each
other from any and all obligations and liabilities with respect to this Lease
except such obligations and liabilities which arose or accrued prior to such
termination.
ARTICLE 17 - DEFAULTS
Section 17.1 Default by Lessee. Each of the following shall be an
"Event of Default" (sometimes referred to herein as a "default") by Lessee and a
material breach of this Lease:
(a) Lessee shall fail to make any payment owed by Lessee under this
Lease, as and when due, and the Lessor shall have delivered a Notice to Pay or
Quit. Any such notice shall be in lieu of, and not in addition to, any notice
required under Section 1161 of the California Code of Civil Procedure;
(b) Lessee shall fail to observe, keep or perform any of the terms,
covenants, agreements or conditions under this Lease that Lessee is obligated to
observe or perform, other than that described in subsection (a) above, for a
period of ten (10) days after notice to Lessee of said failure; provided,
however, that if the nature of Lessee's default is such that more than ten (10)
days are reasonably required for its cure, then Lessee shall not be deemed to be
in default under this Lease if Lessee shall commence the cure of such default so
specified within said ten (10) day period and diligently prosecute the same to
completion within thirty (30) days after the original notice to Lessee of said
failure. Such notice shall be in lieu of, and not in addition to, any notice
required under Section 1161 of the California Code of Civil Procedure.
(c) Lessee shall (i) make any general arrangement or assignment for the
benefit of creditors; (ii) become a "debtor" as defined in 11 U.S.C. Section 101
or any successor statute thereto (unless, in case of a petition filed against
Lessee, the same is dismissed within 60 days); (iii) the appointment of a
trustee or receiver to take possession of substantially all of Lessee's assets
located at the Premises or of Lessee's interest in this Lease, where possession
is not restored to Lessee within 30 days; or (iv) the attachment, execution or
other judicial seizure of substantially all of Lessee's assets located at the
Premises or of Lessee's interest in this Lease, where such seizure is not
discharged within 30 days. Provided, however, in the event that any provision of
this subparagraph is contrary to any applicable law, such provision shall be of
no force or effect; or
(d) The vacating or abandonment of the Premises by Lessee.
Section 17.2 Default by Lessor. Lessor shall not be in default in the
performance of any obligation required to be performed under this Lease unless
Lessor has failed to perform such obligation within thirty (30) days after the
receipt of notice from Lessee specifying in detail Lessor's failure to perform;
provided, however, that if the nature of Lessor's obligation is such that more
than thirty (30) days are required for its performance, then Lessor shall not be
deemed in default if it shall commence such performance within thirty (30) days
and thereafter diligently pursue the same to completion. Lessee shall have no
rights as a result of any default by Lessor until Lessee also gives thirty (30)
days' notice to any person who has a recorded interest pertaining to the
Building or the Property, specifying the nature of the default. Such person
shall then have the right to cure such default, and Lessor shall not be deemed
in default if such person cures such default within thirty (30) days after
receipt of notice of the default, or within such longer period of time as may
reasonably be necessary to cure the default. If Lessor or such person does not
cure the default, Lessee may exercise such rights or remedies as shall be
provided or permitted by law to recover any damages proximately caused by such
default. Notwithstanding anything to the contrary contained in this Lease,
Lessee's remedy for any breach or default of this Lease by Lessor shall be
limited to an action for damages. Lessee agrees that, in the event that it
becomes entitled to receive damages from Lessor, Lessee shall not be allowed to
recover from Lessor consequential damages or damages in excess of the
out-of-pocket expenditures incurred by Lessee as a result of a default by
Lessor. In any event, Lessor's liability to Lessee for damages resulting from
Lessor's breach of any provision or provisions of this Lease shall not exceed
the value of Lessor's equity interest in the Building. Lessee hereby waives and
relinquishes any right which Lessee may have to terminate this Lease or withhold
any payment owed by Lessee under this Lease, on account of any damage,
condemnation, destruction or state of disrepair of the Premises (including,
without limiting the generality of the foregoing, those rights under California
Civil Code Sections 1941, 1941.1 and 1942).
ARTICLE 18 - LESSOR'S REMEDIES AND RIGHTS
Section 18.1 Termination of Lease. In case of an Event of Default by
Lessee, Lessor shall have the right, in addition to all other rights available
to Lessor under this Lease or now or later permitted by law or equity, to
terminate this Lease by providing Lessee with a notice of termination. Upon
termination, Lessor may recover any damages proximately caused by Lessee's
failure to perform under this Lease, or which are likely in the ordinary course
of business to be incurred, including any amount expended or to be expended by
Lessor in an effort to mitigate damages, as at the time of any award, of the
amount by which the unpaid Rent for the balance of the Term after the time of
the award exceeds the amount of the Rent loss that the Lessee proves could be
reasonably avoided. The worth at the time of award shall be determined by
discounting to present value such amount at one percent (1%) more than the
discount rate of the Federal Reserve Bank in San Francisco in effect at the time
of the award. Other damages to which Lessor is entitled shall bear interest at
the Interest Rate.
Page 14 of 22
<PAGE> 15
Section 18.2 Continuation of Lease. In accordance with California Civil
Code Section 1951.4 (or any successor statute), Lessee acknowledges that in the
event Lessee has breached this Lease and abandoned the Premises, this Lease
shall continue in effect for so long as Lessor does not terminate Lessee's right
to possession, and Lessor may enforce all its rights and remedies under this
Lease, including the right to recover the Rent as it becomes due under this
Lease. Acts of maintenance or preservation or efforts to re-let the Premises or
the appointment of a receiver upon initiative of Lessor to protect Lessor's
interest under this Lease shall not constitute a termination of Lessee's right
to possession.
Section 18.3 Right of Entry. In case of an Event of Default by Lessee,
Lessor shall also have the right, with or without terminating this Lease, to
enter the Premises and remove all persons and personal property from the
Premises, such property being removed and stored in a public warehouse or
elsewhere at Lessee's sole cost and expense for at least thirty (30) days, and
after such thirty (30) day period, Lessor shall have the right to discard or
otherwise dispose of such property without liability therefor to Lessee or any
other person. No removal by Lessor of any persons or property in the Premises
shall constitute an election to terminate this Lease. Such an election to
terminate may only be made by Lessor in writing, or decreed by a court of
competent jurisdiction. Lessor's right of entry shall include the right to
remodel the Premise and re-let the Premises. All costs incurred in such entry
and re-letting shall be paid by Lessee. Rents collected by Lessor from any other
tenant which occupies the Premises shall be offset against the amounts owed to
Lessor by Lessee. Lessee shall be responsible for any amounts not recovered by
Lessor from any other tenant which occupies the Premises. Any payments made by
Lessee shall be credited to the amounts owed by Lessee in the sole order and
discretion of Lessor, irrespective of any designation or request by Lessee. No
entry by Lessor shall prevent Lessor from later terminating this Lease by
written notice.
Section 18.4 Remedies. Lessee hereby waives, for itself and all persons
claiming by and under Lessee, all rights and privileges which it might have
under any present or future law to redeem the Premises or to continue this Lease
after being dispossessed or ejected from the Premises. The rights and remedies
of Lessor set forth in this Lease are not exclusive, and Lessor may exercise any
other right or remedy available to it under this Lease, at law or in equity.
Section 18.5 Lessor's Right to Assign. Lessor shall have the right to
sell, encumber, convey, transfer and/or assign any and all of its rights and
obligations under this Lease.
ARTICLE 19 - ATTORNEYS' FEES
If either Lessor or Lessee commences or engages in, or threatens to
commence or engage in, any action or litigation or arbitration against the other
party arising out of or in connection with this Lease, the Premises or the
building or the Property, including, but not limited to, any action for recovery
of any payment owed by either party under this Lease, or to recover possession
of the Premises, or for damages for breach of this Lease, the prevailing party
shall be entitled to have and recover from the losing party reasonable
attorneys' fees and other costs incurred in connection with the action,
litigation or arbitration and in preparation for said action, litigation or
arbitration. If Lessor becomes involved in any action, litigation, arbitration
or dispute, threatened or actual, by or against anyone not a party to this
Lease, but arising by reason of or related to any act or omission of Lessee or
Lessee's Employees, Lessee agrees to pay Lessor's reasonable attorneys' fees and
other costs incurred in connection with the action, litigation, arbitration or
dispute regardless of whether an action, lawsuit or arbitration proceeding is
actually filed.
ARTICLE 20 - SUBORDINATION, NON-DISTURBANCE AND ATTORNMENT
Section 20.1 Obligations of Lessee. This Lease and the rights granted
to Lessee by this Lease are and shall be subject and subordinate at all times to
(a) all ground or underlying leases affecting all or any part of the Property
now or later existing and all amendments, renewals, modifications, supplements
and extensions of this Lease, and (b) all deeds of trust or mortgages now or
later affecting or encumbering all or any part of the Property and/or any ground
or underlying leasehold estate; provided, however, that if Lessor elects at any
time to have Lessee's interest in this Lease be or become superior, senior or
prior to any such instrument, then upon receipt by Lessee of written notice of
such election, this Lease shall be superior, senior and/or prior to such
instrument. Lessee shall immediately execute all instruments and other documents
required or desired by any lender or lessor confirming the subordination and/or
superiority, as applicable, of this Lease to such mortgage, deed of trust,
ground or underlying lease, including, without limitation, the Subordination
Agreement described in Exhibit "E."
Section 20.2 Lessor's Right to Assign. Lessor's interest in this Lease
may be assigned to any mortgagee or trust deed beneficiary as additional
security. Nothing in this Lease shall empower Lessee to do any act without
Lessor's prior written consent which can, shall or may encumber the title of the
owner of all or any part of the Property.
Section 20.3 Attornment by Lessee. In the event of the cancellation or
termination of any or all ground or underlying leases affecting all or any part
of the Building in accordance with its terms or by the surrender thereof,
whether voluntary, involuntary or by operation of law, or by summary
proceedings, or in the event of any
Page 15 of 22
<PAGE> 16
foreclosure of any or all mortgages or deeds of trust encumbering all or any
part of the Building by trustee's sale, voluntary agreement, deed in lieu of
foreclosure, or by the commencement of any judicial action seeking foreclosure,
Lessee, at the request of the then landlord under this Lease, shall attorn to
and recognize (a) the ground or underlying lessor, under the ground or
underlying lease being terminated or canceled, and (b) the beneficiary or
purchaser at the foreclosure sale, as Lessee's landlord under this Lease, and
Lessee agrees to execute and deliver at any time upon request of such ground or
underlying lessor, beneficiary, purchaser or their successors, any and all
instruments to further evidence such attornment. Lessee hereby waives its right,
if any, to elect to terminate this Lease or to surrender possession of the
Premises in the event of any such cancellation or termination of such ground or
underlying lease or foreclosure of any mortgage or deed of trust.
Section 20.4 Non-Disturbance. Notwithstanding any of the provisions of
this Article 20 to the contrary, Lessee shall be allowed to occupy the Premises
subject to the conditions of this Lease, and this Lease shall remain in
effect until an Event of Default occurs or until Lessee's rights hereunder are
terminated because of an Eminent Domain proceeding pursuant to Article 16 or
because of the occurrence of damage and destruction pursuant to Article 15.
Section 20.5 Delivery of Instruments. If Lessee fails to execute and
deliver, within ten (10) days following request thereof by Lessor, any documents
or instruments required by this Article 20, such failure shall constitute a
default under this Lease, which default, at Lessor's option, shall not be
curable.
ARTICLE 21 - RULES AND REGULATIONS
Section 21.1 Rules and Regulations. Lessee shall faithfully observe and
comply with the rules and regulations pertaining to the Property ("Rules"), a
copy of which is attached to this Lease as Exhibit "F" and all reasonable
modifications and additions to the Rules from time to time put into effect by
Lessor; provided, however, that no modifications or additions to the Rules shall
materially interfere with Lessee's permitted use of the Premises as set forth in
Section 6.1. Lessor shall not be responsible to Lessee for the nonperformance
of any of the Rules by any other occupant or tenant of the Property.
Section 21.2 Certain Construction Requirements. Prior to undertaking
any physical work in or around the Premises, Lessee shall notify Lessor, in
writing, of the exact nature and location of the proposed work and shall
promptly supply such additional information regarding the proposed work as
Lessor shall request. After receipt of Lessee's notice, Lessor may, to the
extent appropriate, supply Lessee with the Building regulations and procedures
for working in areas where there is a risk of coming into contact with materials
or building systems which if not properly handled could cause health or safety
risks, could damage such systems and/or the Building, or which could adversely
impact any warranty relating thereto. Lessee shall, at Lessee's sole cost and
expense, strictly comply with all such Building regulations and procedures
established by Lessor and with all applicable Federal, state and local
governmental statutes, ordinances, codes, rules, regulations, controls and
guidelines (collectively, "Laws"). Lessor shall have the right at all times to
monitor the work for compliance with the Building regulations and procedures,
the Rules and all Laws. If Lessor determines that any applicable Laws or any
Rules and/or any Building regulations or procedures are not being strictly
complied with, Lessor may immediately require the cessation of all work being
performed in or around the Premises until such time as Lessor is satisfied that
the applicable Rules, Laws, regulations and procedures will be observed.
Lessor's monitoring of any work in or around the Premises shall not be deemed a
certification by Lessor of compliance with any applicable Laws, Rules, Building
regulations or procedures or a waiver by Lessor of its right to require strict
compliance with such Laws, Rules, regulations or procedures, nor shall such
monitoring relieve Lessee from any liabilities relating to such work.
ARTICLE 22 - HOLDING OVER
Section 22.1 Surrender of Possession. Lessee shall surrender possession
of the Premises immediately upon the expiration of the Term or termination of
this Lease. If Lessee shall continue to occupy or possess the Premises after
such expiration or termination without the consent of Lessor, then unless Lessor
and Lessee have otherwise agreed in writing, Lessee shall be a tenant from
month-to-month. All the terms, provisions and conditions of this Lease shall
apply to this month-to-month tenancy except those terms, provisions and
conditions pertaining to the Term, and except that the Base Rental shall be
immediately adjusted upward upon the expiration or termination of this Lease to
one hundred fifty percent (150%) of the Base Rental for the Premises in effect
under this Lease during the month which includes the day immediately prior to
the date of the expiration or termination of this Lease. This month-to-month
tenancy may be terminated by Lessor or Lessee upon thirty (30) days' prior
notice to the other party. In the event that Lessee fails to surrender the
Premises upon such termination or expiration, then Lessee shall indemnify,
defend and hold Lessor harmless against all loss or liability resulting from or
arising out of Lessee's failure to surrender the Premises, including, but not
limited to, any amounts required to be paid to any tenant or prospective tenant
who was to have occupied the Premises after said termination or expiration and
any related attorneys' fees and brokerage commissions.
Section 22.2 Payment of Money After Termination. No payment of money by
Lessee to Lessor after the termination of this Lease by Lessor, or after the
giving of any notice of termination to Lessee by Lessor which Lessor is entitled
to give Lessee under this Lease, shall reinstate, continue or extend the Term of
this Lease or shall
Page 16 of 22
<PAGE> 17
affect any such notice given to Lessee prior to the payment of such money, it
being agreed that after the service of such notice or the commencement of any
suit by Lessor to obtain possession of the Premises. Lessor may receive and
collect, when due, any and all payments owed by Lessee under this Lease, and
otherwise exercise any and all of its rights and remedies. The making of any
such payments by Lessee or acceptance of same by Lessor shall not waive such
notice of termination, or in any manner affect any pending suit or judgment
obtained.
ARTICLE 23 - INSPECTIONS AND ACCESS
Lessor may enter the Premises at all reasonable hours by means of a
master key or otherwise for any reasonable purpose. If Lessee shall not be
personally present to open and permit an entry into the Premises at any time
when such entry by Lessor is necessary or permitted under this Lease, Lessor may
enter by means of a master key without liability to Lessee except for any
failure to exercise due care for Lessee's Personal Property, and without
affecting this Lease.
ARTICLE 24 - NAME OF BUILDING AND CONTINENTAL PARK
Lessee shall not use any name, insignia or logotype of the Building or
Continental Park for any purpose. Lessee shall not use any picture of the
Building, the Property or Continental Park in its advertising, stationery or any
other manner. Lessor expressly reserves the right in Lessor's sole and absolute
discretion, at any time to change the name, insignia, logotype or street address
of the Building or the Property without in any manner being liable to Lessee.
ARTICLE 25 - SURRENDER OF LEASE
The voluntary or other surrender of this Lease by Lessee, shall not
work a merger, and shall, at the option of Lessor, terminate all or any existing
subleases or subtenancies, or may, at the option of Lessor, operate as an
assignment to it of Lessee's interest in any or all such subleases or
subtenancies.
ARTICLE 26 - WAIVER
The waiver by Lessor or Lessee of any term, covenant, agreement or
condition contained in this Lease shall not be deemed to be a waiver of any
subsequent breach of the same or of any other term, covenant, agreement,
condition or provision of this Lease, nor shall any failure to enforce
compliance with any or all of the terms, covenants, agreements, conditions or
provisions of this Lease (except as expressly provided in this Lease), or any
custom or practice which may develop between the parties in the administration
of this Lease, be construed to waive or lessen the right of Lessor or Lessee to
insist upon the performance by the other in strict accordance with all of the
terms, covenants, agreements, conditions and provisions of this Lease. The
subsequent acceptance by Lessor of any payment owed by Lessee to Lessor under
this Lease, or the payment of Rent by Lessee, shall not be deemed to be a waiver
of any preceding breach by Lessee of any term, covenant, agreement, condition or
provision of this Lease, other than the failure of Lessee to make the specific
payment so accepted by Lessor, regardless of Lessor's or Lessee's knowledge of
such preceding breach at the time of the making or acceptance of such payment.
ARTICLE 27 - SALE BY LESSOR
In the event Lessor shall sell, assign, convey or transfer all or a
part of its interest in the Building or any part of the Property, Lessee agrees
to attorn to such transferee, assignee or new owner, and upon consummation of
such sale, conveyance or transfer, Lessor shall automatically be freed and
relieved from all liability and obligations accruing or to be performed from and
after the date of such sale, transfer or conveyance. In the event of such sale,
assignment, transfer or conveyance, Lessor shall transfer to such transferee,
assignee or new owner of the Property the balance of the Deposit, if any,
remaining after lawful deductions and in accordance with California Civil Code
Section 1950.7, after notice to Lessee, and Lessor shall thereupon be relieved
of all liability with respect to the Deposit. Lessor shall have the right to
subdivide the Property into separate legal lots or parcels and, without
materially and adversely affecting the obligations of Lessee, the right to
reallocate and adjust the rights, duties and obligations of Lessor and Lessee
hereunder so that, as between Lessor and Lessee, those rights, duties and
obligations relate only to the lots or parcels on which the Building is located
and on which sufficient parking Facilities are located to comply with Lessor's
obligations under this Lease. To the extent that those rights, duties and
obligations cannot be equitably allocated to only one lot or parcel, Lessor may
elect to record a reciprocal easement agreement appurtenant to the Building. If
Lessor records such an agreement, Lessee shall subordinate this Lease to that
agreement.
ARTICLE 28 - NO LIGHT AND AIR EASEMENT
Any diminution or shutting off of light or air by any structure which
may be erected on the land or upon lands adjacent to or in the vicinity of the
Property shall not affect this Lease, abate any payment owed by Lessee under
this Lease or otherwise impose any liability on Lessor.
Page 17 of 22
<PAGE> 18
ARTICLE 29 - FORCE MAJEURE
Lessor shall not be chargeable with, liable for, or responsible to
Lessee for anything or in any amount for any failure to perform or delay caused
by: fire, earthquake; explosion; flood; hurricane; the elements; Acts of God or
the public enemy; actions, restrictions, limitations or interference of
governmental authorities or agents; war; invasion; insurrection; rebellion;
riots; strikes or lockouts; inability to obtain necessary materials, goods,
equipment, services, utilities or labor; or any other cause whether similar or
dissimilar to the foregoing which is beyond the reasonable control of Lessor;
and any such failure or delay due to said causes or any of them shall not be
deemed a breach of or default in the performance of this Lease by Lessor.
ARTICLE 30 - ESTOPPEL CERTIFICATES
Lessee shall, at any time and from time to time upon request of Lessor,
within ten (10) days following notice of such request from Lessor, execute,
acknowledge and deliver to Lessor in recordable form, a certificate ("Estoppel
Certificate") in writing a form as Lessor or any of its lenders, prospective
purchasers, lienholders or assignees may deem appropriate. Lessee's failure to
deliver the Estoppel Certificate within this ten (10) day period shall
constitute a default hereunder which, at Lessor's option, shall not be curable.
ARTICLE 31 - RIGHT TO PERFORMANCE
All covenants, conditions and agreements to be performed by Lessee
under this Lease shall be performed by Lessee at Lessee's sole cost and expense.
If Lessee shall fail to perform any such covenant, condition or agreement on its
part to be performed under this Lease, and such failure shall continue for three
(3) days after notice thereof to Lessee (provided that no notice shall be
required in cases of emergency), Lessor may, but shall not be obligated to do
so, without waiving or releasing Lessee from any obligations of Lessee under
this Lease, perform any such act on Lessee's part to be made or performed as
provided in this Lease. Any performance by Lessor of Lessee's obligations shall
not waive or cure any Default of Lessee for such failure. All costs incurred by
Lessor with respect to any such performance by Lessor (including reasonable
attorneys' fees) shall be immediately paid by Lessee to Lessor.
ARTICLE 32 - PARKING FACILITIES
So long as Lessee complies with the terms, provisions and conditions of
this Lease, Lessor shall maintain and operate, or cause to be maintained and
operated, automobile parking facilities ("Parking Facilities") in, adjacent to,
or within a reasonable distance from the Building. Lessee's privileges during
the term hereof with respect to the Parking Facilities shall be in accordance
with the provisions of the attached Exhibit "G."
ARTICLE 33 - SECURITY SERVICES
Section 33.1 Lessor's Obligation to Furnish Security Services. Lessor
may furnish security services for the Premises and/or the Building and/or the
Property as it deems appropriate in its sole and absolute discretion. Whether or
not Lessor furnishes or contracts to furnish any such services, Lessee shall,
nevertheless, have sole responsibility for the protection of itself, Lessee's
Employees and all property of Lessee and Lessee's Employees located in, on or
about the Premises or the Building or the Property, and the provisions of
Section 14.3 shall, nevertheless, continue in full force and effect.
Section 33.2 Lessee's Right to Install Security System. If Lessee
wishes to establish or install any automated and/or non-automated security
system in, on or about the Premises, Lessee shall first notify Lessor of
Lessee's plan for any such system, and Lessor shall have the right to review and
approve or disapprove said plan in Lessor's discretion. If Lessor approves any
such plan and Lessee establishes or installs any automated and/or non-automated
security system in, on or about the Premises (which shall then be considered a
Lessee Improvement under this Lease) and should such system adversely affect the
Premises or the Property or the desirability of the Premises or Building as
office space, or as an office building, or have an adverse effect on other
tenants, Lessor shall subsequently have the right to review Lessee's security
system from time to time and request Lessee to make changes in personnel and/or
equipment. Lessee shall make said requested changes immediately upon Lessor's
request.
ARTICLE 34 - NOTICES
All notices, requests, consents, approvals, payments in connection with
this Lease, or communications that either party desires or is required or
permitted to give or make to the other party under this Lease, shall only be
deemed to have been given, made and delivered, when made or given in writing and
personally served, or deposited in the United States mail, certified or
registered mail, return receipt requested, postage prepaid to the respective
addresses of Lessee or Lessor as set forth below on the signature page of this
Lease. Lessor or Lessee may from time to time designate other addresses for
notice purposes by written notice to the other in accordance herewith.
Page 18 of 22
<PAGE> 19
Lessee's Address for Notices: Until Lessee
commences business operations from the Premises:
Hawthorne Savings and Loan Association
Attention: Scott Braly
13658 Hawthorne Boulevard
Hawthorne, CA 90250
Thereafter: Hawthorne Savings and Loan Association
2361/2381 Rosecrans Avenue, Suite 200
El Segundo, California 90245
Attention: Scott Braly
Lessor's Address Continental Development Corporation
for Notices: 2041 Rosecrans Avenue, Suite 265
El Segundo, California 90245
Attention: Richard C. Lundquist
Copy to: Continental Development Corporation
2041 Rosecrans Avenue, Suite 265
El Segundo, California 90245
Attention: Attention: Leonard E. Blakesley, Jr.
Lessor's Address Continental Development Corporation
For Payment of Post Office Box 60370
Rent: Los Angeles, California 90060-0370
ARTICLE 35 - MISCELLANEOUS
Section 35.1 Authorization to Sign Lease. If Lessee is a corporation,
each individual executing this Lease on behalf of Lessee represents and warrants
that he/she is duly authorized to execute and deliver this Lease on behalf of
Lessee in accordance with a duly adopted resolution of Lessee's Board of
Directors, and Lessee warrants and represents that this Lease is binding upon
Lessee in accordance with its terms. If Lessee is a corporation, Lessee shall,
concurrently with its execution of this Lease, deliver to Lessor upon its
request a certified copy of a resolution of its Board of Directors authorizing
the execution of this Lease. If Lessee is a partnership or trust, each
individual executing this Lease on behalf of Lessee represents and warrants that
he/she is duly authorized to execute and deliver this Lease on behalf of Lessee
in accordance with the terms of such entity's partnership agreement or trust
agreement, respectively, and Lessee warrants and represents that this Lease is
binding upon Lessee in accordance with its terms. If Lessee is a partnership or
trust, Lessee shall, concurrently with its execution of this Lease, deliver to
Lessor upon its request such certificates or written assurances from the
partnership or trust as Lessor may request authorizing the execution of this
Lease.
Section 35.2 Entire Agreement. This Lease contains the entire agreement
between the parties respecting the Premises and all other matters covered or
mentioned in this Lease. This Lease may not be altered, changed or amended
except by an instrument in writing signed by both parties hereto.
Section 35.3 Separability. The illegality, invalidity or
unenforceability of any term, condition or provision of this Lease shall in no
way impair or invalidate any other term, provision or condition of this Lease,
and all such other terms, provisions and conditions shall remain in full force
and effect.
Section 35.4 Covenants and Conditions. All provisions, whether
covenants or conditions, on the part of Lessee shall be deemed to be both
covenants and conditions.
Section 35.5 Gender, Definitions and Headings. The words "Lessor" and
"Lessee" as used herein shall include the plural as well as the singular and,
when appropriate, shall refer to action taken by or on behalf of Lessor or
Lessee by their respective employees, agents or authorized representatives.
Words in masculine or neuter gender include the masculine, feminine and neuter.
If there is more than one person constituting Lessee, the obligations hereunder
imposed upon such persons constituting Lessee shall be joint and several. The
paragraph headings of this Lease are not a part of this Lease and shall have no
effect upon the construction or interpretation of any part hereof. Subject to
the provisions of Articles 12 and 27, and except as otherwise provided to the
contrary
Page 19 of 22
<PAGE> 20
in this Lease, the terms, conditions and agreements of this Lease shall apply to
and bind the heirs, successors, legal representatives and permitted assigns of
the parties hereto. Any reference to the word persons shall be deemed to include
a corporation, a government entity, an individual, a general partnership, a
limited partnership, a joint venture, a trust and/or an association. This Lease
shall be governed by and construed pursuant to the laws of the State of
California.
Section 35.6 Exhibits and Riders. The Exhibits and Riders are attached
to this Lease, and are hereby incorporated by this reference and made a part of
this Lease. In the event of variation or discrepancy, the duplicate original
hereof (including Exhibit(s) and Rider(s), if any) held by Lessor shall control.
Section 35.7 Modification for Lender. Upon Lessor's request, Lessee
agrees to modify this Lease to meet the requirements of any or all lenders or
ground lessors selected by Lessor who request such modification as a condition
precedent to providing any loan or financing or to entering into any ground
lease affecting or encumbering the Property or any part thereof, provided that
such modification does not (a) increase Base Rental, (b) alter the Term, or (c)
materially adversely affect Lessee's rights under this Lease.
Section 35.8 Transportation System Management Program. Lessee hereby
covenants and agrees, at its sole cost and expense, to participate in and
cooperate with the requirements of any and all government promulgated or
sponsored transportation system management programs adopted for the Building and
Property. Lessor to comply with such programs for the Building and the Property.
Section 35.9 Quiet Enjoyment. Lessor covenants and agrees that Lessee,
upon making all of Lessee's payments as and when due under this Lease, and upon
performing, observing and keeping the covenants, agreements and conditions of
this Lease on its part to be kept, shall peaceably and quietly hold, occupy and
enjoy the Premises during the Term of this Lease without hindrance or
molestation from Lessor subject to the terms and provisions of this Lease.
Section 35.10 No Recordations. Lessor and Lessee agree that in no event
and under no circumstances shall this Lease be recorded by Lessee.
Section 35.11 Time is of the Essence. Subject to the provisions of
Article 29 of this Lease, time shall be of the essence of this Lease and of each
of the provisions hereof.
Section 35.12 Cumulative Remedies. No remedy or election provided,
allowed or given by any provision of this Lease shall be deemed exclusive unless
so indicated, but shall, whenever possible, be cumulative with all other
remedies in law or equity.
Section 35.13 Bankruptcy. Notwithstanding anything in this Lease to the
contrary, if Lessee enters into a bankruptcy proceeding in a United States
Bankruptcy Court, then within three (3) business days following receipt of
notice from Lessor, the Deposit shall be increased to an amount which is three
(3) times the then existing Base Rental, which amount Lessee shall pay to Lessor
as an additional security deposit.
Section 35.14 Confidentiality. This Lease document and the terms of
this Lease, and the covenants, obligations and conditions contained in this
Lease shall remain strictly confidential. Lessee agrees to keep such terms,
covenants, obligations and conditions strictly confidential and not to disclose
such matters to any other landlord, tenant, prospective tenant or broker.
Provided, however, Lessee may provide a copy of this Lease to a non-party solely
in conjunction with Lessee's reasonable and good faith effort to secure an
assignee or sublessee for the Premises.
Section 35.15 Lessee's Responsibility Regarding Hazardous Materials.
(a) Definition of Hazardous Materials. As used in this Lease, the term
"Hazardous Materials" means any flammable items, explosives, radioactive
materials, hazardous or toxic substances, materials or waste or related
materials, including any substances defined as or included in the definition of
"hazardous substances," "hazardous wastes," "Hazardous materials" or "toxic
substances" now or subsequently regulated under any applicable Federal, state or
local laws or regulations, including, without limitation, petroleum-based
products, paints, solvents, lead, cyanide, DDT, printing inks, acids,
pesticides, ammonia compounds and other chemical products, asbestos, PCBs and
similar compounds, and including any different products and materials which are
subsequently found to have adverse effects on the environment or the health and
safety of persons. Lessor represents that the Premises are free of Hazardous
Materials as of the date hereof.
b) Prohibition Against Hazardous Materials.
(i) Lessee shall not cause or permit any Hazardous Materials
to be generated, produced, brought upon, used, handled, stored, treated or
disposed of (collectively, "Handle") in, upon, under or about the Premises or
other portions of the Building or any part thereof by Lessee, Lessee's
Employees, Lessee's sublessees or their invitees without the prior written
consent of Lessor, which consent may be granted or withheld
Page 20 of 22
<PAGE> 21
in Lessor's sole discretion. Lessor shall be entitled to take into account such
factors or facts as Lessor may determine to be relevant in determining whether
to grant or withhold consent to Lessee's proposed activity with respect to
Hazardous Materials.
(ii) Without in any way diminishing or waiving the
limitations on and obligations of Lessee as provided above in this Section
35.15, if Lessee Handles Hazardous Materials in, upon, under or about the
Premises or other portions of the Building, Lessee shall do so in full
compliance with all Laws, including, without limitation, those laws referred to
in Section 35.15(a) above. In that connection, Lessor and its agents and
representatives shall have the right, but not the obligation, to enter and
inspect the Premises and conduct investigations, studies, tests, reports,
monitoring and analysis of the Premises and any and all Hazardous Materials at
any and all reasonable times to determine whether Lessee is complying with its
obligations under this Lease.
(c) Indemnity by Lessee. If Lessee breaches its obligation stated in
Section 35.15(b), or if the presence of Hazardous Materials in, upon, under or
about the Premises or other portions of the Building caused or permitted by
Lessee, Lessee's Employees or Lessee's sublessees or their invitees results in
the contamination of the Premises or other portions of the Building, or if
contamination of the Premises or other portions of the Project by Hazardous
Materials otherwise occurs for which Lessee may be liable to Lessor for damages
resulting therefrom, then Lessee shall indemnify, defend and hold Lessor and
Lessor's Employees harmless from and against any and all liabilities, costs,
expenses, claims, judgments, damages, penalties, fines or losses (including,
without limitation, diminution in value of the Premises or other portions of the
Building, damages for the loss or restriction on use of rentable or usable space
or of any amenity of the Premises or other portions of the Building damages
arising from any adverse impact on marketing of space in the Premises or other
portions of the Building, and sums paid in settlement of claims, attorneys'
fees, consultants' fees and experts' fees) which arise after the execution date
of this Lease or during the Term of this Lease or after the Term of this Lease
as a result of such contamination. This obligation of Lessee to indemnify,
defend and hold Lessor harmless shall survive and extend beyond the expiration
or earlier termination of this Lease. On each anniversary of the execution of
this Lease, Lessee shall deliver to Lessor a list of all Hazardous Materials
handled by Lessee, Lessee's Employees and/or Lessee's sublessees or their
invitees in, upon, under or about the Premises or other portions of the
Building. which list shall describe the type and quantity of each such Hazardous
Materials.
(d) Indemnity by Lessor. If the presence of Hazardous Materials in,
upon, under or about the Premises or other portions of the Building caused or
permitted by Lessor, Lessor's Employees or Lessor's invitees results in the
contamination of the Premises or other portions of the Building, or if
contamination of the Premises or other portions of the Project by Hazardous
Materials otherwise occurs for which Lessor may be liable to Lessee for damages
resulting therefrom, then Lessor shall indemnify, defend and hold Lessee and
Lessee's Employees harmless from and against any and all liabilities, costs,
expenses, claims, judgments, damages, penalties, fines or losses (including,
without limitation, damages for the loss or restriction on use of rentable or
usable space or of any amenity of the Premises, and sums paid in settlement of
claims, attorneys' fees, consultants' fees and experts' fees) which arise after
the execution date of this Lease or during the Term of this Lease or after the
Term of this Lease as a result of such contamination. This obligation of Lessor
to indemnify, defend and hold Lessee harmless shall survive and extend beyond
the expiration or earlier termination of this Lease. On each anniversary of the
execution of this Lease, Lessor shall deliver to Lessee a list of all Hazardous
Materials handled by Lessor, Lessor's Employees and/or Lessor's sublessees or
their invitees in, upon, under or about the Premises or other portions of the
Building, which list shall describe the type and quantity of each such Hazardous
Materials.
Section 35.16 Nondiscrimination. The Lessee herein covenants by and for
himself, his heirs, executors, administrators and assigns, and all persons
claiming under or through him, and this Lease is made and accepted upon and
subject to the following conditions. That there shall be no discrimination
against or segregation of any person or group of persons on account of sex,
marital status, race, color, religion, creed, national origin or ancestry, in
the leasing, subleasing, transferring, use or enjoyment of the Premises, nor
shall the Lessee himself, or any person claiming under or through him establish
or permit any such practice or practices of discrimination or segregation with
reference to the selection, location, number, use or occupancy, of tenants,
lessees, sublessees, subtenants or vendees in the Premises.
Section 35.17 No Offer. The preparation of this Lease and/or the
submission of this Lease to Lessee shall not be deemed an offer to lease the
Premises or any other Premises to Lessee. This Lease shall only become binding
upon Lessor and Lessee when it is fully executed and a fully executed original
Lease is delivered by Lessor to Lessee.
Section 35.18 Broker's Commissions. Lessor and Lessee each hereby
represent and warrant to the other that it has not engaged or dealt with any
real estate brokers, salesperson, finders or other persons entitled to any
compensation relating to this Lease, except for Ronald Mucovich, real estate
agent with Century 21 Beaubelle & Associates, Inc., Lessee's Broker. If Lessee's
or Lessor's representation and warranty contained in this paragraph is
inaccurate, then Lessee hereby agrees to indemnify, defend, and hold the other
harmless from and against any and all liabilities, costs and expenses
(including, without limitation, attorneys' fees) incurred in connection with the
claims of any brokers, salespersons, finders or other persons.
Page 21 of 22
<PAGE> 22
Section 35.19 Automated Teller Machine. Lessor authorizes Lessee to
construct and install one Automated Teller Machine (ATM) on the ground floor of
the Building, also Lessee may install an ATM within the Premises, both to be at
a location subject to the approval of Lessor and if required the City of El
Segundo. The construction and installation of such ATM's shall be deemed an
Alteration and is subject to the terms of Article 7 hereof. No other person or
entity shall be permitted to construct or install an ATM in the Building
provided Lessee proceeds to construct and install such ATMs within twelve (12)
months from and after the Commencement Date and thereafter maintains such ATMs
in active use. Failure of Lessee to meet these conditions shall permit Lessor to
allow another entity to construct and install an ATM in or around the Building.
Section 35.20 Building Signage. Lessee shall have the personal and
non-transferable right to install two (2) signs at the top of the Building each
covering up to 150 square feet, all at Lessee's sole cost and expense. One shall
be located on the southwest face of the west wing penthouse and the other on the
southeast face of the east wing penthouse. Provided Lessee pays the cost of such
signage, Lessee shall also have the right to one standard strip on the building
monument sign in front of the wing of the building in which the main lobby of
Lessee is to be located. The design installation means and methods of such signs
shall be subject to the prior written consent of Lessor and the approval of the
City of El Segundo. Lessor hereby agrees that the signs at the top of the
building shall be constructed using Halo Channel Letters.
Section 35.21 Approval. This Lease shall not be effective until all
required approvals of any Federal, State or local governmental entities which
have or may have authority or jurisdiction over Lessee and this Lease
transaction, including, but not limited to, the State Department of Savings and
Loan are provided in writing, to Lessor and are in a form reasonably acceptable
to Lessor. Unless and until such approval is received by Lessor, Lessor shall
have no obligation and shall not begin construction of the Lessee Improvements.
IN WITNESS WHEREOF, the parties have executed this Lease as of the date
first set forth above, acknowledged that each party has carefully read each and
every provision of this Lease, that each party has freely entered into this
Lease of its own free will and volition, and that the terms, conditions and
provisions of this Lease are commercially reasonable as of the day and year
first above written.
"LESSOR" "LESSEE"
CONTINENTAL DEVELOPMENT HAWTHORNE SAVINGS AND
CORPORATION, a California corporation LOAN ASSOCIATION, a California
corporation
By: Richard C. Lundquist By: Scott A. Braly
----------------------------- -----------------------------
Richard C. Lundquist Scott A. Braly
President Its: President/CEO
By: Leonard E. Blakesley, Jr. By:
----------------------------- -----------------------------
Leonard E. Blakesley, Jr.
Secretary Its:
Page 22 of 22
<PAGE> 23
[MAP OF BUILDING]
EXHIBIT "A-1"
<PAGE> 24
LEGAL DESCRIPTION OF LAND
Parcel I in the City of El Segundo, County of Los Angeles, State of California,
as shown on Parcel Map No. 17158, filed in Book 208, Pages 60 and 61 of Parcel
Maps in the Oft-ice of the County Recorder of said County, commonly known as
2361/2381 Rosecrans Avenue, El Segundo, California 90245.
EXHIBIT "A-2"
<PAGE> 25
[MAP OF CONTINENTAL PARK]
EXHIBIT "A-3"
<PAGE> 26
NOTICE OF COMMENCEMENT DATE
Date:_____________
To:
Re: Lease dated between a California corporation, Lessor, and
Lessee, concerning Suite located at
California
Gentlemen:
In accordance with the subject lease, we wish to advise and/or confirm
as follows:
1. That the Premises have been accepted herewith by the Lessee as being
substantially complete in accordance with the subject Lease, and that there is
no deficiency in construction.
2. The Lessee has possession of the subject Premises and acknowledges
that under the provisions of the subject Lease, the term of said Lease commenced
as of ____________, for a term of ____________, ending on
3. That in accordance with the subject Lease, rental commenced to
accrue on
4. If the Commencement Date of the subject Lease is other than the
first day of the month, the first billing will contain a pro rata adjustment.
Each billing thereafter shall be for the full amount of the monthly installment
as provided for in said Lease.
5. Rent is due and payable in advance on the first day of each and
every month during the Term of said Lease. Your rent checks should be made
payable to at
"LESSOR" "LESSEE"
CONTINENTAL DEVELOPMENT CORPORATION,
a California corporation
AGREED TO AND ACCEPTED:
By:
-------------------------
Richard C. Lundquist
President By:
----------------------------------
Name:
By: Title:
-------------------------
Leonard E. Blakesley, Jr. Date:
Secretary
FORM ONLY - DO NOT SIGN
EXHIBIT "B"
1
<PAGE> 27
CONSTRUCTION WORK LETTER
THIS CONSTRUCTION WORK LETTER (the "Agreement") supplements that
certain Standard Form Office Lease (the "Lease") between CONTINENTAL DEVELOPMENT
CORPORATION, a California corporation ("Lessor"), and HAWTHORNE SAVINGS AND LOAN
ASSOCIATION ("Lessee"), to which this Agreement is attached. The terms used
herein shall have the same meanings as set forth in the Lease, unless such
meanings are expressly contradicted herein. In addition, all rights and remedies
of Lessor and Lessee under the Lease shall apply in the event of a default in
any of the provisions of this Agreement, and this Agreement is hereby made a
part of the Lease.
1. Construction of Base Building
1.1 Base Building Improvements. Lessor has constructed the
Base Building Improvements consisting of a parking facility and building shell
and core (collectively the "Base Building Improvements"). The building shell and
core includes the following: (a) bare, trowel finished, concrete slab floors;
(b) finished core area, including elevators and common area elevator lobbies,
toilet rooms, electrical rooms, telephone rooms, janitorial closets, exit stairs
and mechanical shafts; (c) primary heating, ventilating and air conditioning
service stubbed out to the floor, including main supply air duct and heating hot
water supply mains, (d) primary fire sprinkler system in open floor plan
configuration (any modification to such sprinkler system for the Lessee shall be
a part of the Lessee Improvements); (e) main electrical panels on each floor
including breakers but no distribution; and (f) primary distribution for the
fire safety system required by applicable code for unoccupied buildings
(including the primary fire sprinkler system and alarms). Modification and
connection to the fire safety system for the Premises, as occupied, shall be a
part of the Lessee Improvements. Thereafter, Lessor shall furnish and install
within the Premises those improvements and items of general construction (the
"Lessee Improvements") shown on the plans and specifications prepared and
approved by Lessor and Lessee pursuant to Section 2 below, in compliance with
all applicable codes and regulations. All Base Building Improvements and Lessee
Improvements shall be constructed pursuant to this Work Letter and shall be
performed only by Lessor's contractor. Lessee shall have the right to approve
all subcontractor bid lists and all bids received from Lessee's subcontractors.
Any delay caused by such bid procedure shall be a Lessee Delay.
1.2 Lessee Improvements. Lessor shall construct and install
(collectively, "construct") the Improvements to the Premises as set forth herein
(the "Lessee Improvements") pursuant to plans and specifications prepared by P.
Patrick Murray, Inc. (the "Architect"). The Lessee Improvements shall consist of
the "Building Standard Improvements" and Above Standard Improvements (both of
which are set forth in Exhibit "C-1 " attached hereto and made a part hereof)
and such other improvements as approved by Lessor and specified in the "Final
Plans" (as hereinafter defined). The time periods in which each phase of the
design and construction of Lessee Improvements is to occur are set forth in this
Construction Work Letter. Lessor and Lessee shall use their best efforts to
ensure the costs of constructing the Lessee Improvements do not exceed $28.00
per rentable square foot. Lessor shall have no obligation whatsoever under any
circumstances to reimburse Lessee for any costs to Lessee related to the Lessee
Improvements.
2. Plans and Specifications.
2.1 Schematic Drawings. If the Schematic Drawings depicting
the layout of the Premises and the location of the Lessee Improvements therein
(the "Schematic Drawings") have already been prepared and approved by Lessor and
Lessee prior to the full execution of this Lease (which includes this
Agreement), then same shall be attached hereto as Exhibit C-3") and made a part
hereof. If the Schematic Drawings are not attached as Exhibit "C-3" hereto at
the time this Lease is fully executed, then the following procedure shall be
used to prepare and approve of the Schematic Drawings. No later than three
business (3) days following the full execution of this Lease, Lessee shall meet
with the Architect and Continental Development Corporation and determine such
information as is necessary or appropriate for the Architect to prepare the
Schematic Drawings and other information necessary for each party to insure
satisfactory compliance with all aspects of this Agreement. Such information
shall include, but not be limited to, building standard unit costs, basic core
and shell systems performance criteria and above standard components. This
information is to be provided within eight (8) business days of the date of
execution. Such Schematic Drawings, upon completion thereof (which in no event
shall be more than thirteen (13) business days after the execution of this
Lease), shall be submitted to Lessor and Lessee for approval. Within five (5)
days after Lessee's receipt of such Schematic Drawings, Lessee shall notify
Lessor and Architect of the changes, if any, which Lessee desires to make to
such Schematic Drawings, which notice shall be in writing and shall identify
with specificity the changes which Lessee desires to make and shall attach a
copy of the Schematic Drawings initialed by Lessee and showing the desired
changes (the "Lessee's Schematic Notice"). Within five (5) business days
following Lessor's receipt of the Schematic Drawings and Lessee's Schematic
Notice, Lessor shall either approve or disapprove thereof. If Lessor
disapproves, Lessor shall specify in writing the changes which Lessor requires
and the Schematic Drawings shall be revised by the Architect to reflect those
changes described in Lessee's Schematic Notice which are not disapproved by
Lessor and such other items needed to satisfy
EXHIBIT "C"
Page 1 of 4
<PAGE> 28
Lessor's objections thereto. Upon completion of the revised Schematic Drawings,
Lessor and Lessee shall initial same, thereby acknowledging their approval of
the form of such Schematic Drawings. Furthermore, Lessee shall, at this time,
provide to Lessor a List of equipment Lessee shall install or have installed in
the Premises. The receipt of this list shall be a condition precedent to
Lessor's obligation to commence the preparation of the Final Plans.
2.2 Final Plans. Upon completion of the Schematic Drawings as
revised in accordance with Paragraph 2.1 above, the Architect shall prepare
final plans and specifications and working drawings (collectively the "Final
Plans") based upon and incorporating such Schematic Drawings as revised as
provided hereinabove. Upon a date to be mutually agreed upon by Lessor, Lessee
and Architect (approximately at that point in time where the Final Plans shall
be two-thirds complete) the parties and Architect shall meet to review the
progress of the Final Plans, which shall be submitted to Lessor and Lessee for
approval. If Lessee and Lessor consent in writing thereto, such Final Plans may
exclude certain finish specifications (such as, the color of paint or the color
or design of wall or floor coverings) so long as such specifications are not
needed in order to submit the Final Plans for Permits (as hereinafter defined)
and so long as such specifications are delivered to Lessor for Lessor's approval
thereof within thirty (30) days after delivery to Lessor of the Final Plans.
Such finish specifications shall not be incorporated into the Lessee
Improvements until same are approved by Lessor in writing. Within five (5)
business days after Lessee's receipt of the Final Plans, Lessee shall notify
Lessor and the Architect of the changes, if any, which Lessee desires to make to
such Final Plans, which notice shall be in writing and shall identify with
specificity the changes which Lessee desires to make and shall attach a copy of
the Final Plans initialed by Lessee and showing the desired changes (the
"Lessee's Final Notice"). Lessee shall not change any portion of the Final Plans
which incorporate the improvements depicted in the Schematic Drawings, as
revised in accordance with Paragraph 2.1 above, or which is a natural
progression of such improvements. Within five (5) business days following
Lessor's receipt of the Final Plans and Lessee's Final Notice, Lessor shall
approve or disapprove thereof. If Lessor disapproves, Lessor shall identify in
writing and with specificity the reason for Lessor's disapproval. The Final
Plans shall be revised by the Architect to reflect those changes described in
Lessee's Final Notice which are not disapproved by Lessor and such other items
needed to satisfy Lessor's objections thereto. The improvements depicted on the
Final Plans, as so revised, shall constitute the "Lessee Improvements." Upon
completion of the revised Final Plans, Lessor and Lessee shall initial same,
thereby acknowledging their approval of the form of such Final Plans.
2.3 Standard of review by Lessee. Lessee agrees that any
changes which it desires to make as set forth in Lessee's Schematic Notice and
Lessee's Final Notice shall be reasonable and made in good faith. In the event
Lessor and Lessee have any differences with respect to changes each desires to
make to the Schematic Drawings of Final Plans. Lessor and Lessee shall promptly
meet and use good faith efforts to resolve the differences.
2.4 Accuracy of Plans and Specifications. Notwithstanding the
fact that Lessor shall review and denote revisions to the Schematic Drawings and
Final Plans, and that Lessor shall have designated or approved of the Architect,
Lessor shall not be liable in any way to Lessee or any other person or entity
for any deficiencies in the Schematic Drawings or Final Plans, delays in the
preparation and/or delivery thereof, or any errors or omissions by the
Architect, nor shall same constitute a warranty or guaranty that the Final Plans
are complete or accurate, or that the improvements depicted therein will comply
with any Laws, or are sufficient for Lessee's use or business.
3. Permits. As soon as practicable following completion of the Final
Plans, Lessor or the Architect shall submit the Final Plans to all appropriate
governmental authorities, pay the appropriate filing fees, and attempt to obtain
all permits and approvals (the "Permits") necessary or appropriate to allow the
construction of the Lessee Improvements. If, as part of the procedure of
obtaining or attempting to obtain Permits, any governmental agencies or
authorities request changes in the Final Plans, the Final Plans shall be
modified to incorporate such changes unless Lessor or Lessee do not approve
thereof, which approval shall not be unreasonably withheld. The Architect shall
within five (5) days revise the Final plans as required by such governmental
agencies or authorities unless such required revisions are reasonably
disapproved of by Lessor or Lessee. If such Permits are not obtained within
forty-five (45) days following Lessor's or the Architect's submission of the
Final Plans for such Permits, then Lessor or Lessee shall have the option of
terminating this Lease at any time thereafter upon at least ten (10) days' prior
written notice thereof to the other. If neither party exercises its option to
terminate this Lease, then after forty-five (45) days from the expiration of the
above forty-five (45) day period, this Lease shall automatically terminate. In
the event of such termination, Lessee shall immediately pay all costs and
expenses of the Architect relating to the preparation and completion of the
Schematic Drawings and Final Plans for Permits, together with all fees and costs
of submitting the Final Plans for Permits, and each party shall otherwise be
released of all further liability arising under this Lease (except for those
liabilities accruing prior to the termination). Except as provided above, Lessor
and Lessee shall otherwise each bear its own costs to the date of such
termination.
4. Construction. Lessor or a general contractor selected by Lessor and
Lessee shall construct the Lessee Improvements in accordance with the Final
Plans for which Permits are issued. Lessor or such general contractor shall
commence and thereafter complete the construction of the Lessee Improvements in
a first-class manner; provided, however, neither Lessor nor the general
contractor shall be obligated to incur overtime premium
EXHIBIT "C"
Page 2 of 4
<PAGE> 29
wage rates or be obligated to construct any improvements not set forth in such
Final Plans. Lessor and such contractor shall notify the architect in writing of
any changes in construction of the Premises due to field conditions or Building
modifications that may occur and no such changes shall be made (whether or not
they affect the cost of construction) without the Lessee's consent, which
consent shall not be unreasonably withheld unless such changes are necessary to
preserve the structural integrity of the Building or Premises.
5. Costs of Construction. Within ten (10) days after the approval of
the Final Plans by both parties, the contractor or Architect, as the case may
be, shall prepare a budget which shall set forth the Construction Costs (as
defined in Section 5 hereof and present such budget to Lessee). In the event the
Construction Costs exceed $28.00 per rentable square foot, the parties shall
meet within three (3) days of the presentation of the construction budget to
Lessee and use their best efforts to bring the costs down to no more than $28.00
per rentable square foot, which process including any time required by Architect
to redesign the Final Plans, shall be a Lessee Delay, and any costs shall be
Lessee's sole responsibility. If the parties cannot reduce the Construction
Costs to such an amount within ten (10) days of the presentation of the
construction budget, then in such event either party shall have the right to
terminate the Lease by giving the other ten (10) days written notice of
termination. Lessee shall within five (5) days of the termination of this Lease
pay Lessor all costs expended by Lessor in connection with the preparation of
the Final Plans and Schematic Drawings, but not to exceed $1.75 per usable
square foot. Lessee shall pay to Lessor all costs and expenses incurred or paid
by Lessor for construction of the Lessee Improvements ("Construction Costs"),
provided however, that Lessor shall pay all Construction Costs which exceed
$28.00 per rentable square foot of the Premises if such excess costs are
occasioned by some fault in the Final Plans or estimated Construction Costs
attributable to Lessor or some other reason attributable to Lessor's contractor.
Construction Costs shall include, without limitation, all architectural and
space planning costs. Lessee shall pay to Lessor such amounts as are approved
for payment by Lessor and Lessee after the Contractor has submitted its payment
request for work completed in the manner prescribed in contractors' agreement
with Lessor. Lessee shall pay such amounts within thirty (30) days of Lessor's
submission to Lessee of such amounts due. If, after receipt of Lessor's notice
of the Construction Cost, Lessee wishes to delete certain items of the Lessee
Improvements in order to reduce Construction Cost, then Lessee must notify
Lessor and Architect thereof in writing indicating with specificity the items to
be deleted. No such items shall be deleted without Lessor's prior written
consent. If Lessor approves of such deletions, or any of them, Lessor shall
within five (5) days submit to Lessee a revised Construction Cost. All costs of
deleting such items (including, without limitation, costs of the Architect to
revise the Final Plans, costs of filing fees for Permits needed as a result of
such deletions and increased construction costs) shall be paid for by Lessee as
part of Construction Cost. In addition the Delivery of the Premises shall be
moved ahead by that number of days of delay caused by such deletions and related
delays.
6. Change Orders. Any such changes or additions requested by Lessee and
consented to by Lessor ("Change Orders") shall be at the sole cost and expense
of Lessee, and the increased cost of construction of the Lessee Improvements,
including such Change Orders, shall be the responsibility of Lessee. Lessor
shall not unreasonably withhold consent. Lessee shall also be responsible for
all costs and expenses resulting from or arising out of completing the Lessee
Improvements as a result of such Change Orders. Delivery of Premises shall be
moved ahead by that number of days of delay caused by such Change Orders and/or
related delays. The balance, if any, of all costs and expenses of such Change
Orders shall be paid upon completion of construction of the Change Order work.
7. Punch List. Lessee agrees to deliver to Lessor, in writing, a "punch
list" identifying with specificity all defects in the Lessee Improvements
(including, without limitation, identification of all areas where the Lessee
Improvements do not conform with the Final Plans for which Permits were issued)
as modified by Change Orders. Such punch list shall be delivered to Lessor, if
at all, within thirty (30) days following the Commencement Date. Lessee shall be
deemed to have accepted the Premises and approved of the construction of Lessee
Improvements if Lessee does not deliver such punch list to Lessor within said
number of days or, if Lessee so delivers a punch list to Lessor, then Lessee
shall be deemed to have accepted the Premises and approved of the construction
of Lessee Improvements to the extent of all portions of the Lessee Improvements
which are not described with specificity as defective in such punch list. Lessor
agrees to complete such punch list items within forty-five (45) days of Lessors
receipt of such punch list from Lessee, if such punch list is delivered as
provided herein.
8. Ready for Occupancy. The term "Ready for Occupancy" shall mean the
date on which a Certificate of Occupancy has been received from the City of El
Segundo and the Lessee Improvements have been completed in substantial
accordance with the Final Plans, except for matters not adversely affecting
Lessee's use or occupancy of the Premises and except for punch list items (i.e.,
minor details of construction, mechanical adjustments or decorations which do
not materially interfere with Lessee's use of the Premises). The Premises shall
be deemed Ready for Occupancy even though Lessee's furniture, telephones,
telexes, facsimiles, photocopy machines, computers and other business machines
or equipment have not been installed, the purchase and installation of which
shall be Lessee's sole responsibility. If Lessee does not furnish the necessary
information and fully cooperate with Lessor, the Architect and all other persons
needed in connection with the preparation for or
EXHIBIT "C"
Page 3 of 4
<PAGE> 30
construction of the Lessee Improvements, or does not furnish or complete, or is
delayed in furnishing or completing, installation of any furniture, fixtures or
equipment in or about the Premises which Lessee or Lessee's vendor or contractor
is obligated to furnish or install, or does not comply with each of the time
requirements of this Agreement (including, but not limited to, Lessee's failure
to cause the Architect to comply with the time requirements for delivery of the
Schematic Drawings of Final Plans or revisions thereof, or Lessee's failure to
deliver the Lessee's Schematic Notice or Lessee's Final Notice in the form and
manner and at the times required above), or any action or inaction of Lessee or
Lessee's Employees causes or results in a delay in the date the Lessee
Improvements would have been Ready for Occupancy, same shall be deemed to be
"Lessee Delays," and the date the Lessee Improvements would have been Ready for
Occupancy shall be deemed to have occurred earlier by the number of days of
Lessee Delays. Lessee agrees that it shall fully cooperate with Lessor, the
Architect and the general contractor, if any, to the extent necessary to assure
substantial completion of the Lessee Improvements as soon as is reasonably
possible.
9. Clean-Up. Lessor shall, at Lessor's sole cost and expense, clean the
Premises prior to delivering the completed Premises to Lessee, including,
without limitation, the removal of all rubbish and debris. The Premises shall be
vacuum clean, mopped clean and completely dusted.
10. No Miscellaneous Charges. Neither Lessee nor the Contractor shall
be charged for parking or for the use of electricity, water, toilet facilities,
HVAC, security, elevators and/or any other utilities or services during the
construction of the Lessee Improvements.
11. Life-Fire Safety Codes, Etc. In the event that the Building and/or
the Premises, as initially constructed, do not comply with current life-fire
safety codes, physical handicap codes, and/or earthquake safety codes, and a
result of such non-compliance the costs of designing and constructing the Lessee
Improvements increases over what it would have been had the Building and
Premises been in compliance with such codes, then Lessor shall pay and bear
those increased costs in addition to (and not as part of) the Lessor's
Construction Allowance. Lessor shall assume responsibility for all of Lessee's
reasonable direct costs (excluding consequential damages) associated with any
delay in the Ready for Occupancy caused by negligence of Lessor or Lessor's
agents.
IN WITNESS WHEREOF, the parties hereto have executed this Agreement on
the date set forth below their respective signatures.
"LESSOR" "LESSEE"
CONTINENTAL DEVELOPMENT CORPORATION, HAWTHORNE SAVINGS AND LOAN
a California corporation ASSOCIATION, a California
corporation
By: Richard C. Lundquist By: Scott A. Braly
--------------------------------- --------------------------------
Richard C. Lundquist Scott A. Braly
President Its: President & CEO
By: Leonard E. Blakesley, Jr. By:
--------------------------------- --------------------------------
Leonard E. Blakesley, Jr.
Secretary Its:
EXHIBIT "C"
Page 4 of 4
<PAGE> 31
BUILDING STANDARD IMPROVEMENTS
ALL SQUARE FOOTAGE NUMBERS CONTAINED HEREIN ARE BASED UPON USABLE SQUARE FOOTAGE
(U.S.F.) OF THE PREMISES OR BUILDING, AS APPLICABLE.
The Premises shall be constructed in accordance with Lessor's Standard
Improvements and Above Standard Improvements, as shown on mutually approved
Final Plans, as follows:
Standard Improvements
1. PARTITIONS:
A. Standard Interior Partitions:
2-1/2' x 25 gauge metal studs at 24' on center, with one layer
of 5/8' thick type 'X" drywall on each side to underside of
ceiling tile. Provide seismic bracing as required. All joints
are to be taped, visible joints to be spackled and sanded
ready for painting.
(Allowance - One (1) linear foot for each 10 usable square
feet (u.s.f.) of floor area.)
B. Demising Partitions
2-1/2' x 25 gauge metal studs at 24' on center, slab to slab
with one layer of 5/8 thick type "X" Gypsum wall board from
slab to slab and one layer of 5/8' thick type "X" Gypsum wall
board from slab to slab. Provide 2-1/2' thick full batt sound
insulation. All joints are to be taped, visible joints to be
spackled and sanded ready for painting.
(Allowance - One-half (1/2) of demising partitions shall be
included in the interior partition allowance between unrelated
tenants as required.)
Alternate:
2-1/2' x 25 Gauge metal studs at 24' on center, with 5/8"
thick type "X" Gypsum wall board to 6' above grid on both
sides, with 2-1/2' thick full batt insulation. (Finished wall
height 9'-6"). All joints are to be taped, visible joints to
be spackled and sanded ready for painting.
2. FINISHES:
A) Paint - Lessee walls (including building standard perimeter
drywall, tenant side of corridor walls and columns) with
Sinclair Aqua Suede Mat.
B) Color to be selected from Lessor's standard samples.
(Allowance - At all building standard partitions including
column wraps and perimeter.)
3. WINDOW COVERING:
A) Horizontal mini-blinds - (Levolor Riviera with Sheer View -
alabaster color.)
(Allowance - One per each exterior window.)
4. CARPETING:
A) Carpet by Designweave Ridgefield 32 oz. cut pile installed
over pad and/or Beechwood 22 oz. Level Loop Pile glued down.
(Allowance - for 90% of the floor area.)
B) Color to be selected from Lessor's standard samples.
C) Base - All carpeted area to receive 2 1/2" top set straight
rubber carpet base. Burke or equal.
EXHIBIT C-1
Page 1 of 6
<PAGE> 32
5. FLOORING:
A) Vinyl Composition Tile(V.C.T.)by "Armstrong" standard Execelon
tile. Provide minimum floor prep as required.
(Allowance for 10% of the floor area.)
B) Color to be selected from Lessor's standard samples.
C) All tile areas to receive 4" top set cove rubber base. Burke
or equal.
6. DOORS, FRAMES AND HARDWARE:
A) Interior Office Doors
1. 3'- 0" x 7' -10" solid core, 1-3/4" thick, mahogany
wood veneer, stained with satin lacquer finish, plain
sliced veneer (pre-finished & pre-machined).
2. 3' 0" x 8' - 0" aluminum frame (Western integrated
or equal). Anodized bronze finish.
3. Schlage D53PD Rhodes, lever latch set, 626 finish.
4. Two (2) pair of full mortise hinges per door.
5. Floor mounted door stop, Trimco W1213ES.
(Allowance - One (1) door assembly per 350 sq.ft.
of floor area.)
B) Lessee Entry Doors
1. 3'- 0" x 7' -10" solid core, 1-3/4" thick mahogany
wood veneer, stained with satin lacquer finish, plain
sliced veneer (pre-finished & pre-machined). Twenty
minutes fire rated assembly. All doors should have
smoke seals on all four edges and smoke check
closure.
2. 3' 0" x 8' - 0" aluminum frame (Western integrated
or equal). Anodized bronze finish. Twenty minutes
fire rated assembly.
3. Schlage L9453 lockset with O6A lever. 626 finish.
4. Two (2) pair of full mortise hinges per door.
S. Norton 8502 closer with sprayed aluminum finish.
6. Floor mounted door stop, Trimco satin chrome finish
W-1213ES.
7. Pemko threshold 173A.
(Allowance - Minimum required by code or one (1) door
assembly for 3,000 sq. ft. or less of floor area or
two (2) door assemblies for more than 3,000 sq. ft.)
7. ELECTRICAL, TELEPHONE, LIGHTING:
A) Electrical Receptacles
1. One building standard wall mounted duplex outlet
providing 110 Volt service. "Almond" color, as
manufactured by Leviton Decora Series.
(Allowance - One (1) per 100 sq.ft. of floor area.)
2. Direct Digital Control electrical zones to be maximum
of 8,000 square feet.
EXHIBIT C-1
Page 2 of 6
<PAGE> 33
B) Telephone or Data Wall Outlet
1. Single-gang outlet box in stud wall. 3/4" conduit
stubbed to 6" above ceiling with pull cord.
(Allowance - One (1) per 200 sq.ft. of floor area.)
C) Switches
Wall mounted light switch, almond color, rocker- type as
manufactured by Leviton Decora Series.
(Allowance - One (1) per 360 square feet.)
D) Lighting
One (1) 2' x 4' fully recessed (wherever possible) fluorescent
fixture. Three (3) each standard 35 watt lamps with deep cell
parabolic lens. (18 cells) Lithonia or equal. Light level to
be a minimum of 35 foot candles at 36" height above finished
floor.
(Allowance - One (1) per 80 sq.ft. of floor area.)
8. CEILINGS:
A) 2' x 2' suspended ceiling system, "Donn Fine Line", or equal,
White with "Armstrong Cirrus" ceiling tile, or equal.
1. Provide compression posts as required.
2. Provide wall angle at ceiling penetrations and
perimeters.
(Allowance - Contiguous within demised premises.)
9. FIRE PROTECTION:
A) Ceiling mounted white semi-recessed type fire sprinklers, per
local code.'
(Allowance - One (1) per 144 sq. ft. of floor area laid out in
open space configuration.)
10. CABINET WORK/MILLWORK:
A) Telephone backboard fire rated 4'- 0" x 8'- 0" x 3/4"
(Allowance - One (1) per tenant space.)
11. HEATING, VENTILATING, AND AIR CONDITIONING (H.V.A.C.):
A) Interior Zone
(Allowance - One (1) per 1,000 sq.ft. of floor area. 40% of
zones.)
B) Exterior Zone
(Allowance - One (1) per 1,000 sq.ft. of floor area. 60% of
zones.)
12. LIFE SAFETY:
A) One (1) building standard horn.
(Allowance - One (1) per 1,000 sq.ft. of floor area.)
13. ENERGY MANAGEMENT:
A) One (1) thermo sensor per 1,000 square feet and one (1) DDC
interface per suite (to be located at suite entrance), which
will control suite access.
EXHIBIT C-1
Page 3 of 6
<PAGE> 34
Above-Standard Improvements
Board Rooms
East wall - insulated full height partition to deck above
Drywall ceiling with light coffer around perimeter
Glass wall along north side (designed glass panes)
Drapery pocket along glass wall
Sound proofing of walls, ceilings and sound boot on HVAC
Recessed ceiling mounted projection screen
Double door entries north wall
Upgraded carpet Wall coverings on walls
Fluorescent down lights
Separate HVAC zone
Floor outlet tele/elec - flush mounted Two (2)
Low voltage incandescent lighting
President/CEO Office
Upgraded carpet
Exhaust Fan (charcoal type)
Separate HVAC zone
Local control HVAC
Drywall ceiling
Executive Vice President
Upgraded Carpet
Wall adjoining neighboring tenant space should be slab to slab with
staggered studs at 16". OC on wide tracks filled with horizontally
installed sound batting.
Area Between Board Room and President's/CEO Office
Drywall ceiling
Ceramic tile floor
Wet bar with double sink, mini-refrigerator, ice maker, dishwasher,
microwave, garbage disposal
Upper cabinet with adjustable shelving for dishware storage.
Cabinet should have interior lighting.
Down lights
Hot water heater
Exhaust fan
Training Center
Black out curtains along exterior wall
Folding partition to divide room with stacking pocket
Eight (8) duplex floor electrical outlets/data outlets-flush mounted
Plastic laminate upper and lower storage unit along south wall and
storage closet at southwest corner
Sound proofing (Sound soak or equivalent on exterior walls)
Lunch Room
Sound proofing
Plastic laminate cabinets
Plumbing and sink
Exhaust fan
General
Card key security access at nine locations
Backing in walls to support art and/or cabinets
Wall molding at demising partitions
2x2 light fixtures as necessary
Exhaust fans
EXHIBIT C-1
Page 4 of 6
<PAGE> 35
General (continued)
Dedicated electrical outlets
Floor feeds for furniture partitions
Wall feeds for furniture partitions
Four-plex electrical outlets
Fire and smoke dampers
After-hours electrical and HVAC override
Water line to coffee makers with filter
Coffee bars
Sidelights at all private offices (designed glass panes)
All doors should have smoke seals on all four edges and smoke check closure
Locks on 10 doors
Dutch door at file room
Electrical zones to be maximum of 8,000 square feet
Light level to be a minimum of 35 foot candles at 36" height above finished
floor
Conference/Work Rooms
Sound proofing on walls
Room 32 (Marketing Storage)
Built-in cabinets
Executive toilet
Sound proofing - slab to slab/double stud construction with insulation
Ceramic tile floors
Drywall ceiling
Plumbing fixtures
Down lights
Toilet accessories
Exhaust fan
Sound batting (STC 45)
Executive Reception
Glass wall at east wall
Glass entry doors (pair)
Wall covering along devising wall
Upgraded carpet
Reception Area # 1
Special recessed wall behind the receptionist for Hawthorne logo
Drywall ceilings
Wall coverings along walls
Double entry doors on magnetic hold open devices
Door release button to override door to lock door
Down lights
TV cabinet and cabling box
Reception Area # 2
Floor to ceiling framless glass panel with Hawthorne Savings etched in glass
Wall coverings, drywall ceiling
Door release buttons to override door lock at drop box
Double entry doors on magnetic hold open devices
TV cabinet and cabling box, built-in furniture
EXHIBIT C-1
Page 5 of 6
<PAGE> 36
Marketing Storage
Buildout Millwork
Human Resources
Counter
Handicap Access
All access to the Premises to meet all applicable city and state regulations and
codes regarding handicap access
Millwork Specifications
The builder and installer shall be the same company approved by Lessee
Room 84 and Room 27 (File/Copy/FAX Room)
Built-in counters, counter in Room 27 to be length of room
Room 39
Sink
EXHIBIT C-1
Page 6 of 6
<PAGE> 37
[SCHEMATIC OF PREMISES]
EXHIBIT "C-2"
1
<PAGE> 38
BUILDING STANDARD SERVICES AND UTILITIES
The furnishing of building services and utilities to Lessee shall be
accomplished in accordance with and subject to the terms and conditions set
forth in this Exhibit "D" and elsewhere in this Lease. Lessor reserves the right
to adopt from time to time such reasonable modifications and additions hereto as
Lessor may deem appropriate and with the approval not unreasonably withheld or
delayed in advance by Lessee for all elements that may adversely effect the
Premises and/or use.
1. Subject to the full performance by Lessee of all of Lessee's
obligations under this Lease, Lessor shall, during Normal Hours as set forth in
Section 1.1 (u) of this Lease ("Normal Hours"), provide the standard building
services and utilities set forth in this Paragraph 1. Lessor shall:
(a) Provide automatic elevator facilities during Normal
Hours.
(b) Provide to the Premises, during Normal Hours, heating,
ventilating and air conditioning ("HVAC") for the commercially reasonable
comfortable occupancy of the Premises for general office purposes (subject,
however, to any governmental act, proclamation or regulation). Lessor shall not
be responsible for any room temperatures if Lessee's lighting and receptacle
loads exceed those listed in Paragraph l(c) of this Exhibit, or if the Premises
are used for other than general office purposes.
(c) Provide to the Premises, during Normal Hours, electric
current for routine lighting and the operation of general office machines such
as typewriters, dictating equipment, desk model adding machines, photocopy
machines and desk top computers incidental to the conduct of normal general
office business, which use 110/220-volt electric power, not to exceed the
reasonable capacity of Building Standard office lighting and receptacles, and
not in excess of limits imposed by any governmental authority. Specifically, the
requirement shall not exceed an average of 3 watts per usable square foot of the
Premises (4 watts during calendar year 1994). Lessee agrees, should its
electrical installation or electrical consumption be in excess of the aforesaid
use or extend beyond Normal Hours, to reimburse Lessor for the excess utilities
as provided in Article 11 of this Lease.
(d) Provide at all times reasonably necessary amounts of hot
and cold water for all applicable locations in the Lessee's area, except for
that in the area between the President/CEO and the Board Room, where Lessee will
supply its own water heater, subject to the reasonable approval of Lessor.
(e) Provide janitorial services to the Premises each evening,
Sunday through Thursday (except state and/or Federal holidays), provided the
Premises are used exclusively in accordance with Section 1.1 and Article 6 of
this Lease, and are kept reasonably in order by Lessee. Lessee shall pay to
Lessor the cost of removal of any of Lessee's refuse and rubbish, to the extent
that the same exceeds the refuse and rubbish usually attendant upon the use of
the Premises for general office purposes. Lessor shall not be responsible or
liable for any act or omission or commission on the part of the persons employed
to perform said janitorial services, and said janitorial services shall be
performed at Lessor's direction without interference by Lessee or Lessee's
Employees.
2. Lessor shall have the exclusive right to make any replacement of
electric non-incandescent light bulbs, tubes and ballasts unless these additions
or replacements adversely affect wattage use in the Premises throughout the Term
and after Lessee has received at least fifteen (15) business days notice of said
events. Incandescent lighting shall be permitted in the Premises provided, in
the judgment of Lessor, it does not unreasonably burden the HVAC system or
increase operating expenses. The Lessor may, at Lessor's sole discretion, adopt
a system of relamping and reballasting periodically on a group basis in
accordance with good practice.
3. No electrical equipment, air conditioning or heating units, or
plumbing additions shall be installed, nor shall any changes to the Building's
HVAC, electrical or plumbing systems be made without the prior written consent
of Lessor, which consent shall be subject to Lessor's sole and absolute
discretion. Lessor reserves the right to approve the contractor to be used by
Lessee. Any permitted installations shall be made under Lessor's supervision.
Lessee shall pay any additional cost on account of any increased support to the
floor load or additional equipment required for such installation, not provided
in the Final Plans, and such installations shall otherwise be made in accordance
with Section 7.2 of this Lease.
4. Lessor shall not provide in the Premises, reception outlets or
television or radio antennas for television or radio broadcast or reception, and
Lessee shall not install any such equipment without the prior written consent of
Lessor, which consent shall not be unreasonably withheld. Lessee may install
satellite dish on roof. Lessee may operate televisions and install cable for
transmission of company related programs within the Premises.
EXHIBIT "D"
Page 1 of 2
<PAGE> 39
5. Lessee shall not, without the prior written consent of Lessor, use
any apparatus, machine or device in the Premises, which will in any way increase
the amount of electricity or water usually furnished or supplied for use of the
Premises as general office space, nor connect with electric current, except
through existing outlets in the Premises, any apparatus or device for the
purpose of using electric current in excess of that usually furnished or
supplied for use of the Premises as general office space.
6. Lessee shall separately arrange with the applicable local public
authorities, utility companies and telephone companies, as the case may be, for
the furnishing of, and payment of, all telephone services as may be required by
Lessee in the use of the Premises; provided, however, that Lessee shall neither
bear the cost of nor be responsible for installation of the telephone wiring
stubbed to the telephone rooms. Lessee shall directly pay for such telephone
services, including the establishment and connection thereof, at the rates
charged for such services by said authority, telephone company or utility, and
the failure of Lessee to obtain or to continue to receive such services for any
reason whatsoever shall not relieve Lessee of any of its obligations under this
Lease nor constitute a breach of this Lease by Lessor.
7. Lessee agrees to cooperate fully at all times with Lessor to assure,
and to abide by all regulations and requirements which Lessor may prescribe for
the proper functioning and protection of the Building's HVAC, electrical,
security (if any) and plumbing systems. Lessee shall comply with all Laws now in
force or which may later be enacted or promulgated in connection with building
services furnished to the Premises, including, without limitation, any
governmental rule, code, or regulation relating to the heating and cooling of
the Building.
EXHIBIT "D"
Page 2 of 2
<PAGE> 40
RECORDING REQUESTED BY:
AND WHEN RECORDED MAIL TO:
SUBORDINATION, NON-DISTURBANCE AND ATTORNMENT AGREEMENT
NOTICE: THIS SUBORDINATION, NON-DISTURBANCE AND ATTORNMENT AGREEMENT RESULTS
IN YOUR LEASEHOLD ESTATE IN THE PROPERTY BECOMING SUBJECT TO AND OF
LOWER PRIORITY THAN THE LIEN OF SOME OTHER OR LATER SECURITY
INSTRUMENT.
THIS AGREEMENT is made by and between Lessee and Lessor, in favor of
Beneficiary, and affects the Property described in Exhibit A attached hereto.
The terms "Lessee", "Lessor", "Beneficiary", "Lease", "Property", "Note", "Loan
Documents", "Deed of Trust" are defined in the Schedule of Definitions attached
as Exhibit B. This Agreement is entered into with reference to the following
facts:
A. Lessor and Lessee have entered into the Lease covering the Property.
B. Beneficiary has agreed to make the Credit Line available to Lessor
to be evidenced by, among other things, the Note and secured by the Deed of
Trust covering the Property, provided that the Lease is subordinated to the lien
of the Deed of Trust.
C. Lessee has agreed to attorn to Beneficiary or the purchaser at any
foreclosure or trustee's sale of the Property if requested to do so by
Beneficiary or such purchaser.
D. Lessee has requested that Beneficiary agree not to disturb Lessee's
possessory rights in the Property in the event Beneficiary should foreclose
under the Deed of Trust, acquire by deed in lieu of foreclosure or acquire title
in any other manner, provided that Lessee is not then in default under the Lease
beyond any applicable cure period and provided further that Lessee attorns to
Beneficiary or the purchaser at any foreclosure or trustee's sale of the
Property.
NOW, THEREFORE, in consideration of the mutual covenants contained
herein and of other good and valuable consideration, the receipt and sufficiency
of which are hereby acknowledged, the parties agree as follows:
1. Subordination. Subject to the terms of this Agreement, the Lease,
and all of the rights, privileges and powers of the Lessee thereunder in and to
the Property, including, without limitation, all rights of first refusal,
purchase options and all other rights or interests of the Lessee under the
Lease, shall be and the same are hereby, and with full knowledge and
understanding of the effect thereof, subject and subordinate to the Deed of
Trust and the lien thereof, and all the rights, privileges and powers of the
Trustee and of Beneficiary thereunder and to any and all renewals,
modifications, consolidations, replacements and extensions thereof.
2. Attornment. If Beneficiary or any other purchaser at a foreclosure
sale or sale under private power contained in the Deed of Trust succeeds to the
interest of Lessor under the Lease by reason of any foreclosure of the Deed of
Trust or the acceptance by Beneficiary of a deed in lieu of foreclosure, or by
any other manner, AT THE OPTION OF BENEFICIARY OR SUCH OTHER PURCHASER, which
option shall be exercisable by written notice to Lessee prior to or upon the
effective date of such succession, Lessee shall be bound to Beneficiary or such
other purchaser under the Lease as provided in Paragraph 4 below for the
remaining balance of the term thereof, with the same force and effect as if
Beneficiary or such other purchaser were the Lessor under such Lease, and Lessee
shall attorn to Beneficiary or such other purchaser as its Lessor, such
attornment to be effective and self-operative without the execution of any
further instruments on the part of any of the parties to this Agreement
immediately upon Beneficiary or such other purchaser succeeding to the interest
of Lessor under the Lease: Notwithstanding, should Beneficiary fail to exercise
the option to request Attornment, the provisions of Paragraph 3 below shall
remain in full force and effect.
3. Non-Disturbance. As long as Lessee, or its successors or assigns, as
Lessee under the Lease, is not in default under any of the provisions, covenants
or conditions of the Lease beyond any applicable cure period, neither the Lease,
nor any of the rights of Lessee, its successors or assigns, shall be terminated
or modified, or be subject to termination or modification, nor shall Lessee's
possession, or that of its successors or assigns, be disturbed or interfered
with by any action or proceeding to foreclose the Deed of Trust or by any
immediate or subsequent purchaser thereunder. Beneficiary agrees and covenants,
provided Lessee is not in default under the Lease beyond any applicable cure
period, that:
EXHIBIT "E"
Page 1 of 4
<PAGE> 41
(a) Lessee shall not be joined as an adverse party or
defendant in any action or proceedings which may be
instituted or commenced by Beneficiary to foreclose
or enforce the Deed of Trust, unless such joinder
shall be necessary to foreclose the Deed of Trust;
and
(b) Lessee shall not be evicted from the Property nor
shall any of Lessee's rights under the Lease be
affected or disturbed in any way by reason of this
Agreement or any modifications of or default under
the Deed of Trust.
4. Limitations. If Beneficiary or such other purchaser exercises
its option of attornment as provided in Paragraph 2 above, Lessee and
Beneficiary (or such other purchaser) shall observe and perform: (i) each of the
terms, covenants and conditions to the Lease, and (ii) such other terms,
covenants and conditions to which the parties may agree. Beneficiary or such
other purchaser shall not be:
(a) Liable for any act or omission of any prior lessor
(including Lessor) except if Lessee has provided Beneficiary (or such other
purchaser) with Notice of Default by Lessor and given Beneficiary the
opportunity to cure as set forth in the Lease; or
(b) obligated to cure any defaults of any prior lessor
(including Lessor) which occurred prior to the time that Beneficiary or such
other purchaser succeeded to the interest of such prior lessor under the Lease,
except if Lessee has provided Beneficiary (or such other purchaser) with Notice
of Default by Lessor and given Beneficiary the opportunity to cure as set forth
in the Lease; or
(c) subject to any offsets or defenses which Lessee may be
entitled to assert against any prior lessor (including Lessor), except those
which arose out of such Lessor's default under the Lease and if Lessee notified
Beneficiary and Beneficiary was given an opportunity to cure; or
(d) bound by any material payment of rent or additional rent
by Lessee to any prior lessor (including Lessor) for more than one month in
advance; or
(e) bound by any material amendment or modification of the
Lease made without written consent of Beneficiary or such other purchaser; or
(f) liable or responsible for or with respect to the
retention, application and/or return to Lessee of any security deposit paid to
any prior lessor (including Lessor), whether or not still held by such prior
lessor, unless and until Beneficiary or such other purchaser has actually
received for its own account as lessor the full amount of such security deposit.
Notwithstanding Paragraph 4(f), Lessee shall not be obligated to replace any
security deposit paid to any prior lessor (including Lessor), if the full amount
of such security deposit is not actually received by Beneficiary for its own
account as lessor.
5. Miscellaneous
(a) This Agreement shall be construed in accordance with and
governed by the laws of the United States and the rules and regulations
promulgated thereunder, and to the extent the laws of a state are applicable, by
the laws of the State of California.
(b) The parties agree to execute and deliver, in recordable
form if necessary, any and all further documents and instruments reasonably
requested by any party or any title insurance company to give effect to this
Agreement.
(c) The covenants contained in this Agreement shall run with
the land and shall be binding upon and inure to the benefit of the respective
heirs, administrators, executors, legal representatives, successors and assigns
of the parties.
(d) This Agreement may be executed in one or more
counterparts, each of which shall, for all purposes, be deemed an original and
all such counterparts, taken together, shall constitute one and the same
instrument.
EXHIBIT "E"
Page 2 of 4
<PAGE> 42
IN WITNESS WHEREOF, the parties have executed this Subordination and
Attornment Agreement as of , 1994.
NOTICE: THIS SUBORDINATION, NON-DISTURBANCE AND ATTORNMENT AGREEMENT CONTAINS
PROVISIONS WHICH ALLOW THE PERSON OBLIGATED ON THE LEASE TO OBTAIN A
CREDIT LINE, A PORTION OF WHICH MAY BE EXPENDED FOR OTHER PURPOSES THAN
IMPROVEMENT OF THE PROPERTY.
IT IS RECOMMENDED THAT, PRIOR TO THE EXECUTION OF THIS SUBORDINATION,
NON-DISTURBANCE AND ATTORNMENT AGREEMENT, THE PARTIES CONSULT WITH
THEIR ATTORNEYS WITH RESPECT THERETO.
LESSEE:
By:_________________________________
Its:________________________________
LESSOR: CONTINENTAL DEVELOPMENT CORPORATION,
a California corporation
By:_________________________________
Richard C. Lundquist
President
By:_________________________________
Leonard E. Blakesley, Jr.
Secretary
BENEFICIARY: FIRST INTERSTATE BANK OF CALIFORNIA
By:_________________________________
Its:________________________________
FORM ONLY - DO NOT SIGN
EXHIBIT "E"
Page 3 of 4
<PAGE> 43
State of California )
) SS.
County of Los Angeles )
On ______________ before me, _____________________ (Notary), personally appeared
_______________________________________, personally known to me (or proved to me
on the basis of satisfactory evidence) to be the person(s) whose name(s) is/are
subscribed to the within instrument and acknowledged to me that he/she/they
executed the same in his/her/their authorized capacity(ies), and that by
his/her/their signature(s) on the instrument the person(s), or the entity upon
behalf of which the person(s) acted, executed the instrument.
WITNESS my hand and official seal.
Signature _______________________ (Seal)
State of California )
) SS.
County of Los Angeles )
On ______________ before me, ____________________ (Notary), personally appeared
Richard C. Lundquist and Leonard E. Blakesley, Jr., personally known to me (or
proved to me on the basis of satisfactory evidence) to be the persons whose
names are subscribed to the within instrument and acknowledged to me that they
executed the same in their authorized capacities, and that their signatures on
the instrument the persons, or the entity upon behalf of which the persons
acted, executed the instrument.
WITNESS my hand and official seal.
Signature _______________________ (Seal)
State of California )
) SS.
County of Los Angeles )
On ______________ before me, _____________________ (Notary), personally appeared
_______________________________________, personally known to me (or proved to me
on the basis of satisfactory evidence) to be the person(s) whose name(s) is/are
subscribed to the within instrument and acknowledged to me that he/she/they
executed the same in his/her/their authorized capacity(ies), and that by
his/her/their signature(s) on the instrument the person(s), or the entity upon
behalf of which the person(s) acted, executed the instrument.
WITNESS my hand and official seal.
Signature _______________________ (Seal)
EXHIBIT "E"
Page 4 of 4
<PAGE> 44
LEGAL DESCRIPTION
Parcel 1 in the City of El Segundo, County of Los Angeles, State of California,
as shown on Parcel Map No. 17158, filed in Book 208, Pages 60 and 61 of Parcel
Maps in the Office of the County Recorder of said County, commonly known as
2361/2381 Rosecrans Avenue, El Segundo, California 90245.
EXHIBIT "A" TO EXHIBIT "E"
1
<PAGE> 45
SCHEDULE OF DEFINITIONS
"Beneficiary" shall mean First Interstate Bank of California, a
California corporation. All notices hereunder to Beneficiary shall be mailed to:
First Interstate Bank of California
707 Wilshire Boulevard, W18-5
Los Angeles, California 90017
Attention: Mr. Michael Morris
"Credit Line" shall mean the extension of credit from Beneficiary to
Lessor.
"Deed of Trust" shall mean a first lien Deed of Trust, Assignment of
Rents, Security Agreement and Fixture Filing Statement dated as of December 31,
1991, encumbering the Property, executed by Lessor, as Trustor, to Continental
Lawyers Title Company, as Trustee, in favor of Beneficiary, securing repayment
of the Credit Line evidenced by the Note, to be recorded in the records of the
County in which the Property is located.
"Lessor" shall mean Continental Development Corporation, a California
corporation.
"Lease" shall mean that certain Property Lease dated as of
entered into by and among Continental Development Corporation, as Lessor, and
as Lessee.
"Lessee" means
"Loan Documents" shall mean the Note, Deed of Trust, and any and all
other documents and instruments evidencing, relating to or securing the Credit
Line.
"Note" shall mean that certain "Secured Promissory Note" executed by
Lessor, in favor of Beneficiary, dated as of December 31, 1991.
"Property" means that certain real property described on Exhibit A
attached hereto.
EXHIBIT "B" TO EXHIBIT "E"
1
<PAGE> 46
RULES AND REGULATIONS
1. The sidewalks, entrances, exits, passages, parking areas, courts,
elevators, vestibules, stairways corridors, terraces, lobbies or halls shall not
be obstructed or used for any purpose other than ingress and egress. The halls,
passages, entrances, exits, elevators and stairways are not for the use of the
general public, and Lessor shall retain the right to control and prevent access
thereto of all persons whose presence, in the judgment of Lessor, is deemed to
be prejudicial to the safety, character, reputation and interests of the
Building and its tenants. No tenant shall go up on the roof of the Building.
2. No curtains, blinds, shades or screens shall be attached to or hung
in, or used in connection with, any window of the Premises other than Lessor's
standard window covering; without Lessor's prior consent. All electric ceiling
fixtures hung in offices or spaces along the perimeter of the Building must be
fluorescent, of a quality, type, design and bulb color approved by Lessor.
Neither the interior nor exterior of any windows shall be coated or otherwise
sunscreened without consent of Lessor.
3. No sign, picture, placard, advertisement notice, lettering,
direction or handbill shall be exhibited, distributed, painted, installed,
displayed, inscribed, placed or affixed by any tenant on any part of the
exterior of the Premises, the Building, the Property, or Continental Park, or
the interior of the Premises which is visible from the exterior of the Premises,
without the prior written consent of Lessor. In the event of the violation of
the foregoing by any tenant, Lessor may remove same without any liability, and
may charge the expense incurred in such removal to the tenant violating this
rule. Interior signs on doors shall be inscribed, painted or affixed for each
tenant by the Lessor at such tenant's expense, and shall be of a size, color and
style acceptable to the Lessor. Nothing may be placed on the exterior of
corridor walls or corridor doors other than Lessor's building standard sign on
the corridor door, applied and installed by Lessor.
4. The Building directory will be provided for the display of the name
and location of the Lessee of the Building shown in 1.1(b) and Lessor reserves
the right to exclude any other names therefrom. Lessee to be listed in directory
at 2361 and 2381 Rosecrans Avenue.
5. Lessee shall not drill into, or in any way deface any part of the
Premises, Building, or Property. No boring, cutting or stringing of wires or any
floor coverings shall be permitted, except with the prior written consent of the
Lessor.
6. No bicycles, vehicles, birds or animals (except guide dogs) of any
kind shall be brought into or kept in or about the Premises or the Building, and
no birds or animals (except guide dogs) shall be brought into or kept in or
about the Project. No cooking shall be done or permitted by Lessee on the
Premises, except that the preparation of coffee, tea, hot chocolate and similar
items for Lessee shall be permitted, and Lessee shall also be permitted to heat
foods in a microwave oven for use by Lessee or its employees; provided, however,
that the power required shall not exceed that amount which can be provided by a
30-amp circuit. No Lessee shall cause or permit any unusual or objectionable
odors to be produced or to permeate the Premises of the Building.
7. The Premises shall not be used for manufacturing or for the storage
of merchandise except as such storage may be incidental to the use of the
Premises for general office purposes. No Lessee shall occupy or permit any
portion of the Premises to be occupied as an office for a public stenographer or
typist or for the manufacture or sale of liquor, narcotics or tobacco in any
form, or as a medical office, or as a barber or manicure shop, beauty or hair
salon, or as an employment bureau, or as a travel agency, without the prior
written consent of Lessor. No Lessee shall sell or permit the sale of
newspapers, magazines, periodicals, theater tickets or any other goods or
merchandise in or on its Premises. No Lessee shall engage or pay any employees
on its Premises except those actually working for such Lessee on its Premises,
nor shall any Lessee, without Lessor's consent, use the Premises address in any
advertisements for laborers working at a location other than the Premises. No
Premises shall be used for lodging or sleeping or for any immoral or illegal
purposes.
8. No Lessee shall make, or permit to be made, any noises which disturb
other occupants of the Building, or Continental Park, whether by the use of any
musical instrument, radio, television, phonograph, screening room, loud, unusual
or disruptive noise, or in any other way. No Lessee shall use, keep or permit to
be used any foul or noxious gas or substance in. on or about the Premises.
9. No Lessee shall at any time bring or keep within the Premises or the
Building any flammable, combustible or explosive fluid, chemical substance or
material. Electric spaceheaters shall not be used at any time by Lessee.
10. No new or additional locks or bolts of any kind shall be placed
upon any of the doors by Lessee, nor shall any changes be made in existing locks
or the mechanism thereof without the prior written consent of Lessor. If Lessor
consents in writing to such a lock change, Lessee must furnish Lessor with a
key. Lessee must,
EXHIBIT "F"
Page 1 of 3
<PAGE> 47
upon the termination of its tenancy, give, return and restore to Lessor all keys
of stores, offices, vaults and toilet rooms, either furnished to, or otherwise
procured by Lessee, and in the event at any time of any loss of keys so
furnished, Lessee shall pay to Lessor the cost of replacing the same or of
changing the lock or locks opened by such lost key if Lessor shall deem it
necessary to make such changes.
11. Furniture, freight, equipment, safe matter of any description shall
be moved in or out of the Building, only after Lessor has been furnished with
prior notice and approved thereof in writing and only during such hours and in
such manner as may be prescribed by the Lessor from time to time. The scheduling
and manner of all Lessee move-ins and move-outs shall be subject to the
discretion and approval of Lessor, and said move-ins and move-outs shall only
take place after 7:00 p.m. on weekdays, on weekends, or at such other times as
Lessor may designate. Lessor shall have the right to approve or disapprove the
movers or moving company employed by Lessee, and Lessee shall cause said movers
to use only the loading facilities and elevators designated by Lessor. In the
event Lessee's movers damage the elevator or any other part of the Property,
Lessee shall immediately pay to Lessor the amount required to repair said
damage. The moving of safes or other fixtures or bulky or heavy matter of any
kind must be done under the Lessor's supervision, and the person employed by any
Lessee for such work must be acceptable to Lessor, but such persons shall not be
deemed to be agents or servants of the Lessor, and Lessee shall be responsible
for all acts of such persons. The Lessor reserves the right to inspect all
safes, freight or other bulky or heavy articles to be brought into the Building
and to exclude from the Building all safes, freight or other bulky or heavy
articles which violate any of these Rules or this Lease of which these Rules are
a part. The Lessor reserves the right to determine the location and position of
all safes, freight, furniture or bulky or heavy matter brought onto the
Premises, and Lessor shall have the right to require that same be placed upon
supports approved in writing by Lessor to distribute the weight.
12. No furniture shall be placed in front of the Building, or in any
lobby or corridor or balcony, without the prior written consent of Lessor.
Lessor shall have the right to remove all non-permitted furniture, without
notice to Lessee, and at the expense of Lessee.
13. Lessor reserves the right from time to time to deny access to the
Premises to any vendor or provider of ice, towel, janitorial, maintenance,
delivery, courier, private postal, or other like services who shall create a
nuisance on the Premises. Lessor shall provide written notice to Lessee five (5)
business days before the denial of access shall become effective. No Lessee
shall obtain or purchase food or beverages on the Property from any vendor or
supplier except at hours and under regulations established by Lessor.
14. Lessor shall have the right to prohibit any advertising by any
Lessee which, in Lessor's opinion, tends to impair the reputation of the
Building or its desirability as an office building and, upon written notice from
Lessor, Lessee shall immediately refrain from or discontinue such advertising.
15. Lessor reserves the right to exclude from the Building between the
hours of 6:00 p.m. and 7:00 a.m., Monday through Friday, and after 1:00 p.m. on
Saturday and at all hours on Sunday, state and/or Federal holidays, all persons
who are not authorized by Lessee. Such authorization shall be in accordance with
procedures established by Lessor in its sole and absolute discretion. Each
Lessee shall be responsible for all persons whom it causes to be present in the
Building and shall be liable to Lessor for all acts of such persons. In the case
of invasion, riot, public excitement, Act of God, or other circumstance
rendering such action advisable in Lessor's opinion, Lessor reserves the right
to prevent access of all persons, including Lessee, to the Building during the
continuance of the same by such actions as Lessor may deem appropriate,
including the closing and locking of doors.
16. Any persons employed by Lessee to do any work in or about the
Premises shall, while in the Building and outside of the Premises, be subject to
and under the control and direction of Lessor (but shall not be deemed to be an
agent or servant of Lessor), and Lessee shall be responsible for all acts of
such persons.
17. Except for the doors of both reception areas, all doors opening
onto public corridors shall be kept closed, except when in use for ingress and
egress. All doors leading to equipment and utility rooms shall be kept closed.
18. Canvassing, soliciting and peddling in the Building are prohibited
and each Lessee shall cooperate to prevent the same.
19. All office equipment of any electrical nature (other than that
office equipment which is typically used in normal office uses and which does
not cause excessive vibration noise or annoyance) shall be placed by Lessee in
the Premises in settings and locations approved in writing by Lessor, to absorb
or prevent any vibration, noise or annoyance.
20. No air conditioning; unit or other similar apparatus shall be
installed or used by Lessee without the prior written consent of Lessor.
EXHIBIT "F"
Page 2 of 3
<PAGE> 48
21. Lessee shall faithfully observe and comply with the terms of any
and all covenants, conditions and restrictions recorded against the Property.
22. Restrooms and other water fixtures shall not be used for any
purpose other than that which the same are intended, and any damage resulting to
the same from misuse on the part of Lessee shall be paid for by Lessee. Each
Lessee shall be responsible for causing all water faucets, water apparatus and
utilities to be shut off before such Lessee leaves the Premises each day, and
Lessee shall be liable for any waste or damage sustained by other tenants or
occupants of the Building or Lessor as a result of Lessee's failure to perform
said duty.
23. The Building is equipped with an electronic access control device.
Lessee shall give Lessor the sum of ten dollars ($10.00) for each identification
key or card issued to Lessee as a deposit against the return of the
identification key or card to Lessor.
24. The terms used in this Exhibit "F" shall have the same meanings as
defined in the respective Lease for each Lessee, unless a contrary meaning is
expressly set forth herein. For all purposes of this Exhibit "F," (i) the term
"Lessee" shall be defined as the respective tenant under each Lease to which
this Exhibit "F" is attached and to all other tenants of the Project and shall
include and encompass each of those tenants' employees, agents, contractors,
licensees and invitees, and (ii) the term "Premises" shall be defined as the
respective Premises leased under each Lease to which this Exhibit "F" is
attached and to the Premises of all other tenants of the Project.
Page 3 of 3
<PAGE> 49
PARKING FACILITIES
So long as the Lease pertaining to the Premises remains in effect, and
Lessee is not in default thereunder, Lessee and Lessee's designated employees
shall, during the term of the Lease, (a) lease monthly parking privileges for
that number of automobiles in the aggregate set forth in Section 1. I(q) at the
monthly rates specified in 1.1(c) and (b) park said automobiles in the Parking
Facilities.
A condition of any parking shall be compliance by all parkers with
parking rules and regulations and all modifications and additions thereto from
time to time established by Lessor (or Lessor's operator) in their sole
discretion, including any sticker or other identification system established by
Lessor (or Lessor's operator). Lessor (and Lessor's operator) shall not be
responsible to Lessee for the non-performance of any of said rules and
regulations by any other parker. The rules and regulations for the Parking
Facilities are as follows:
RULES AND REGULATIONS
1. Parking hours are currently established from 7:30 a.m. to 6:30 p.m.,
Monday through Friday. Lessee shall have parking privileges during any other
times or on Saturdays, Sundays, or state and/or Federal holidays, but Lessor
shall not have the obligation to enforce reserved permits or the number of
permits allocated to Lessee hereunder. Lessor retains the right to change the
manner of operation of the Parking Facility in the exercise of its reasonable
discretion.
2. Automobiles must be parked entirely within the stall lines on the
pavement.
3. All directional signs and arrows must be observed.
4. The speed limit shall be 5 miles per hour.
5. Parking in areas not striped for parking is prohibited. Overnight
parking shall be at the Lessee's risk.
6. Parking stickers or any other device or form of identification
supplied by Lessor (or its operator)shall remain the property of Lessor (or its
operator). Such parking identification device must be displayed as required and
may not be mutilated in any manner. The serial number of the parking
identification device may not be obliterated. Parking identification devices are
not transferable or assignable and any parking identification device in the
possession of any unauthorized holder will be void. There will be a deposit-of
$10.00 required for each parking card and a replacement charge to Lessee or
person designated by Lessee of $10.00 for loss of any parking card, which
amounts can be adjusted from time to time by Lessor at its discretion.
7. The monthly rate for parking is payable one (1) month in advance and
must be paid on or before the first day of each calendar month during the entire
term of the Lease. Failure to do so will automatically cancel all parking
privileges and a charge at the prevailing daily rate will be due. No deductions
or allowances from the monthly rate will be made for the days a parker does not
use the Parking Facilities.
8. Lessor (and its operator) may refuse to permit any person who
violates the within rules to park in the parking area, and any violation of the
rules shall subject the automobile to removal from the parking area at the
parker's expense. In either of said events, Lessor (or its operator) shall
refund a pro rata portion of the current monthly parking rate, and Lessee shall
immediately return to Lessor the parking card, sticker and any other form of
identification supplied by Lessor (or its operator).
9. Parking area managers or attendants are not authorized to make or
allow any exceptions to these rules and regulations.
10. Every parker is required to park and lock his/her own automobile.
All responsibility for any loss or damage to automobiles or any personal
property therein is assumed by the parker.
11. Loss or theft of parking identification devices from automobiles
must be reported to the parking area manager immediately, and a lost or stolen
report must be filed by the parker at that time.
12. The Parking Facilities are for the sole purpose of parking one (1)
automobile per permit, unless otherwise permitted or changed by Lessor. Washing,
waxing, cleaning or servicing of any vehicle by the parker of his/her agents is
prohibited, except by persons expressly authorized in writing to do so, in
advance, by Lessor.
13. Lessor (and its operator) reserves the right to refuse the issuance
of monthly stickers or other parking identification devices to any Lessee and/or
its employees who refuse to comply with the above Rules and Regulations and all
posted and unposted city, state or federal ordinances, laws or agreements.
EXHIBIT "G"
Page 1 of 2
<PAGE> 50
14. Lessee agrees to acquaint all employees with these Rules and
Regulations.
15. Lessor to comply with Traffic Systems Management Program of City of
El Segundo.
16. Space to be provided for Van Pools at no fee.
EXHIBIT "G"
Page 2 of 2
<PAGE> 51
RIDER NO. 1
PARKING CHARGE CREDITS
1. Parking Charge Credit. Provided that an Event of Default has not
occurred, during each month of the Term provided for below, Lessee shall receive
a "credit" (herein, "Parking Credit") against Parking Charges in the amount
provided for below, which is based upon 120 non-reserved parking permits each at
$45.00 per month. However, Lessor shall increase this credit, as required during
the first fourteen months of the Term, for up to 160 non-reserved permits,
provided Lessee can satisfactorily demonstrate to Lessor the need for more
parking. As a result of the Parking Credit, for each indicated month of the
Term, Lessee shall pay the amount described below as the "Payment Amount" (plus
any applicable Base Rental Adjustments), in satisfaction of its obligation to
pay Base Rental for the indicated month:
<TABLE>
<CAPTION>
MONTH OF TERM CREDIT PAYMENT AMOUNT
<S> <C> <C> <C> <C>
(i) First $5,400.00 $0.00
(ii) Second $5,400.00 $0.00
(iii) Third $5,400.00 $0.00
(iv) Fourth $5,400.00 $0.00
(v) Fifth $5,400.00 $0.00
(vi) Sixth $5,400.00 $0.00
(vii) Seventh $5,400.00 $0.00
(viii) Eighth $5,400.00 $0.00
(ix) Ninth $5,400.00 $0.00
(x) Tenth $5,400.00 $0.00
(xi) Eleventh $5,400.00 $0.00
(xii) Twelfth $5,400.00 $0.00
(xiii) Thirteenth $5,400.00 $0.00
(xiv) Fourteenth $5,400.00 $0.00
</TABLE>
2. Credit Recapture. In the event that, at any time during the Term, or
any extension thereof an Event of Default has occurred, an amount equal to all
Parking Charge Credits Lessee had received pursuant to this Rider, shall be
immediately due and payable by Lessee to Lessor. Furthermore, all Parking Charge
Credits against Parking Charges which would have been available to Lessee under
this Rider shall be null and void from and after the occurrence of an Event of
Default, and Lessee shall not thereafter have the right to receive any such
Parking Charge Credits.
3. Defined Terms. All terms used in this Rider, unless otherwise
defined in this Rider, shall have the meaning ascribed to that term in the Lease
to which this Rider is attached.
1
<PAGE> 52
RIDER NO. 2
OPTION TO EXTEND TERM
THIS RIDER FOR OPTION TO EXTEND TERM ("Rider") is attached and made a
part of that certain Lease between CONTINENTAL DEVELOPMENT CORPORATION
("Lessor"), and HAWTHORNE SAVINGS AND LOAN ASSOCIATION ("Lessee"), which Lease
is dated March 25, 1994 ("Lease"). Lessor and Lessee hereby agree that the
following shall be included as part of said Lease:
I . Grant of Option. Lessee is hereby granted an option (sometimes
called the "Renewal Option") to extend the Term of the Lease upon all of the
provisions contained in the Lease, except for Base Rental, for a period of five
(5) years (the "Option Term"). Such option shall be exercised, if at all, by
Lessee delivering written notice to Landlord of such exercise of such option
("Option Notice") at least one hundred and eighty (180) days before the
expiration of the initial term. Reference to the "Term" of the Lease as used in
the Lease shall include the Option Term in the event the Renewal Option is
exercised in accordance herewith. Lessee shall have no other right to extend the
term except as set forth in this section.
2. Base Rental During Option Term. In the event Lessee exercises its
option to extend the Term of the Lease, then the Base Rental for the first full
year of the Option Term shall be determined as hereinafter provided, but in no
event shall the Base Rental ever be less than the amount being paid for the
month preceding the Option Term. The Base Rental for the Option Term shall be
95% of the then Fair Market Value as defined below in Paragraph 3, but in no
event shall the Base Rental rate be less than $1.40 per rentable square foot
per month nor more than $1.60 per rentable square foot per month.
3. Definition or Fair Market Value. The Fair Market Value (FMV) shall
be determined based upon rentals then being charged for other space similarly
situated and within Class A buildings located in the El Segundo/Manhattan Beach
market of equivalent condition and amenities as the Building and the Project,
and first occupied between 1985 and 1995, taking into account the size,
location, floor level, the length of the term of the Option Term, the extent of
services to be provided, and any other relevant terms and conditions, but, in
each instance, disregarding "tenant concessions," if any, then being offered to
prospective new tenants in the Building or comparable buildings. The term
"tenant concessions" shall include, without limitations, so-called free rent,
half rent or other reduced rent, tenant improvement allowances, lease takeovers,
free parking or reduced parking charges, load factor for rentable area of the
Premises) that is lower than that calculated in accordance with BOMA, etc. All
Base Rental payable during the Option Term shall be payable in the same manner
and under the same terms and conditions as Base Rental is paid during the
Initial Term. In no event shall Lessor be obligated to construct any additional
improvements within or about the Premises in connection with Lessee's exercise
of such option.
4. Payment of Base Rental. During the period of time the parties are
determining the Value of the Premises, if such period extends beyond the
scheduled expiration of the Initial Term, Lessee shall pay Lessor, as Base
Rental, the amount which would be payable under Section 22.1 of the Lease if
Lessee had held over possession of the Premises with Lessor's consent, but had
not exercised the Renewal Option. If the monthly Base Rental for the first year
of the Option Term, as determined herein, is different than the amount paid by
Lessee as Base Rental during the period of time following the end of the Initial
Term of the Lease, then an adjustment shall be made effective as of the
commencement of the Option Term, and one party shall pay the other party, within
ten (10) days following the determination of the Base Rental for the first year
of the Option Term, an amount sufficient to reconcile the amount so paid by
Lessee as Base Rental as compared with the actual amount of Base Rental due.
5. Option Personal. The option granted to Lessee herein is personal to
Lessee and may not be exercised or assigned voluntarily or involuntarily, by or
to any person or entity other than the original Lessee. The option herein
granted to Lessee is not assignable separate and apart from the Lease. In the
event that at the time this Option is exercisable by Lessee, the Lease has been
assigned, or a sublease exists as to twenty percent (20%) or more of the
Premises, this Option shall be deemed null and void and Lessee, any assignee, or
any sublessee, shall not have the right to exercise the Renewal Option.
6. Effect Of Default On Option.
(a) Lessee shall have no right to exercise the Renewal Option,
notwithstanding any provision herein to the contrary, (i) during the time
commencing from the date Lessor gives to Lessee a notice of default pursuant to
Section 17.1 of the Lease and continuing until the default alleged in said
notice of default is cured, (ii) during the period of time commencing on the
date after a monetary obligation to Lessor is due from Lessee and unpaid
(without any necessity for notice thereof to Lessee) and continuing until the
obligation is paid, (iii) at any time after an event of default described in
Sections 17.l(c) or (d) of the Lease (without any necessity for notice thereof
to Lessee), or (iv) in the event that Lessor has given to Lessee three or more
notices of default during the twelve (12) month period prior to the time that
Lessee exercises such option.
Page 1 of 2
<PAGE> 53
(b) The period of time within which such option may be
exercised shall not be extended or enlarged by reason of Lessee's inability to
exercise such option because of the provisions of Paragraph 8(a) hereinabove.
(c) All rights of Lessee under the provisions of such option
shall terminate and be of no further force or effect, notwithstanding Lessee's
due and timely exercise of such option, if, after such exercise, (i) Lessee
fails to pay to Lessor a monetary obligation of Lessee for a period of thirty
(30) days after such obligation becomes due (provided Lessor shall have given
notice thereof to Lessee), (ii) Lessee fails to commence to cure a default
specified in Section 17.l(b) of the Lease within thirty (30) days after the
date that Lessor gives notice to Lessee of such default and/or Lessee fails
thereafter to diligently prosecute said cure to completion within the applicable
period, (iii) Lessee commits a default described in Sections 17.l(c) or (d) of
the Lease without any necessity of Lessor to give notice thereof to Lessee, or
(iv) Lessor gives to Lessee three or more notices of default for the same type
of default during the period commencing twelve (12) months prior to the exercise
of the Renewal Option and continuing through the date of the commencement of the
Option Term, whether or not the defaults are cured.
7. Miscellaneous. Lessor and Lessee shall execute and deliver
appropriate documentation to evidence any renewal of the Lease and the terms and
conditions of the Lease during the Option Term. All terms used herein shall have
the same meanings as used in the Lease. In the event of a conflict between the
provisions of the Lease and those of this Rider, the terms of this Rider shall
control. Except as hereinabove provided, said Lease shall remain in full force
and effect.
Page 2 of 2
<PAGE> 1
[DELOITTE &
TOUCHE LLP LETTERHEAD]
[LOGO]
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Registration Statement (Nos.
33-74800 and 333-23587) of Hawthorne Financial Corporation on Form S-8 of our
report dated January 31, 1997, appearing in the Annual Report on Form 10-K of
Hawthorne Financial Corporation for the year ended December 31, 1996.
/s/ DELOITTE & TOUCHE LLP
April 14, 1997
Los Angeles, California
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<CURRENCY> DOLLARS
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<EXCHANGE-RATE> 1
<CASH> 82,578
<INT-BEARING-DEPOSITS> 720,724
<FED-FUNDS-SOLD> 11,300
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 38,371
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 672,401
<ALLOWANCE> 13,515
<TOTAL-ASSETS> 847,195
<DEPOSITS> 717,809
<SHORT-TERM> 62,307
<LIABILITIES-OTHER> 23,157
<LONG-TERM> 0
0
11,592
<COMMON> 26
<OTHER-SE> 32,471
<TOTAL-LIABILITIES-AND-EQUITY> 847,195
<INTEREST-LOAN> 62,152
<INTEREST-INVEST> 5,632
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 67,784
<INTEREST-DEPOSIT> 35,568
<INTEREST-EXPENSE> 39,960
<INTEREST-INCOME-NET> 25,394
<LOAN-LOSSES> 7,489
<SECURITIES-GAINS> 248
<EXPENSE-OTHER> 21,046
<INCOME-PRETAX> 1,125
<INCOME-PRE-EXTRAORDINARY> 1,125
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 7,507
<EPS-PRIMARY> 1.11
<EPS-DILUTED> 1.11
<YIELD-ACTUAL> 8.43
<LOANS-NON> 28,600
<LOANS-PAST> 0
<LOANS-TROUBLED> 39,084
<LOANS-PROBLEM> 46,987
<ALLOWANCE-OPEN> 15,192
<CHARGE-OFFS> 7,744
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 13,515
<ALLOWANCE-DOMESTIC> 13,515
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
