<PAGE> 1
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
----------
FORM 10-Q
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X QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
- ----- ACT OF 1934
For the quarter ended March 31, 1997
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- ----- EXCHANGE ACT OF 1934
For the transition period from ______ to ______
Commission File Number 0-1100
----------
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 Number)
2381 ROSECRANS AVENUE, EL SEGUNDO, CA 90245
(Address of Principal Executive Offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE (310) 725-5000
----------
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 the number of shares outstanding of each of the issuer's
classes of common stock as of the latest practicable date: The Registrant had
2,629,275 shares of Common Stock, $0.01 par value per share outstanding, as of
May 5, 1997.
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<PAGE> 2
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
FORM 10-Q INDEX
FOR THE QUARTER ENDED MARCH 31, 1997
<TABLE>
<CAPTION>
PART I - FINANCIAL INFORMATION Page
----
<S> <C> <C>
ITEM 1. Financial Statements
Consolidated Statements of Financial Condition at March 31, 1997
(Unaudited) and December 31, 1996 3
Consolidated Statements of Operations (Unaudited) for the Three
Months Ended March 31, 1997 and 1996 4
Consolidated Statement of Stockholders' Equity (Unaudited) for the
Three Months Ended March 31, 1997 5
Consolidated Statements of Cash Flows (Unaudited) for the Three
Months Ended March 31, 1997 and 1996 6
Notes to Consolidated Financial Statements (Unaudited) 8
ITEM 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 10
ITEM 3. Quantitative and Qualitative Disclosure About Market Risk 28
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings 29
ITEM 2. Changes in Securities 29
ITEM 3. Defaults upon Senior Securities 29
ITEM 4. Submission of Matters to a Vote of Security Holders 29
ITEM 5. Other Information 29
ITEM 6. Exhibits and Reports on Form 8-K 29
</TABLE>
FORWARD LOOKING STATEMENTS
When used in this Form 10-Q or future filings by the Company with the
Securities and Exchange Commission, in the Company's press releases or other
public or stockholder 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.
2
<PAGE> 3
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
1997 1996
(UNAUDITED) (AUDITED)
--------- ---------
<S> <C> <C>
ASSETS
Cash and cash equivalents $ 16,024 $ 93,978
Investment securities available-for-sale, at market 77,633 38,371
Loans receivable (net of allowance for estimated credit losses
of $13,657 in 1997 and $13,515 in 1996) 698,225 672,401
Real estate owned (net of allowance for estimated losses
of $9,659 in 1997 and $11,871 in 1996) 20,977 20,140
Investment in capital stock of Federal Home Loan Bank - at cost 6,898 6,788
Office property and equipment - at cost, net 4,531 4,729
Accrued interest receivable 4,700 4,781
Deferred tax asset, net 4,935 4,243
Other assets 4,052 1,764
--------- ---------
$ 837,975 $ 847,195
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Deposits $ 708,113 $ 717,809
Short-term borrowings 65,000 50,000
Senior notes 12,385 12,307
Accounts payable and other liabilities 8,353 23,157
--------- ---------
793,851 803,273
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, 2,634,675 shares in 1997 and
2,604,675 shares in 1996 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 7,887 7,745
Unrealized gain (loss) on available-for-sale securities, net (829) (132)
Retained earnings 25,608 24,858
--------- ---------
44,284 44,089
Less
Treasury stock, at cost - 5,400 shares (48) (48)
Loan to Employee Stock Ownership Plan (112) (119)
--------- ---------
44,124 43,922
========= =========
$ 837,975 $ 847,195
========= =========
</TABLE>
3
<PAGE> 4
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
-----------------------
1997 1996
-------- --------
<S> <C> <C>
Interest revenues
Loans $ 16,330 $ 14,362
Investment securities 1,501 1,068
-------- --------
17,831 15,430
-------- --------
Interest costs
Deposits 8,892 8,938
Short-term borrowings 780 --
Senior notes 483 471
-------- --------
10,155 9,409
-------- --------
Net interest income before contractual
interest on nonaccrual loans 7,676 6,021
Contractual interest due on nonaccrual loans (824) (629)
-------- --------
Net interest income 6,852 5,392
Provision for credit losses 1,500 1,200
-------- --------
Net interest income after provision for credit losses 5,352 4,192
Noninterest revenues 732 440
Noninterest expenses
Employee 2,769 2,294
Operating 1,054 1,049
Occupancy 754 723
Professional 348 448
SAIF premium and OTS assessment 372 585
Goodwill amortization 12
-------- --------
5,297 5,111
-------- --------
Real estate operations, net 20 441
Gain (loss) on sale of loans (13) 153
Other revenues (expenses), net 193
-------- --------
Net earnings before income taxes 794 308
Income tax benefit 563 2,253
-------- --------
Net earnings $ 1,357 $ 2,561
======== ========
Net earnings available for Common (NOTE 3) $ 852 $ 2,130
======== ========
Net earnings per share (NOTE 3) $ 0.17 $ 0.41
======== ========
Weighted average shares (NOTE 3) 5,142 5,151
======== ========
</TABLE>
4
<PAGE> 5
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (UNAUDITED)
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
ACCRUED
CHANGE IN DIVIDENDS
BALANCE AT EXERCISED UNREALIZED ON BALANCE AT
DECEMBER 31, STOCK GAINS NET PREFERRED MARCH 31,
1996 OPTIONS (LOSSES) EARNINGS STOCK REPAYMENTS 1997
------------ -------- ------- ------- --------- ---------- -------
<S> <C> <C> <C> <C> <C> <C> <C>
Common stock $ 26 $ 26
Cumulative preferred stock, series A
Capital in excess of par value
Common stock 7,745 142 7,887
Cumulative preferred stock, series A 11,592 11,592
Unrealized gain (loss) on
available-for-sale securities, net (132) (697) (829)
Retained earnings 24,858 1,357 (607) 25,608
Treasury stock (48) (48)
Loan to employee stock ownership plan (119) 7 (112)
-------- -------- ------- ------- --------- ---------- -------
Total stockholders' equity $ 43,922 $ 142 $ (697) $ 1,357 $ (607) $ 7 $44,124
======== ======== ======= ======= ========= ========== =======
</TABLE>
5
<PAGE> 6
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
-----------------------
1997 1996
-------- --------
<S> <C> <C>
NET CASH FLOWS FROM OPERATING ACTIVITIES
Net earnings $ 1,357 $ 2,561
Adjustments
Provision (benefit) for income taxes (692) (2,253)
Provision for estimated credit losses on loans 1,500 1,200
Provision for estimated credit losses on real estate owned 700
Net gain on sale of branches (202)
Net recoveries from sales of real estate owned (24) (743)
Loan fee and discount accretion (905) (562)
Depreciation and amortization 445 360
FHLB dividends (110) (81)
Goodwill amortization 12
Decrease (increase) in:
Accrued interest receivable 81 (428)
Other assets (2,340) (1,328)
(Decrease) increase in other liabilities (15,365) 45
Other, net (42) (73)
-------- --------
Net cash used by operating activities (16,095) (792)
-------- --------
NET CASH FLOWS FROM INVESTING ACTIVITIES
Investment securities
Purchases (40,000) (89,966)
Maturities 57,932
Mortgage-backed securities
Principal amortization 33
Loans
New loans funded (43,991) (35,826)
Construction disbursements (17,950) (9,760)
Payoffs 29,194 12,678
Sales proceeds 32,720
Principal amortization 4,336 4,146
Other, net (2,262) 3,129
Real estate owned
Sale proceeds 5,728 10,829
Capitalized costs (2,256) (2,834)
Redemption of FHLB stock
Office property and equipment
Sales proceeds 2,722
Additions (111) (40)
-------- --------
Net cash used by investing activities (67,312) (14,237)
-------- --------
</TABLE>
6
<PAGE> 7
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(DOLLARS ARE IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
-----------------------
1997 1996
-------- --------
<S> <C> <C>
NET CASH FLOWS FROM FINANCING ACTIVITIES
Net (decrease) growth in deposits (9,696) 16,857
Net change in borrowings 15,000
Net proceeds from exercise of options 142
Collection of ESOP loan 7 6
-------- --------
Net cash provided by financing activities 5,453 16,863
-------- --------
(DECREASE) INCREASE IN CASH AND CASH
EQUIVALENTS (77,954) 1,834
CASH AND CASH EQUIVALENTS
AT BEGINNING OF PERIOD 93,978 14,015
-------- --------
CASH AND CASH EQUIVALENTS
AT END OF PERIOD $ 16,024 $ 15,849
======== ========
SUPPLEMENTAL DISCLOSURES OF
CASH FLOW INFORMATION
Cash paid during the period for
Interest $ 9,803 $ 8,697
Income taxes 129
Non-cash investing and financing activities
Real estate acquired in settlement of loans 6,719 3,646
Loans originated to finance sales of real estate owned 2,192 7,478
Net change in unrealized gains (losses) on
available-for-sale securities (697) (60)
Transfer of held to maturity securities to available-for-sale 35,148
Loan activity
Total commitments and permanent fundings $ 74,079 $ 64,770
Less:
Change in undisbursed funds on construction commitments (1,958) (10,349)
Loans originated to finance sales of real estate owned (2,192) (7,478)
Non-cash portion of refinanced loans (6,300)
Undisbursed portion of new lines of credit (1,688) (1,357)
-------- --------
Net construction disbursements and loans funded $ 61,941 $ 45,586
======== ========
</TABLE>
7
<PAGE> 8
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
MARCH 31, 1997
NOTE 1 - SUMMARY OF ACCOUNTING POLICIES
The consolidated financial statements include the accounts of Hawthorne
Financial Corporation and its wholly-owned subsidiary, Hawthorne Savings, F.S.B.
("Bank"), collectively referred to as the "Company". All material intercompany
transactions and accounts have been eliminated.
In the opinion of management, the unaudited consolidated financial
statements contain all adjustments (consisting solely of normal recurring
accruals) necessary to present fairly the Company's financial position as of
March 31, 1997, and December 31, 1996, and the results of its operations and its
cash flows for the three months ended March 31, 1997 and 1996. Certain
information and note disclosures normally included in financial statements
prepared in accordance with Generally Accepted Accounting Principles ("GAAP")
have been condensed or omitted pursuant to the rules and regulations of the
Securities and Exchange Commission ("SEC"). Operating results for the three
months ended March 31, 1997, are not necessarily indicative of the results that
may be expected for any other interim period or the full year ending December
31, 1997.
These unaudited consolidated financial statements should be read in
conjunction with the audited consolidated financial statements and notes thereto
included in the Company's Annual Report on Form 10-K for the year ended December
31, 1996.
NOTE 2 - RECLASSIFICATION
Certain amounts in the 1996 consolidated financial statements have been
reclassified, where practicable, to conform with classifications in 1997.
8
<PAGE> 9
HAWTHORNE FINANCIAL CORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
MARCH 31, 1997
(amounts are in thousands, except for book value and per share data)
NOTE 3 - BOOK VALUE AND EARNINGS PER SHARE
The table below sets forth the Company's book value and earnings per
share calculations for March 31, 1997 and 1996, using the Modified Treasury
Stock Method as prescribed under GAAP. All other calculations shown, 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>
THREE MONTHS ENDED MARCH 31, 1997 THREE MONTHS ENDED MARCH 31, 1996
------------------------------------- ---------------------------------------
MODIFIED MODIFIED
TREASURY ACTUAL SHARES, TREASURY ACTUAL SHARES,
STOCK ACTUAL WARRANTS, STOCK ACTUAL WARRANTS,
METHOD SHARES AND OPTIONS METHOD SHARES AND OPTIONS
-------- -------- ------- ------- ------------ -------
<S> <C> <C> <C> <C> <C> <C>
SHARES OUTSTANDING
Common 2,617 2,617 2,617 2,599 2,599 2,599
Warrants 2,376 2,376 2,376 2,376
Options 672 672 696 696
Less Treasury shares (523) (520)
-------- -------- ------- ------- ------------ -------
Total 5,142 2,617 5,665 5,151 2,599 5,671
======== ======== ======= ======= ============ =======
STOCKHOLDERS' EQUITY
Common $ 32,532 $ 32,532 $32,532 $29,260 $ 29,260 $29,260
Warrants 5,346 5,346 5,346 5,346
Options 3,360 3,360 3,444 3,444
Less Treasury shares (2) (5,298) (2,655)
-------- -------- ------- ------- ------------ -------
Total $ 35,940 $ 32,532 $41,238 $35,395 $ 29,260 $38,050
======== ======== ======= ======= ============ =======
NET EARNINGS (LOSS)
Net earnings for the period $ 1,357 $ 2,561
Partial reduction in interest expense (1) 102 184
Preferred stock dividends (602) (615)
-------- -------
Adjusted earnings available
for Common $ 852 $ 2,130
======== =======
BOOK VALUE PER SHARE $ 6.99 $ 12.43 $ 7.28 $ 6.87 $ 11.26 $ 6.71
======== ======== ======= ======= ============ =======
EARNINGS PER SHARE $ 0.17 $ 0.29 $ 0.13 $ 0.41 $ 0.75 $ 0.34
======== ======== ======= ======= ============ =======
</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. The partial
reduction in interest expense of $104,000 and $184,000 for the three
months ended March 31, 1997 and 1996, respectively, represents the
proforma reduction in interest expense as a result of the proforma
reduction in the outstanding balance of Senior Notes.
(2) Treasury shares were assumed to be repurchased at the average closing
stock price for the respective periods.
9
<PAGE> 10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
For the three months ended March 31, 1997, the Company reported net
earnings of $1.4 million, or $0.17 per share, compared with net earnings of $2.6
million, or $0.41 per share for the same period in 1996. Results for both
quarters are calculated using the Modified Treasury Stock Method which result in
outstanding shares of 5.1 million and 5.2 million during the three months ended
March 31, 1997 and 1996, respectively. The earnings per share amounts have been
appropriately adjusted for the Company's preferred stock dividends.
The Bank maintained core and risk-based regulatory capital ratios of
6.67% and 11.11%, respectively, at March 31, 1997, which are in excess of the
regulatory minimums which define a "well capitalized" institution. Total assets
at March 31, 1997 were $838 million, as compared with $847 million at December
31, 1996.
Pretax earnings from the Company's core operations continued to
increase during the March 1997 quarter, reaching their highest level since
mid-1993. Core earnings are earnings after loan loss provisions and before
interest on parent company indebtedness, income taxes and nonrecurring items.
For the three-month periods ended March 31, 1997, December 31, 1996 and March
31, 1996, core earnings were $1.3 million, $1.2 million and $0.4 million,
respectively, which amounts include loan loss provisions of $1.5 million, $1.0
million and $1.2 million, respectively.
During the March 1997 quarter, the Company's net interest margin was
3.43% on average interest-earning assets of $800 million. For the December 1996
and March 1996 quarters, the Company's net interest margin and average
interest-earning assets were 3.44% and $833 million, and 2.95% and $731 million,
respectively. In December 1996, the Company sold approximately $60 million of
loans, realizing a modest gain thereon. Though the proceeds from these loan
sales had been reinvested in loans and securities by March 31, 1997, the results
for the first quarter of 1997 were modestly impacted because such funds were not
fully reinvested for the entire quarter.
For the March 1997 quarter, real estate operations produced no net cost
to the Company. For the December 1996 quarter, real estate operations produced
a net cost of $0.4 million and such activities resulted in net revenues of $0.4
million for the March 1996 quarter.
During the first quarter of 1997, the Company increased its deferred
tax asset to $4.9 million by recording additional income tax benefits of $0.7
million.
OPERATING RESULTS
INTEREST MARGIN
The Company's net interest margin, or the difference between the
interest earned on loans and investment securities and the cost of deposits and
borrowings, is 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 maturity of the Company's adjustable-rate
and fixed-rate loans and short-term investment securities and its deposits and
borrowings, (3) the relationship between market interest rates and local deposit
rates offered by competing institutions, and (4) 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 the three months ended March 31, 1997 and
1996. In the table, interest revenues are net of interest associated with
nonaccrual loans (dollars are in thousands).
10
<PAGE> 11
<TABLE>
<CAPTION>
THREE MONTHS ENDED
------------------------------------------------------------------------------
MARCH 31, 1997 MARCH 31, 1996
-------------------------------------- ------------------------------------
AVERAGE REVENUES/ YIELD/ AVERAGE REVENUES/ YIELD/
BALANCE COSTS COST BALANCE COSTS COST
-------- -------- ------ -------- --------- ------
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Interest-earning assets
Loans $688,597 $ 15,506 9.01% $649,251 $13,733 8.46%
Cash and cash equivalents 58,945 738 5.01% 56,820 760 5.35%
Investment securities 45,315 653 5.76% 18,176 227 5.00%
Investment in capital stock of
Federal Home Loan Bank 6,847 110 6.43% 6,407 81 5.06%
-------- -------- -------- -------
Total interest-earning assets 799,704 17,007 8.51% 730,654 14,801 8.10%
-------- ----- ------- -----
Noninterest-earning assets 31,064 35,636
-------- --------
Total assets $830,768 $766,290
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-bearing liabilities
Deposits $705,507 8,892 5.11% $707,562 8,938 5.08%
Short-term borrowings 51,935 780 6.09%
Senior notes 12,345 483 15.87% 12,049 471 15.85%
-------- -------- -------- -------
Total interest-bearing liabilities 769,787 10,155 5.35% 719,611 9,409 5.26%
-------- ----- ------- -----
Noninterest-bearing liabilities 17,065 6,445
Stockholders' equity 43,916 40,234
-------- --------
Total liabilities & stockholders' equity $830,768 $766,290
======== ========
Net interest income $ 6,852 $ 5,392
======== =======
Interest rate spread 3.16% 2.84%
===== =====
Net interest margin 3.43% 2.95%
===== =====
</TABLE>
The table below summarizes the components of the changes in the
Company's interest revenues and costs for the three months ended March 31, 1997
and 1996 (dollars are in thousands).
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31, 1997 AND 1996
INCREASE (DECREASE) DUE TO CHANGE IN
-------------------------------------------------
RATE AND NET
VOLUME RATE VOLUME(1) CHANGE
------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
INTEREST REVENUES
Loans (2) $ 832 $ 887 $ 54 $ 1,773
Cash and cash equivalents 28 (49) (1) (22)
Investment securities 339 35 52 426
Investment in capital stock of
Federal Home Loan Bank 6 22 1 29
------- ------- ------- -------
1,205 895 106 2,206
------- ------- ------- -------
INTEREST COSTS
Deposits (26) (20) (46)
Short-term borrowings 780 780
Senior notes 12 12
------- ------- ------- -------
766 (20) -- 746
------- ------- ------- -------
NET INTEREST INCOME $ 439 $ 915 $ 106 $ 1,460
======= ======= ======= =======
</TABLE>
- ----------
(1) Calculated by multiplying change in rate by change in volume.
(2) Interest on loans is net of interest on nonaccrual loans and includes
amortization of loan fees and discounts.
11
<PAGE> 12
Net interest income increased by $1.5 million during the three months
ended March 31, 1997, as compared to the three months ended March 31, 1996. This
increase was primarily attributable to increases in interest income as a result
of increases in the average balance and weighted average rate on loans and, to a
lesser extent, investment securities, which more than offset an increase in
interest costs, primarily as a result of an increase in the average balance of
borrowings by the Company.
The Company's net interest margin, expressed as a percentage of
interest-earning assets, increased from 2.95% to 3.43% during the three months
ended March 31, 1996 and 1997, respectively. The Company's interest rate spread
increased from 2.84% to 3.16% during the three months ended March 31, 1996 and
1997, respectively, primarily as a result of an increase in the weighted average
yield on loans from 8.46% to 9.01% during these respective periods. During the
three months ended March 31, 1997, the Company originated $74.1 million of new
permanent and construction loan commitments with a weighted average interest
rate of 9.68% at origination. By comparison, new permanent and construction loan
commitments during the three months ended March 31, 1996, were $64.8 million
and carried a weighted average interest rate at origination of 9.98%.
PROVISIONS FOR ESTIMATED CREDIT LOSSES ON LOANS
For the three months ended March 31, 1997, the Company recorded credit
loss provisions of $1.5 million, compared with provisions of $1.2 million
recorded during the three months ended March 31, 1996. At March 31, 1997,
nonperforming assets and performing loans classified "Substandard", "Doubtful"
or "Loss" totaled $90.6 million compared with $87.9 million at March 31, 1996.
Within these totals, the net carrying value of real estate owned totaled $21.0
million and $26.0 million, respectively, at March 31, 1997 and 1996. Loans
delinquent 30 to 89 days, which the Company places on nonaccrual status as a
matter of policy, declined to $5.1 million at March 31, 1997, from $10.1 million
at December 31, 1996 and $12.8 million at March 31, 1996.
The magnitude of the Company's nonperforming asset and classified
performing loan portfolios remains substantially above peer levels and
represents a significant portion of the Company's assets. These portfolios
adversely affect the Company's operating results, through a combination of
funding and management costs and incremental loss provisions. Further, these
assets expose the Company to the potential for additional losses to the extent
that borrowers are unable to make their payments to the Company, requiring the
Company to pursue foreclosure of its collateral. As a result, management
continues to diligently manage this portfolio of troubled assets and to measure
in a timely fashion adverse portfolio migration trends and the adequacy of the
Company's reserves for future credit losses.
NONINTEREST REVENUES
The table below sets forth the Company's non-interest revenues for the
periods indicated (dollars are in thousands).
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
---------------------------
1997 1996 CHANGE
---- ---- ------
<S> <C> <C> <C>
Other loan and escrow fees $466 $268 $ 198
Deposit account fees 148 161 (13)
Other revenues 118 11 107
---- ---- -----
$732 $440 $ 292
==== ==== =====
</TABLE>
Other loan and escrow fees in 1997 were higher than in 1996 due
primarily to increased loan production and loan prepayments. Other revenues were
higher in 1997 than in 1996 due primarily to fees collected from the Company's
check processor, pursuant to its servicing arrangement with the Company.
12
<PAGE> 13
NONINTEREST EXPENSES
The table below details the Company's operating costs for the periods
indicated (dollars are in thousands).
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
------------------------------
1997 1996 CHANGE
------ ------ ------
<S> <C> <C> <C>
Employee $2,769 $2,294 $ 475
Operating 1,054 1,049 5
Occupancy 754 723 31
SAIF insurance premium
and OTS assessment 372 585 (213)
Professional 348 448 (100)
Goodwill 12 (12)
====== ====== =====
$5,297 $5,111 $ 186
====== ====== =====
</TABLE>
By the end of 1996, the Company had completed all of the hiring
necessary to fully staff its various lending groups. These additional resources
are necessary to meet the higher-than-expected demand for the Company's
financing products. During 1996, the Company also expanded its investment in
community-based organizations focused on attracting mortgage credit and other
banking services. These increases in expenses are partially offset by the
decline in the SAIF insurance premium as a result of the Company's improved
financial condition and the special FDIC SAIF assessment paid in 1996.
REAL ESTATE OPERATIONS
The table below sets forth the revenues and costs attributable to the
Company's real estate owned for the periods indicated. The compensatory and
legal costs directly associated with the Company's property management and
disposal operations are included in the table above in NONINTEREST EXPENSES
(dollars are in thousands).
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
------------------------------
1997 1996 CHANGE
----- ----- ------
<S> <C> <C> <C>
EXPENSES ASSOCIATED WITH
REAL ESTATE OWNED
Property taxes $ (21) $ (41) $ 20
Repairs, maintenance and renovation (13) (41) 28
Insurance (44) (36) (8)
----- ----- -----
(78) (118) 40
NET RECOVERIES FROM SALE
OF PROPERTIES 24 744 (720)
PROPERTY OPERATIONS, NET 74 515 (441)
PROVISION FOR ESTIMATED LOSSES ON
REAL ESTATE OWNED (700) 700
----- ----- -----
$ 20 $ 441 $(421)
===== ===== =====
</TABLE>
The costs included in the table above (and, therefore, excluded from
operating costs (see NONINTEREST EXPENSES)), reflect holding costs directly
attributable to the portfolio of real estate owned.
Net recoveries from property sales represent the difference between the
proceeds received from property disposal and the carrying value of such
properties upon disposal. During the three months ended March 31, 1997 and March
31, 1996, the Company sold 40 properties generating net cash proceeds of $5.7
million and sold 51 properties generating net cash proceeds of $10.8 million,
respectively.
13
<PAGE> 14
Property operations principally include the net operating income
(collected rental revenues less operating expenses and certain renovation costs)
from foreclosed apartment buildings or receipt, following foreclosure, of
similar funds held by receivers during the period the original loan was in
default. The decline in income from this source during the March 1997 quarter
was a result of a decline in the number of apartment buildings held by the
Company.
OTHER NON-OPERATING REVENUES AND EXPENSES
Other non-operating revenues and expenses include gain and loss on sale
of loans and other revenues and expenses. For the three months ended March 31,
1997, other non-operating revenues and expenses included $13,000 of additional
expenses relating to loans sold in December 1996. For the three months ended
March 31, 1996, other non-operating revenues included legal recoveries of $0.2
million and a gain of $0.2 million on the sale of $32.7 million in loans.
INCOME TAXES
The Company recorded an income tax benefit of $0.7 million and $2.3
million for the three months ended March 31, 1997 and 1996, respectively. At
March 31, 1997, the Company had approximately $16.4 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
under GAAP 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. 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.
FINANCIAL CONDITION, CAPITAL RESOURCES & LIQUIDITY AND ASSET QUALITY
ASSETS
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 to cover daily inclearings, wire activities and other
charges. Cash and cash equivalents at March 31, 1997, were $16.0 million, a
decrease from $94.0 million at December 31, 1996. This decrease in cash balances
during the quarter resulted from the deployment of excess cash on hand at
December 31, 1996 into securities and loans.
14
<PAGE> 15
INVESTMENT SECURITIES
During the three months ended March 31, 1997, 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
reverse 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.
The cost basis and estimated fair value of investment securities
available-for-sale are summarized as follows (dollars are in thousands):
<TABLE>
<CAPTION>
MARCH 31, 1997
---------------------------------------------
GROSS UNREALIZED ESTIMATED
AMORTIZED ----------------- FAIR
COST GAINS LOSSES VALUE
------- ---- ------- -------
<S> <C> <C> <C> <C>
U.S. Government $38,462 $ -- $ 328 $38,134
U.S. Government Agency 40,000 501 39,499
------- ---- ------- -------
$78,462 $ -- $ 829 $77,633
======= ==== ======= =======
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, 1996
---------------------------------------------
GROSS UNREALIZED ESTIMATED
AMORTIZED ----------------- FAIR
COST GAINS LOSSES VALUE
------- ---- ------- -------
<S> <C> <C> <C> <C>
U.S. Government $38,503 $ - $ 132 $38,371
======= ==== ======= =======
</TABLE>
The cost basis and estimated fair value of investment securities
available-for-sale at March 31, 1997, are summarized by contractual maturity as
follows (dollars are in thousands):
<TABLE>
<CAPTION>
ESTIMATED
FAIR
COST BASIS VALUE YIELD
------- ------- -----
<S> <C> <C> <C>
Due in less than one year $ 1,603 $ 1,599 5.23%
Due in one year through five years 36,859 36,535 5.61%
Due in more than five years 40,000 39,499 7.00%
------- -------
$78,462 $77,633 6.31%
======= =======
</TABLE>
15
<PAGE> 16
LOANS
GENERAL
The two tables that follow set forth the composition of the Company's
loan portfolio, and the percentage of 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>
MARCH 31, 1997 DECEMBER 31, 1996
----------------------- -----------------------
BALANCE PERCENT BALANCE PERCENT
--------- ------- --------- -------
<S> <C> <C> <C> <C>
PERMANENT LOANS
Single family (1-4 units)
Estate $ 125,656 16.3% $ 107,891 14.6%
Conventional 167,604 21.7% 170,038 23.0%
Project concentrations 59,568 7.7% 61,268 8.3%
Multi-family (five or more units) 223,439 28.9% 220,707 29.6%
Commercial real estate 70,973 9.2% 60,388 8.2%
Land 14,036 1.8% 14,513 2.0%
RESIDENTIAL CONSTRUCTION
Single family 67,005 8.7% 56,306 7.6%
Tract development 35,270 4.6% 33,791 4.6%
OTHER 8,454 1.1% 15,684 2.1%
--------- ----- --------- -----
GROSS LOANS RECEIVABLE 772,005 100.0% 740,586 100.0%
===== =====
LESS
Participants' share (3,801) (1,413)
Undisbursed loan funds (47,435) (46,646)
Deferred loan fees and
credits, net (8,887) (6,611)
Allowance for estimated losses (13,657) (13,515)
--------- ---------
NET LOANS RECEIVABLE $ 698,225 $ 672,401
========= =========
</TABLE>
<TABLE>
<CAPTION>
MARCH 31, 1997
------------------------------------
POST-1994 PRE-1995 TOTAL
-------- -------- --------
<S> <C> <C> <C>
PERMANENT
Single family (1-4 units)
Estate $125,656 $ -- $125,656
Conventional 32,344 135,260 167,604
Project concentrations 1,922 57,646 59,568
Multi-family (five or more units) 94,328 129,111 223,439
Commercial real estate 63,813 7,160 70,973
Land 12,641 1,395 14,036
RESIDENTIAL CONSTRUCTION
Single family (1-4) 67,005 67,005
Tract development 35,270 35,270
OTHER 8,440 14 8,454
-------- -------- --------
GROSS LOANS RECEIVABLE $441,419 $330,586 $772,005
======== ======== ========
</TABLE>
16
<PAGE> 17
The Company's loan portfolio is predominantly concentrated in Southern
California real estate. At March 31, 1997, 46% of the Company's loan portfolio
consisted of permanent loans secured by single family residences, 29% consisted
of permanent loans secured by multi-unit residential properties, and 25%
consisted of loans to finance commercial properties, the acquisition of land and
construction.
The table below sets forth the composition of the Company's new loan
commitments for the period indicated (dollars are in thousands).
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED
MARCH 31, 1997
--------------------------
TYPE OF SECURITY AMOUNT %
- ----------------------------------- ------- -----
<S> <C> <C> <C>
Single family homes (1-4 units)
Estate (1) $19,900 26.8%
Conventional 3,300 4.5
Multi-family (five or more units) (2) 9,400 12.7
Commercial 20,000 27.0
Construction and land (commitments) 19,900 26.6
Other 1,600 2.2
------- -----
$74,100 100.0%
======= =====
</TABLE>
- ----------
(1) Generally defined as individual loans with principal balances of more
than $1.0 million. This amount includes unfunded commitments under
lines of credit of $1.7 million.
(2) Includes $1.9 million of financings provided in connection with sales
of previously foreclosed properties.
17
<PAGE> 18
ASSET QUALITY
At March 31, 1997, nonperforming assets totaled $41.2 million, or 4.9%
of total assets, and consisted of real estate owned, net ($21.0 million) and
loan principal three or more payments past due ($20.2 million). At December 31,
1996 and March 31, 1996, nonperforming assets were $36.8 million (4.3% of total
assets) and $39.2 million (5.1% of total assets), respectively. During the March
1997 quarter, two loans secured by estate homes and with an aggregate principal
of $4.1 million became 90 or more days past due. These delinquencies caused the
ratio of the allowance for credit losses to nonperforming loans to decrease to
67.39% at March 31, 1997 from 81.21% at December 31, 1996. Based in part on
current, independent appraisals of the collateral securing these two loans, the
Company believes that losses, if any, which may result from foreclosure and
liquidation of the Company's collateral would not be material. Immediately
following the end of the March 1997 quarter, the Company completed the all-cash
sale of one property, carried at $3.8 million and sold for $4.0 million, and
received full reinstatement of one delinquent loan, with principal of $1.0
million which was more than 90 days past due at the end of March. Had these
post-quarter-end events been accomplished during the March 1997 quarter, the
Company's ratio of nonperforming assets to total assets would have remained
unchanged at March 31, 1997 from the ratio at the end of 1996.
Loans delinquent 30 to 89 days, which the Company places on nonaccrual
status as a matter of policy, declined to $5.1 million at March 31, 1997, from
$10.1 million at December 31, 1996 and $12.8 million at March 31, 1996.
Total nonaccruing assets were $47.7 million at March 31, 1997 ($42.9
million after giving effect to the post-March resolutions described above), as
compared with $48.8 million at December 31, 1996 and $53.6 million at March 31,
1996. This trend is consistent with the Company's current and improving asset
migration measures.
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 Company 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.
18
<PAGE> 19
The table below sets forth the composition of the Company's classified
assets at the dates indicated. Classified assets include owned properties,
nonaccrual loans and performing loans which have been adversely classified
pursuant to OTS regulations and guidelines ("Performing/Classified" loans)
(dollars are in thousands).
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31, MARCH 31,
1997 1996 1996
--------- ------------ ---------
<S> <C> <C> <C>
PROPERTIES, NET OF RESERVES $ 20,977 $ 20,140 $ 25,960
NONPERFORMING LOANS (1) 20,266 16,643 13,217
-------- -------- --------
GROSS NONPERFORMING ASSETS 41,243 36,783 39,177
OTHER DELINQUENT LOANS (2) 5,119 10,082 12,810
PERFORMING LOANS CLASSIFIED LOSS,
DOUBTFUL AND SUBSTANDARD (3) 49,370 46,987 48,770
-------- -------- --------
GROSS CLASSIFIED ASSETS $ 95,732 $ 93,852 $100,757
======== ======== ========
GROSS CLASSIFIED LOANS (4) (5) $ 74,755 $ 73,712 $ 74,797
======== ======== ========
LOANS RECEIVABLE (6) $711,882 $685,916 $629,225
======== ======== ========
RESERVES ON LOANS
Specific $ 2,886 $ 2,185 $ 3,729
General 10,771 11,330 11,624
-------- -------- --------
$ 13,657 $ 13,515 $ 15,353
======== ======== ========
TOTAL RESERVES TO LOANS RECEIVABLE 1.9% 2.0% 2.4%
TOTAL RESERVES TO CLASSIFIED LOANS 18.3% 18.3% 20.5%
TOTAL RESERVES TO NONPERFORMING LOANS 67.4% 81.2% 116.2%
GROSS NONPERFORMING ASSETS TO TOTAL ASSETS 4.9% 4.3% 5.1%
</TABLE>
- ----------
(1) Loans 90 days or more past due. All such loans are on nonaccrual
status.
(2) Loans 30 to 89 days past due. All such loans are on nonaccrual status.
(3) Includes $1.3 million, $1.9 million and $1.6 million of performing
loans on nonaccrual status at March 31, 1997, December 31, 1996 and
March 31, 1996, respectively.
(4) Includes $26.7 million, $28.6 million and $27.6 million of nonaccrual
loans at March 31, 1997, December 31, 1996 and March 31, 1996,
respectively.
(5) At March 31, 1997, included $52.3 million of loans originated prior to
1995.
(6) Net loans receivable are exclusive of the allowance for loan losses.
The Company places loans on nonaccrual status when (1) they become one
or more payments delinquent or (2) management believes that, with respect to
performing loans, continued collection of principal and interest from the
borrower is not reasonably assured.
The carrying value of nonperforming assets (i.e., real estate owned and
loans delinquent three or more payments) increased to $41.2 million, or 4.9% of
total assets, at March 31, 1997, from $36.8 million, or 4.3% of total assets, at
December 31, 1996, and $39.2 million, or 5.1% of total assets, at March 31,
1996. The carrying value of nonperforming assets peaked at more than $151.2
million in December 1993. As described above, the Company places any loan
delinquent one or more payments on nonaccrual status and includes such amounts
as loans in default for reporting purposes. At March 31, 1997, December 31, 1996
and March 31, 1996, the Company also had placed on nonaccrual status performing
loans amounting to $1.3 million, $1.9 million and $1.6 million, respectively.
19
<PAGE> 20
The table below shows the Company's gross classified loan portfolio as
of March 31, 1997 (dollars are in thousands).
<TABLE>
<CAPTION>
CLASSIFIED LOANS
----------------------------------------------
OTHER PERFORMING
NON-PERFORMING DELINQUENCIES LOANS TOTAL
-------------- ------------- ---------- -------
<S> <C> <C> <C> <C>
Single family (1-4 units)
Estate $ 6,959 $ 2,170 $ -- $ 9,129
Conventional 4,680 1,453 7,762 13,895
Project concentrations 5,855 1,496 9,910 17,261
Multi-family (five or more units) 2,716 23,612 26,328
Commercial real estate 2,572 2,572
Land 43 43
Residential construction
Tract development 1,762 1,762
Other collateralized loans 13 3,752 3,765
------- ------- ------- -------
Gross Loans Receivable $20,266 $ 5,119 $49,370 $74,755
======= ======= ======= =======
</TABLE>
ESTATE
At March 31, 1997, six Estate loans were delinquent one or more
payments. Subsequent to March 31, 1997, the delinquencies with respect to two
loans, representing loan principal of $3.2 million, were cured through (1) cash
collected from the borrower (loan principal of $1.0 million), and (2)
liquidation of the Company's collateral by the borrower and payment to the
Company of all amounts owned (loan principal of $2.2 million).
CONVENTIONAL
In the preceding table, conventional single family homes consist of
defaulted and performing/classified loans secured by single family homes which
are not part of an integrated development with respect to which the Company
financed the construction of the development or financed the purchase of homes
from the developer by individuals. At March 31, 1997, the Company (1) owned 11
homes which were being actively marketed for sale, (2) had 30 defaulted loans
secured by single family conventional homes, and (3) had 32 loans which were
performing but had been classified "Substandard".
PROJECT CONCENTRATIONS
Prior to 1994, 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
conforming or conventional single family home loans.
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 stated purchase price paid by the Company's
borrowers, the performance of this portfolio has been extremely poor.
At March 31, 1997, the Company's aggregate investment in its portfolio
of project concentrations (loan principal plus related real estate owned before
reserves) consisted of 50 separate project concentrations totaling
20
<PAGE> 21
$66.1 million. This represents a decrease from its peak in early 1994 of $30.4
million, or 32%, principally as the result of foreclosure of the Company's
collateral, sales of foreclosed units and the acceptance of discounted payments
from borrowers on several loans. At March 31, 1997, the Company owned 73
foreclosed units and 31 loans, representing $7.4 million of loan principal,
were delinquent one or more payments.
APARTMENT BUILDINGS
At March 31, 1997, the Company owned five apartment buildings, and
loans secured by six apartment buildings were delinquent one or more payments.
The Company's foreclosed inventory and its defaulted loan collateral are
predominantly located in the South Bay region of Los Angeles, are between five
and ten years old and average less than 15 units in size, except for one
building with 248 units, which had a carrying value of $3.8 million at March 31,
1997, and which was sold for $4.0 million in an all-cash transaction.
COMMERCIAL
At March 31, 1997, the Company owned one commercial property and had
one loan which was performing but had been classified "Substandard".
RESIDENTIAL CONSTRUCTION
At March 31, 1997, the Company maintained investments in two
residential construction developments previously acquired through foreclosure.
One project, which represents 100 units in total, currently is in the final
completion stage of construction on the final 18 units, the majority of which
are in escrow to close in the second half of this year. The second project
represents 40 units, all of which have been completed and are being marketed for
sale. Approximately one half of the units have been sold or are in escrow.
LAND
At March 31, 1997, the Company's portfolio of owned land parcels
consisted of two properties with a net carrying value of $1.3 million.
OTHER COLLATERALIZED LOANS
At March 31, 1997, the Company had two other collateralized loans which
were performing but classified as "Substandard". These loans provided the
financing for the acquisition of pools of notes.
CREDIT LOSSES
The Company maintains reserves against specific assets in those
instances in which it believes that full recovery of the Company's gross
investment is unlikely. As of March 31, 1997, the Company had established
specific reserves based upon (1) management's strategy in managing and disposing
of the asset and the corresponding financial
21
<PAGE> 22
consequences, (2) current indications of property values from (a) completed,
recent sales from the Company's property portfolio, (b) real estate brokers, and
(c) potential buyers of the Company's properties, and (3) current property
appraisals. In addition, management establishes general valuation allowances
("GVA") against its loan and property portfolios when sufficient information
does not exist to support establishing specific reserves. The loss factors
utilized to establish general reserves are based upon (1) the actual loss
experience for similar loans and properties within the Company's portfolio, when
such loss experience is available and representative of the assets being valued,
or (2) estimates of current liquidation values for collateral securing
performing loans for a representative sampling of each portfolio segment.
The table below sets forth the amounts and percentages of general and
specific reserves for the Company's loan and property portfolios as of March 31,
1997 (dollars are in thousands).
<TABLE>
<CAPTION>
LOANS
------------------------
PERFORMING DELINQUENT PROPERTIES TOTAL
---------- ---------- ---------- -------
<S> <C> <C> <C> <C>
AMOUNTS
Specific reserves $ 523 $ 2,363 $ 9,250 $12,136
General reserves 9,073 1,698 409 11,180
------- ------- ------- -------
Total reserves for estimated losses $ 9,596 $ 4,061 $ 9,659 $23,316
======= ======= ======= =======
PERCENTAGES
% of total reserves to gross investment 1.4% 16.0% 31.5% 3.1%
% of general reserves to gross investment 1.3% 6.7% 1.3% 1.5%
</TABLE>
The table below summarizes the activity of the Company's reserves for
the periods indicated (dollars are in thousands).
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
--------------------------
1997 1996
--------- ---------
<S> <C> <C>
LOANS
Average loans outstanding $ 688,597 $ 654,259
========= =========
Reserve balance at beginning of period $ 13,515 $ 15,192
Provision for estimated losses 1,500 1,200
Charge-offs:
Permanent loans
Single family (1-4 units) (413) (667)
Multi-family (five or more units) (515) (582)
Land (150)
--------- ---------
Net charge-offs (1,078) (1,249)
Transfer (to) from property and other reserves (280) 210
--------- ---------
Balance at end of period $ 13,657 $ 15,353
========= =========
Ratio of net charge-offs to average loans outstanding
during the period 0.16% 0.19%
PROPERTIES
Reserve balance at beginning of period $ 11,871 $ 15,725
Provision for estimated losses 700
Transfers from (to) loan reserves 280 (210)
Charge-offs (2,492) (3,898)
--------- ---------
Balance at end of period $ 9,659 $ 12,317
========= =========
</TABLE>
22
<PAGE> 23
Because the Company's loan and property portfolios are not homogeneous,
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 below summarizes credit
loss reserves at the date indicated (dollars are in thousands).
<TABLE>
<CAPTION>
MARCH 31, 1997
----------------------------------------------
% OF % OF
LOANS ASSET TYPE PROPERTIES ASSET TYPE
------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
PERMANENT
Single family residences (1-4 units)
Estate $ 521 0.4% $ 0.0%
Conventional 1,868 1.1% 249 12.3%
Project concentrations 4,842 8.1% 1,995 30.6%
Multi-family (five or more units) 4,045 1.8% 189 3.8%
Commercial real estate 1,340 1.9% 154 44.4%
Land 91 0.7% 1,076 45.7%
CONSTRUCTION
Single family 340 0.5%
Tract development 610 1.7% 5,996 41.5%
------- -------
$13,657 1.8% $ 9,659 31.5%
======= =======
</TABLE>
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 real estate
owned at the dates indicated (dollars are in thousands).
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31, MARCH 31,
1997 1996 1996
--------- ------------ ---------
<S> <C> <C> <C>
SINGLE FAMILY RESIDENCES
Conventional $ 2,028 $ 2,660 $ 4,366
Project concentrations 6,518 7,117 5,778
MULTI-FAMILY (FIVE OR MORE UNITS) 4,945 3,215 10,940
CONSTRUCTION (TRACT DEVELOPMENTS) 14,446 16,156 15,238
LAND 2,352 2,517 1,609
COMMERCIAL 347 346 346
-------- -------- --------
GROSS INVESTMENT (1) 30,636 32,011 38,277
ALLOWANCE FOR ESTIMATED LOSSES (9,659) (11,871) (12,317)
-------- -------- --------
NET INVESTMENT $ 20,977 $ 20,140 $ 25,960
======== ======== ========
</TABLE>
- ----------
(1) Loan principal at foreclosure, plus post-foreclosure capitalized costs,
less cumulative charge-offs.
23
<PAGE> 24
OFFICE PROPERTY AND EQUIPMENT
At March 31, 1997, the Company's office property and equipment of $4.5
million was down from $4.7 million at December 31, 1996. The decrease was
primarily due to normal depreciation.
LIABILITIES
GENERAL
The Company derives funds principally from deposits and, to a lesser
extent, from borrowings from the FHLB. In addition, recurring cash flows are
generated from loan repayments and payoffs and, since late 1993, from sales of
foreclosed properties. In addition to the Company's recurring sources of funds,
the Company has generated funds by identifying certain of its securities and
seasoned real estate loans as available-for-sale, and selling such assets in the
open market.
DEPOSITS
Total deposits at March 31, 1997, were $708.1 million, a decrease from
$717.8 million at December 31, 1996.
The table below summarizes the balances, weighted average interest
rates ("WAIR") and weighted average remaining maturities in months ("WARM") for
the Company's deposits at the dates indicated (dollars are in thousands).
<TABLE>
<CAPTION>
MARCH 31, 1997 DECEMBER 31, 1996
---------------------------- --------------------------
DESCRIPTION BALANCE WAIR WARM BALANCE WAIR WARM
- ------------------------ -------- ---- ---- -------- ---- ----
<S> <C> <C> <C> <C> <C> <C>
Transaction accounts $ 72,835 1.51% $ 70,560 1.34%
Certificates of deposit
7 day maturities 57,624 4.55% 58,212 4.44%
Less than 6 months 90,281 5.38% 3 58,121 5.29% 3
6 months to 1 year 310,302 5.66% 5 345,938 5.57% 5
1 year to 2 years 146,475 5.71% 13 148,886 5.80% 14
Greater than 2 years 30,596 5.84% 12 36,092 5.86% 13
-------- ---- ---- -------- ---- ----
Total $708,113 5.13% 6 $717,809 5.10% 6
======== ==== ==== ======== ==== ====
</TABLE>
BORROWINGS
A primary alternative funding source for the Company is a credit line
through the FHLB with a maximum advance of up to 35% of total assets (of which
25% may be secured by mortgage collateral and 10% may be secured by securities).
The FHLB system functions as a source of credit to savings institutions which
are members of a Federal Home Loan Bank System. Advances are typically secured
by the Company's mortgage 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 considers a
member's creditworthiness and other relevant factors.
24
<PAGE> 25
The balance and rate of the Company's FHLB advances at March 31, 1997,
are summarized as follows (dollars are in thousands).
<TABLE>
<CAPTION>
TERM PRINCIPAL RATE
---------- --------- ----
<S> <C> <C>
3 Months $15,000 5.64%
9 Months 25,000 5.99%
12 Months 25,000 6.24%
------- ----
$65,000 6.01%
======= ====
</TABLE>
Of the $65.0 million in advances, $15.0 million was securitized by
securities and $50.0 million was securitized by mortgage collateral.
SENIOR NOTES
The Company has Senior Notes, which have a face amount of $13.5
million, and an amortized book value of $12.4 million at March 31, 1997. The
Senior Notes carry an annual stated interest rate of 12% and have an annual
effective rate of approximately 16.5%, after the recording of original issue
discount ("OID") of $1.5 million. The OID is accreted using the constant yield
method over the five year term of the Senior Notes. Interest, which is required
to be paid semi-annually at the stated interest rate, was prefunded for
three years out of the proceeds of the Company's recapitalization in December
1995. This prefunded interest of $4.9 million was invested in U.S. Government
securities. Thereafter, interest will be payable either in cash or, in certain
circumstances as permitted by the relevant agreement, in an equivalent value
(determined in accordance with the provisions of the relevant agreement) of
common stock of the Company.
CAPITAL
On a parent-only basis, the Company's capital structure is comprised of
common stockholders' equity and an aggregate of $27 million in Senior Notes and
Cumulative Perpetual Preferred Stock with an annual dividend rate of 18%. For
the quarter ended March 31, 1997, interest expense on the Senior Notes was $0.5
million, and accrued but unpaid dividends on the Cumulative Perpetual Preferred
Stock was $0.6 million. Other parent company costs totaled $0.2 million in the
period.
The Financial Institutions Reform, Recovery and Enforcement Act of 1989
("FIRREA") and the capital regulations of the OTS thereunder require the Bank to
maintain (1) Tangible Capital of at least 1.5% of Adjusted Total Assets (as
defined in the regulations); (2) Core Capital of at least 3.0% of Adjusted Total
Assets (as defined in the regulations); and (3) Total Risk-based Capital of at
least 8.0% of Total Risk-weighted Assets (as defined in the regulations).
25
<PAGE> 26
The following table summarizes the regulatory capital requirements
under FIRREA for the Bank at March 31, 1997. As indicated in the table, the
Bank's capital levels exceed all three of the currently applicable minimum
FIRREA capital requirements (dollars are in thousands).
<TABLE>
<CAPTION>
TANGIBLE CAPITAL(2) CORE CAPITAL(2) RISK-BASED CAPITAL
------------------- ------------------ -------------------
BALANCE % BALANCE % BALANCE %
-------- ----- -------- ----- -------- -----
<S> <C> <C> <C> <C> <C> <C>
Stockholders' equity $ 54,857 $ 54,857 $ 54,857
Adjustments
General valuation allowances 7,110
Unrealized (gains) losses, net 806 806 806
-------- ----- -------- ----- -------- -----
Regulatory capital 55,663 6.67% 55,663 6.67% 62,773 11.11%
Required minimum 12,516 1.50% 25,032 3.00% 45,212 8.00%
-------- ----- -------- ----- -------- -----
Excess capital $ 43,147 5.17% $ 30,631 3.67% $ 17,561 3.11%
======== ===== ======== ===== ======== =====
Adjusted assets (1) $834,385 $834,385 $565,149
======== ======== ========
</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 risk-based capital
requirements, refers to the term "risk-weighted assets" as defined in
12 C.F.R. Section 567.1(bb).
(2) The tangible and core capital ratios were 6.27% at December 31, 1996.
As of March 31, 1997 and December 31, 1996, 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 (dollars
are in thousands).
<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 MARCH 31, 1997
Total Capital
(to Risk Weighted Assets) $62,773 11.11% $45,212 8.00% $56,515 10.00%
Tier 1 Capital
(to Risk Weighted Assets) 55,663 9.85% 22,606 4.00% 33,909 6.00%
Tier 1 Capital
(to Average Assets) 55,663 6.70% 33,231 4.00% 41,538 5.00%
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%
</TABLE>
The OTS 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.
26
<PAGE> 27
CAPITAL RESOURCES AND LIQUIDITY
The Company's liquidity position refers to the extent to which the
Company's funding sources are sufficient to meet its current and long-term cash
requirements. Federal regulations currently require a savings institution to
maintain a monthly average daily balance of liquid and short-term liquid assets
equal to at least 5.0% and 1.0%, respectively, of the average daily balance of
its net withdrawable accounts and short-term borrowings during the preceding
calendar month. The Bank had liquidity and short-term liquidity ratios of 9.60%
and 4.95%, respectively, as of March 31, 1997, and 11.05% and 6.49%,
respectively, as of December 31, 1996.
The Company's current primary funding resources are deposit accounts,
principal payments on loans, proceeds from property sales, advances from the
FHLB and cash flows from operations. Other possible sources of liquidity
available to the Company include reverse repurchase transactions involving the
Company's investment securities, whole loan sales, commercial bank lines of
credit, and direct access, under certain conditions, to borrowings from the
Federal Reserve System. The cash needs of the Company are principally for the
payment of interest on and withdrawals of deposit accounts, the funding of
loans, operating costs and expenses, and holding and refurbishment costs on
foreclosed properties.
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, the net
interest income will generally be negatively impacted during a rising rate
environment. The speed and velocity of the repricing of assets and liabilities
will also contribute to the effects on net interest income.
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.
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
27
<PAGE> 28
the actual dynamics of prepayments and the fact that ARMs reprice at various
intervals may alter this expected benefit.
The following table sets forth information concerning sensitivity of
the Company's interest-earning assets and interest-bearing liabilities as of
March 31, 1997 (dollars are 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>
INTEREST-EARNING ASSETS
Cash and cash equivalents(1) $ 13,804 $ 100 $ -- $ -- $ -- $ 13,904
Investments and FHLB Stock 7,693 803 -- 36,535 39,500 84,531
Loans (2) 367,532 190,927 58,027 29,765 125,754 772,005
--------- --------- --------- --------- --------- ---------
Total interest-earning assets $ 389,029 $ 191,830 $ 58,027 $ 66,300 $ 165,254 $ 870,440
========= ========= ========= ========= ========= =========
INTEREST-BEARING LIABILITIES
Deposits
Demand $ 72,835 $ -- $ -- $ -- $ -- $ 72,835
CDs 207,149 133,404 204,123 90,602 -- 635,278
FHLB advances 65,000 -- -- -- -- 65,000
Senior Notes -- -- -- 12,385 -- 12,385
--------- --------- --------- --------- --------- ---------
Total interest-bearing liabilities $ 344,984 $ 133,404 $ 204,123 $ 102,987 $ -- $ 785,498
========= ========= ========= ========= ========= =========
Interest rate sensitivity gap $ 44,045 $ 58,426 $(146,096) $ (36,687) $ 165,254 $ 84,942
Cumulative interest rate
sensitivity gap 44,045 102,471 (43,625) (80,312) 84,942 84,942
Cumulative interest rate
sensitivity gap as a percentage
of total interest-earning assets 11.3% 53.4% -75.2% -121.1% 51.4% 9.8%
</TABLE>
- ----------
(1) Contractual yield, exclusive of the amortization of loan fees deferred
at origination.
(2) Loans include $26.7 million of nonaccrual loans.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
28
<PAGE> 29
PART II - OTHER INFORMATION
ITEM 1. 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 to commence before the end of
May 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.
ITEM 2. Changes in Securities - None
ITEM 3. Defaults upon Senior Securities - None
ITEM 4. Submission of Matters to a Vote of Security Holders - None
ITEM 5. Other Information - None
ITEM 6. Exhibits and Reports on Form 8-K
1. Reports on Form 8-K
The Company filed a Form 8-K on April 29, 1997, announcing
financial results for the first quarter ended March 31,
1997.
2. Other required exhibits - None
29
<PAGE> 30
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HAWTHORNE FINANCIAL CORPORATION
Dated May 15, 1997 /s/ NORMAN A. MORALES
----------------------------
Norman A. Morales
Executive Vice President and
Chief Financial Officer
Dated May 15, 1997 /s/ JESSICA VLACO
----------------------------
Jessica Vlaco
Senior Vice President and
Principal Accounting Officer
30
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1997
<PERIOD-END> MAR-31-1997
<CASH> 9,324
<INT-BEARING-DEPOSITS> 703,662
<FED-FUNDS-SOLD> 6,700
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 0
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 698,225
<ALLOWANCE> 13,657
<TOTAL-ASSETS> 837,975
<DEPOSITS> 708,113
<SHORT-TERM> 52,615
<LIABILITIES-OTHER> 8,353
<LONG-TERM> 0
0
11,592
<COMMON> 26
<OTHER-SE> 32,666
<TOTAL-LIABILITIES-AND-EQUITY> 837,975
<INTEREST-LOAN> 16,330
<INTEREST-INVEST> 1,501
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 17,831
<INTEREST-DEPOSIT> 8,892
<INTEREST-EXPENSE> 10,155
<INTEREST-INCOME-NET> 6,852
<LOAN-LOSSES> 1,500
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 5,297
<INCOME-PRETAX> 794
<INCOME-PRE-EXTRAORDINARY> 794
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,357
<EPS-PRIMARY> 0.17
<EPS-DILUTED> 0.17
<YIELD-ACTUAL> 8.51
<LOANS-NON> 26,685
<LOANS-PAST> 0
<LOANS-TROUBLED> 58,413
<LOANS-PROBLEM> 49,370
<ALLOWANCE-OPEN> 13,515
<CHARGE-OFFS> 1,078
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 13,657
<ALLOWANCE-DOMESTIC> 13,657
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
