U. S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-KSB
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31,
1999
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 For the transition period from _____
to_____
Commission file number 0-12199
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SOURCE CAPITAL CORPORATION
(Name of small business issuer in its charter)
Washington 91-0853890
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1825 N. Hutchinson Road
Spokane, Washington 99212
(Address of principal executive offices) (Zip Code)
Issuer's telephone number, including area code (509) 928-0908
Securities registered under Section 12(b) of the Exchange Act:
Title of each class Name of each exchange on which registered
NONE
Securities registered under Section 12(g) of the Act:
Common stock, no stated par value
(Title of Class)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes X No
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Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained in this form, and no disclosure will be contained, to
the best of registrants knowledge, in definitive proxy of information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [ x ]
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The issuer's revenues for its most recent fiscal year: $9,675,026.
The aggregate market value of the voting common equity held by non-affiliates as
of February 03, 2000: $5,974,225.
The number of shares outstanding of each of the issuer's classes of common
equity, as of February 03, 2000: 1,359,645.
DOCUMENTS INCORPORATED BY REFERENCE.
Portions of the registrant's Proxy Statement to be filed with the Securities and
Exchange Commission prior to April 28, 2000 pursuant to Regulation 14A of the
Securities Exchange Act of 1934 in connection with the 2000 annual meeting of
registrant's shareholders are incorporated herein by reference into part III of
this report.
Transitional Small Business Disclosure Format (check one): Yes ; No X .
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PART I
Item 1. Description of Business.
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This document contains some forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995. A forward-looking statement is
a statement which addresses activities, events, conditions or developments that
the Company expects, or anticipates may occur in the future and may contain
words such as "will continue to be," "will be," "continue to," "expect to,"
"anticipates that," "to be," or "can impact." Management cautions that
forward-looking statements are subject to risks and uncertainties that could
cause the Company's actual events, results or performance to differ materially
from those projected in forward-looking statements.
GENERAL
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Source Capital Corporation (the "Company"), was incorporated under the laws of
the State of Washington in 1969 and is headquartered in Spokane, Washington. The
Company is engaged in the business of lending, primarily through direct loans to
individuals and corporations. Generally, its loans are collateralized, in whole
or in part, by real estate or personal property.
The Company's wholly owned subsidiary, Source Capital Leasing Company, is
engaged in the business of providing lease financing for a wide array of
equipment and vehicle contracts. Leases are structured as direct financing
contracts and are generally collateralized through collateral perfection and
personal guarantees.
COMMERCIAL LENDING ACTIVITIES
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The Company presently serves the financial needs of individuals and
middle-market businesses by providing commercial real estate loans, secured
lines of credit, construction and development loans. Its market niche centers on
customers not adequately served by other financing companies or commercial
lending institutions. The Company's customers often use their equities in
existing real estate as collateral for loans made by the Company to restructure
debt, upgrade underperforming properties and make other commercial investments.
For companies unable to comply with bank covenants and for investors seeking
maximum flexibility, the Company offers credit lines in a structured borrowing
environment. The majority of loans made by the Company are primarily
collateralized by first mortgages on real estate, however the Company does take
second mortgage positions on some real estate.
Loans originated during 1999 and 1998, together with their terms and range of
interest rates are as follows:
1999 1998
---- ----
Loan Amount $31,478,419 $26,339,941
Term 1-3 years 1-5 years
Interest rate 11.25 - 13.50% 11.625 - 15.00%
The Company typically charges its borrowers loan origination fees in connection
with its commercial lending activities, thereby increasing the effective yield
recognized on the loans. In some instances, the Company purchases contracts
which may carry below market rates of interest. However, the Company discounts
the purchase price of below market rate contracts so that the yield on the
discounted contract will approximate the rates being charged on its originated
loans. Lending decisions are made by a loan committee comprised of the Chairman,
President and Executive Vice President of the Company. Loans exceeding
$1,500,000 require the approval of the Company's primary lender to be eligible
for inclusion in the Company's collateral base. Loans exceeding $3,000,000 also
require approval by the Board of Directors' loan committee. The Company
originates commercial loans that are collateralized primarily by real property.
The principal factors considered in making lending decisions are the amount of
the loan in comparison to the value of the collateral, the borrower's financial
condition and the borrower's capacity to repay the loan. The Company attempts to
minimize lending risk by limiting the total amount loaned to any one borrower.
Additionally, the Company monitors and restricts its credit exposure in specific
industries and geographic areas. The Company typically requires significant
collateral for its
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commercial and real estate loans. The average loan to value percentages of the
Company's portfolio at December 31, 1999, was estimated by management to be 51%.
In addition, one or more of the Company's loan officers personally inspect all
real estate that is offered to the Company as collateral.
For additional information concerning commercial loans, see Note 2 of Notes to
Consolidated Financial Statements (the "Consolidated Financial Statements") for
the years ended December 31, 1999 and 1998.
LEASING ACTIVITIES
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Source Capital Leasing Co. ("SCLC"), a Washington corporation and wholly owned
subsidiary of the Company, was formed in March 1997. SCLC is an independent
lessor providing direct finance leases in the small to middle markets, primarily
in the eleven most western states. SCLC provides financing of lease transactions
generally with equipment costing from $10,000 to $150,000, and terms ranging
from 24 months to 60 months.
Leases originated in 1999 and 1998, together with their terms and range of
interest rates are as follows:
1999 1998
---- ----
Lease amount $11,344,789 $15,225,491
Term 12 - 60 months 24 - 60 months
Interest rate 6.41 -25.57% 9.79 -29.12%
SCLC's average lease investment for contracts in its portfolio at December 31,
1999 and 1998 was approximately $41,000 and $33,000, with the largest leases
written during the years approximating $246,000 and $170,000, respectively. SCLC
maintains a diversified portfolio in order to minimize its credit exposure to
any single industry or individual lessee. At December 31, 1999 SCLC maintained
leases of equipment in agricultural/forest products, computer/data processing,
construction/heavy equipment, health care, manufacturing, office
equipment/furniture, restaurant equipment, retail/service equipment,
signage/marketing, and transportation industries. As of December 31, 1999, no
single industry accounted for more than 13.5% and no single lessee accounted for
more than 1.4% of its gross lease receivables.
Lease contracts that meet the Company's credit requirements, but do not meet
management's minimum yield requirements are sold in the secondary market.
Certain of these lease contracts are participated or sold on a non-recourse
basis through lease brokers. Additionally, SCLC has broker agreements with other
funding sources and during the year ended December 31, 1999 SCLC sold four
tranches of net leases totaling approximately $4.8 million. These leases were
sold on a non-recourse basis allowing SCLC to accelerate the earnings process on
a percentage of the portfolio. The Company may, but is not obligated to, sell
additional leases in the future.
SCLC originates the majority of leases retained in its portfolio through lease
broker referrals. Leases are approved on a contract by contract basis. Leases
from $10,000 to $150,000 require the approval of the Chief Credit Officer of
SCLC. Leases exceeding $150,000 up to $250,000 also require the approval of the
President of the parent Company. The Company's lender must approve leases
exceeding $150,000 pursuant to the terms of the Company's credit facility
agreement with the Bank. Lease contracts are collateralized by the underlying
equipment and are usually guaranteed by the principals of the lessee. SCLC's
leasing credit practice is based upon the lessee's financial position,
creditworthiness and ability to meet cash flow obligations. All other credit
considerations are similar to those followed by the commercial lending group.
For additional information concerning leasing, see Note 3 of Notes to the
Consolidated Financial Statements.
LOANS, LEASES AND REAL ESTATE OWNED
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To measure the quality of assets, or to determine the adequacy of the reserve
for possible loan and lease losses, the Company reviews the performance of each
loan and lease, the valuation of all collateral, the payment history of the
borrower, current economic conditions of the geographical area in which the loan
or lease was made and market analysis of the type of collateral. This
information is obtained primarily through on-site inspections, market analysis,
new appraisals, financial
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performance of the borrower and purchase offers. A specific allowance for credit
losses is established for any non-performing loan and lease where the underlying
collateral value (less costs of disposal) is below the recorded loan or net
lease receivable. Upon repossession, real estate owned and equipment is recorded
at the lower of cost or fair value less estimated selling costs and is reviewed
at least monthly thereafter until disposition of the property.
At December 31, 1999 and 1998, the allowance for loan losses was approximately
$220,000 and $208,000, respectively, and for lease losses approximately $320,000
and $213,000 respectively, which in the opinion of management was adequate.
Delinquent and problem loans and leases are a normal part of any lending
business. If a borrower fails to make a required payment when due, the Company
institutes collection procedures which include the mailing of past due notices,
follow-up phone calls and/or personal contact. In most cases, delinquencies are
cured promptly. If the loan or lease remains delinquent, the Company initiates
repossession, foreclosure or other collection proceedings.
Loans and leases owned by the Company are considered delinquent when a scheduled
payment becomes 31 days past due. The following table sets forth the principal
balances of delinquent loans and leases in the Company's loan and lease
portfolios at December 31, 1999 and 1998.
Principal % of Total
1999 Balance Amount
---- ------- ------
Commercial loans $ 550,000 1.3%
Leases $ 625,230 3.5%
1998
----
Commercial loans $ 4,467,896 10.9%
Leases $ 668,829 3.9%
Of the total past due loans at December 31, 1999 and 1998, $550,000 and
$4,462,886 respectively exceeded 90 days past due. Delinquent leases 90 days or
more past due at December 31, 1999 and 1998, were $119,852 and $215,584,
respectively. For additional information concerning delinquencies and real
estate and equipment owned see Notes 2, 3 and 5 of Notes to the Consolidated
Financial Statements.
SOURCES OF FUNDS
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Funding for new loans is provided from repayments of principal and interest on
current loans and from a $45,000,000 line of credit which expires on April 30,
2000. Borrowings under the Company's credit agreement bear interest at .25% over
the bank's prime rate (8.75% at December 31, 1999). The Company at its option
may purchase "LIBOR" (London Interbank Offered Rate) contracts as a part of its
line of credit. The Company's outstanding debt at December 31, 1999 included no
"LIBOR" contracts in the total $26,105,000 outstanding under the credit
agreement. The "LIBOR" contracts purchased by the Company bear interest at
2.625% over the "LIBOR" rate on the date of purchase. All borrowings under the
credit agreement are collateralized by loans receivable. The credit agreement
contains certain restrictive covenants including maximum percentages of loan
categories allocated to land loans, second mortgages and loan terms exceeding 24
months. The credit agreement also contains covenants requiring the Company to
maintain a minimum level of cash and marketable securities of at least $400,000
and tangible net worth plus subordinated debt of at least $17,000,000. The
credit line is annually renewable and the Company expects the line will be
renewed on its expiration date. See Note 7 of Notes to the Consolidated
Financial Statements.
At December 31, 1999 the Company was indebted on $5,950,000 of Convertible
Subordinated Debentures. The debentures carry an interest rate of 7.5%, mature
on March 1, 2008 and are convertible into common stock at the rate of $8.01 per
share. The debentures are convertible at any time until maturity at the option
of the debenture holder. The debentures are redeemable, in whole or in part, at
any time on or after March 1, 2001, at the option of the Company. The debentures
are unsecured general obligations of the Company subordinate in right of
repayment to all existing and future Senior indebtedness of the Company. Senior
indebtedness includes but is not limited to, all current bank lines-of-credit
and any future increases to these lines as well as any new borrowings from
financial institutions. See Note 9 of Notes to
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the Consolidated Financial Statements.
Funding for new lease contracts is provided from repayments of current leases
and from a separate $17,000,000 line of credit. Borrowings under the line of
credit bear interest based upon the Bank's composite cost of funds, and vary by
terms of the contract financed. At December 31, 1999 the Company had $10,676,000
outstanding under its line. Rates at December 31, 1999 ranged from 6.98% to
8.6%. The commitment under this line of credit expires April 30, 2000 and is
annually renewable. The Company expects the line will be renewed at that time.
See Note 7 of Notes to the Consolidated Financial Statements.
COMPETITION
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The market for non-regulated financial services providers such as the Company is
highly competitive and fragmented. The markets for small ticket commercial
equipment leases, and real estate financing are extensive and growing rapidly.
Competition in the markets in which the Company competes is intense and includes
many regional and national regulated financial institutions with substantially
greater resources than the Company. The Company also competes against finance
companies that provide low-cost credit facilities to a proprietary customer
base. Management believes that the Company's primary competitors include: (i)
Pacific Coast Investment, Mortgages Limited, Kennedy Funding, Metropolitan
Mortgage and Coast Business Credit in real estate financing; and (ii) Summit
Leasing, Metwest Leasing, SDI Capital, Financial Pacific Leasing and JDR Capital
in equipment leasing.
The Company believes it has positioned itself to compete against providers of
commercial business financing by reason of its high level of service to
customers, its experienced personnel and its ability to provide turn-key
financial solutions to small and mid-size business as well as non-traditional
commercial customers.
EMPLOYEES
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At December 31, 1999, the Company employed twenty-five people, none of whom were
represented by a collective bargaining unit. The Company believes relations with
its employees are good.
Item 2. Description of Properties.
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The Company's headquarters are located in leased offices at 1825 N. Hutchinson
Rd., Spokane, Washington 99212. The lease expires in May 2001. For more
information concerning this lease see Note 12 of Notes to the Consolidated
Financial Statements. The Company also occupies leased office space located at
200 First Ave. West, Suite 403, Seattle, Washington, 614 S. W. Eleventh Ave.
Suite D. Gallery Level, Portland, Oregon and 8655 East Via De Ventura G-221
Scottsdale, Arizona. These properties are considered adequate to meet current
corporate needs.
Additionally, the Company has properties obtained through foreclosure, which are
held for sale in the normal course of business. See Note 5 of Notes to the
Consolidated Financial Statements. See discussion of real estate lending
activities in Item 1, Description of Business - Commercial Lending Activities.
Item 3. Legal Proceedings.
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The Company is from time to time a party to various legal actions occurring in
the normal course of business. Management believes that there are no threatened
or pending proceedings against the Company that, if determined adversely, would
have a material effect on the business or financial position, results of
operations or cash flows of the Company.
Item 4. Submission of Matters to a Vote of Security Holders.
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No matters were submitted to a vote of shareholders of the Company's common
stock during the fourth quarter of 1999.
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PART II
Item 5. Market for Common Equity and Related Stockholder Matters.
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The Company's common stock is traded on the NASDAQ Small Cap Market tier of the
Nasdaq Stock Market. As of February 26, 1999, there were approximately 870
holders of record of the Company's common stock. Market prices for the Company's
common stock were obtained from the Nasdaq stock activity reports and reflect
actual closing prices. The high and low closing prices for 1999 and 1998 are as
follows:
1999 Common
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Quarter Ended High Low
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March 31 $8.00 $5.00
June 30 6.75 5.38
September 30 7.00 5.75
December 31 6.94 5.50
1998 Common
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Quarter Ended High Low
------------- ---- ---
March 31 $9.75 $6.50
June 30 8.63 7.13
September 30 8.56 5.88
December 31 6.25 5.00
On February 03, 2000 the closing price was $5.56.
The Company's dividend history is as follows:
Date paid Amount per share
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April 19, 1996 $.15
February 28, 1997 .18
February 27, 1998 .18
February 26, 1999 .18
February 28, 2000 .22
Item 6. Management's Discussion and Analysis of Financial Condition and Results
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of Operations.
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Results of Operations - 1999 Compared to 1998
- ---------------------------------------------
The Company reported net income of approximately $1,055,000 or $.66 per diluted
share for the year ended December 31, 1999 compared to net income of
approximately $745,000 or $.50 per diluted share for the year ended December 31,
1998. The Company's interest margin increased from approximately $3,836,000 in
1998 to approximately $5,180,000 for the year ended December 31, 1999. The
increase in interest margin was the result of an increase in interest and fees
of approximately $1,079,000 and an increase in leasing revenues of approximately
$1,193,000 over 1998. These revenue gains were partially offset by an increase
in interest expenses of approximately $929,000.
The increase in interest and lease revenue was due to the Company's ability to
grow its average earning asset portfolio by approximately $14.6 million, to
$59.6 million in 1999. The growth in the Company's earning assets was primarily
the result of growth in the Company's loan portfolio, which grew from
approximately $40.4 million at December 31, 1998 to a high of approximately
$51.3 million at July 31, 1999 before falling back to year end levels of
approximately $42.8 million. The decline in outstandings from July to December
was due to the large amount of repayments in the fourth quarter of 1999,
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($11.8 million as compared to $2.4 million in the fourth quarter of 1998).
Included in the 1999 loan repayments were approximately $6.6 million in loans
which were paid in full prior to their scheduled maturity in 2000. The increase
in interest expense is due to the increase in borrowings, which correlates
directly to the increase in the Company's loan and lease portfolio, as the
Company was able to increase its leverage, thereby, positioning itself for
future growth in its commercial real estate lending and leasing portfolios.
The provision for lease losses increased by approximately $291,000 over 1998 due
to management's decision to increase the reserve for probable lease losses to
approximate 2.2% of the Company's net investment in leases at December 31, 1999.
The decision to increase the reserve was based on charged off leases net of
recoveries of approximately $301,000 in 1999 and to maintain a reserve more in
line with industry averages as the Company's lease portfolio continues to
mature. Additionally the Company took market write-downs on repossessed
equipment of approximately $172,000. The Company did not charge a provision for
loan losses in 1999.
Non-interest operating expenses increased by approximately $872,000 in 1999 as
compared to 1998. Employee compensation and benefits increased by approximately
$586,000 primarily due to an increase in the Company's work force, salary
increases related to performance and competitive factors and profit sharing
accrual related to the increased profitability of the Company. At December 31,
1999 the Company employed eleven personnel in its leasing operations, six
personnel in its real estate lending operations and eight personnel in
administrative and support operations. Other operating expenses increased by
approximately $286,000 primarily due to an increase in general and
administrative expense of approximately $260,000, which related to the Company's
leasing operations, and an increase in occupancy expense of approximately
$26,000 related to a retroactive rent increase which was contractually due but
had not been previously billed, and the effect of a full years rent on the
Company's Phoenix, Arizona office which opened mid-year 1998. Of the increase in
other operating expenses the most significant was approximately $106,000 in
collection and repossession charges followed by $32,000 in contract labor due to
the use of temporary personnel throughout the year, a $29,000 increase in legal
fees and a $26,000 increase in credit reports and filing fees. There were other
increases and decreases in other expenses none of which are material when
considered individually.
Net interest margin on earning assets increased from 8.5% in 1998 to 8.7% in
1999. This increase is primarily due to the more favorable "LIBOR" interest rate
option used by the Company on the majority of its borrowings throughout most of
the year. The Company's cost of funds decreased from 8.80% in 1998 to 8.40% in
1999. Additionally the yield on the Company's loan portfolio increased from
15.0% in 1998 to 15.13% in 1999.
The income tax provision increased from approximately $384,000 in 1998 to
approximately $560,000 in 1999. Although the Company has significant net
operating loss carryforwards available to reduce income taxes payable, the
utilization of these net operating losses is limited each year due to the change
in ownership of the Company which occurred in 1991. The amount of net operating
losses that can be used in any given year to reduce taxable income is
approximately $448,000. Although for financial statement purposes the Company
reported approximately $560,000 in income tax expense for 1999 (in accordance
with FASB Statement 109 "Accounting for Income Taxes"), for income tax purposes,
the actual tax liability for 1999 is expected to be significantly lower due to
the utilization of the net operating loss carryforwards and the differences
between book and tax accounting for leases. As discussed in Note 6 of Notes to
the Consolidated Financial Statements, the deferred tax asset results primarily
from net operating loss carryforwards.
Financial Condition and Liquidity
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At December 31, 1999, the Company had approximately $591,000 of cash and cash
equivalents and $196,000 of marketable securities. The Company's primary sources
of cash during 1999 were approximately $42,517,000 from short-term borrowings,
$28,867,000 of principal repayments on outstanding loans, $5,083,000 from the
sale of leases, $4,998,000 from collections on direct financing leases,
$1,911,000 from operations, and $583,000 from the sale of real estate and
equipment. In 1999, the primary uses of cash were approximately $40,979,000
repayment of short term borrowings, $31,412,000 of loan originations,
$11,345,000 additions to direct financing leases and $243,000 payment of
dividends.
The Company has a $45,000,000 revolving line of credit, to fund its real estate
lending operations, which expires on April 30, 2000. Additionally the Company
has a separate $17,000,000 line of credit to fund its leasing operations. The
commitments under this line also expire on April 30, 2000. The Company
anticipates that the lines will be renewed for
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another year at that time. Management believes that the lines of credit, coupled
with the cash and short-term investments held at December 31, 1999, normal loan
and lease repayments and the sale of part or all of the real estate and
equipment owned will provide sufficient cash to fund operating needs during
2000. However, the Company may seek additional funds dependent on the direct
lending and leasing demand and other projects the Company may endeavor to
undertake during the year.
Effects of Inflation and Changes in Interest Rates.
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Interest rates earned on the Company's loan portfolio are subject to change as
inflationary pressures and other factors, affect prime interest rates. At
December 31, 1999, interest rates being charged on approximately 98% of the
Company's loan portfolio were based upon the prime interest rate or other
indexes. The remaining loans have fixed interest rates. The Company's line of
credit agreement provides for variable interest based upon the prime rate or, at
the Company's option, a "LIBOR" based rate.
Management believes that any negative effects of an increase in the prime
interest rate would be largely offset by the Company's relatively short-term
loan portfolio, balloon payments and the large percentage of variable rate
loans.
Rates earned on the Company's lease portfolio are fixed for the term of the
lease, however, the Company match funds its portfolio by borrowing under its
lease line of credit as soon as is practicable after funding the lease. At the
time of borrowing, the rate the Company pays its lender is fixed for the term of
the lease.
Year 2000 Issues and Status.
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In completing its assessment of Y2K compliance, the Company reviewed and
identified all of the major system components believed to be susceptible to Y2K
issues. These included all software components of its in-house network as well
as its commercial lending service provider. The Company has obtained written
confirmation from all software vendors and software service providers of Y2K
compliance.
In addition to its review of its information technology ("IT") systems, the
Company completed its assessment of non-IT related systems for Y2K compliance
and has been assured by providers the systems are compliant. Major non-IT
related systems utilized by the Company include the telephone systems and
building security system.
Management does not expect the Company will incur any Y2K problems in the
future, however, no assurances can be given. As of December 31, 1999 and the
date of this report the Company has experienced no interruptions of service in
any of its IT or non-IT systems as a result of any Y2K problems.
New Accounting Pronouncements
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In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133 ("SFAS No. 133"), Accounting for
Derivative Instruments and Hedging Activities. SFAS No. 133 requires companies
to recognize all derivative contracts as either assets or liabilities in the
balance sheet and to measure them at fair value. If certain conditions are met,
a derivative may be specifically designated as a hedge, the objective of which
is to match the timing of gain or loss recognition on the hedging derivative
with the recognition of (i) the changes in the fair value of the hedged asset or
liability that are attributable to the hedged risk or (ii) the earnings effect
of the hedged forecasted transaction. For a derivative not designated as a
hedging instrument, the gain or loss is recognized as income in the period of
change. SFAS No. 133 is effective for all fiscal quarters of fiscal years
beginning after June 15, 2000. Based on its current and planned future
activities relative to derivative instruments, the Company believes that the
adoption of SFAS No. 133 on January 1, 2001 will not have a significant effect
on its financial statements.
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Item 7. Financial Statements.
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Information required by this Item is included in the Consolidated Financial
Statements filed as a part of this report.
Item 8. Changes in and Disagreements With Accountants on Accounting and
- -----------------------------------------------------------------------
Financial Disclosure.
- ---------------------
None.
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PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons; Compliance
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with Section 16(a) of The Exchange Act.
- ---------------------------------------
To be included in the proxy statement to be filed by the registrant with the
Securities and Exchange Commission prior to April 28, 2000 pursuant to
Regulation 14A adopted under the Securities Exchange Act of 1934 and
incorporated herein by reference.
Item 10. Executive Compensation.
- ---------------------------------
To be included in the proxy statement to be filed by the registrant with the
Securities and Exchange Commission prior to April 28, 2000 pursuant to
Regulation 14A adopted under the Securities Exchange Act of 1934 and
incorporated herein by reference.
Item 11. Security Ownership of Certain Beneficial Owners and Management.
- -------------------------------------------------------------------------
To be included in the proxy statement to be filed by the registrant with the
Securities and Exchange Commission prior to April 28, 2000 pursuant to
Regulation 14A adopted under the Securities Exchange Act of 1934 and
incorporated herein by reference.
Item 12. Certain Relationships and Related Transactions.
- ---------------------------------------------------------
To be included in the proxy statement to be filed by the registrant with the
Securities and Exchange Commission prior to April 28, 2000 pursuant to
Regulation 14A adopted under the Securities Exchange Act of 1934 and
incorporated herein by reference.
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Item 13. Exhibits and Reports on Form 8-K.
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<TABLE>
<CAPTION>
(a) Exhibits Exhibit No.
<S> <C>
Articles of Incorporation of Source Capital
Corporation, incorporated by reference to Exhibit A to
Form 8-K dated February 7, 1994. 3.1
Articles of Amendment to the restated Articles of
Incorporation of Source Capital Corporation,
incorporated by reference to Exhibit C to Form 8-K
dated May 16, 1996. 3.2
Bylaws of Source Capital Corporation, incorporated by
reference to Exhibit A to Form 8-K dated February 7,
1994. 3.3
Indenture dated February 11, 1998 between Registrant
and Banker Trust Company, incorporated by reference to
Exhibit 4.1 to Registrant's Current Report on Form 8K
dated February 11, 1998. 4.1
Form of 7-1/2% Convertible Subordinated Debenture Due
March 1, 2008 issued by the Registrant to each Selling
Shareholder, incorporated by reference to Exhibit A to
Exhibit 4.1 filed with the Registrant's Current Report
on Form 8-K dated February 11, 1998. 4.2
Executive Compensation Plans Arrangements and Other
Management Contracts:
Employment Contract of Alvin J. Wolff, Jr. effective
January 1, 1995, incorporated by reference to Exhibit A
to Form 8-K dated January 4, 1995. 10.1
Employment Agreement with D. Michael Jones dated
January 18, 1996, incorporated by 10.1 reference to
Exhibit 10.2 filed with the Company's 10KSB Dated
December 31, 1996.
Other Material Contracts: 10.2
Registration Rights Agreement between the Registrant
and Pacific Crest Securities, Inc., incorporated by
reference to Exhibit 10.3 filed with the Registrant's
Current Report on Form 8-K dated February 11, 1998.
Subsidiaries of the Registrant 10.3
Financial Data Schedule 21
27
</TABLE>
Reports on Form 8-K
No Reports on Form 8-K were filed during the last
quarter of 1999.
10
<PAGE>
SIGNATURES
-----------
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
SOURCE CAPITAL CORPORATION
(Registrant)
Date: February 25, 2000 By: /s/ D. Michael Jones
-------------------------- ---------------------
D. Michael Jones
President
In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.
<TABLE>
<CAPTION>
<S> <C> <C>
Date: February 25, 2000 By: /s/ D. Michael Jones
---------------------------- -------------------------------------
D. Michael Jones
President (Principal Executive Officer)
Director
Date: February 25, 2000 By: /s/ Lester L. Clark
---------------------------- ----------------------------------------
Lester L. Clark
Vice President, Treasurer and Secretary
(Principal Accounting and Financial Officer)
Date: February 25, 2000 By: /s/ Alvin J. Wolff, Jr.
---------------------------- ----------------------------------------
Alvin J. Wolff, Jr.
Director, Chairman of the Board
Date: February 25, 2000 By: /s/ Clarence H. Barnes
---------------------------- -------------------------------------
Clarence H. Barnes
Director
Date: February 25, 2000 By: /s/ Robert E. Lee
---------------------------- -----------------------------------------
Robert E. Lee
Director
Date: February 25, 2000 By: /s/ Daniel R. Nelson
---------------------------- ---------------------------------------
Daniel R. Nelson
Director
Date: February 25, 2000 By: /s/ Charles G. Stocker
---------------------------- ---------------------------------------
Charles G. Stocker
Director
Date: February 25, 2000 By: /s/ John A. Frucci
---------------------------- ------------------------------------------
John A. Frucci
Director
Date: February 25, 2000 By: /s/ Paul A. Redmond
---------------------------- --------------------------------------
Paul A. Redmond
Director
</TABLE>
11
<PAGE>
Source Capital Corporation and Subsidiaries
Index to Consolidated Financial Statements
Page
----
Report of Independent Certified Public Accountants F-1
Consolidated Balance Sheets F-2
Consolidated Statements of Income and Comprehensive Income F-3
Consolidated Statements of Changes in Stockholders' Equity F-4
Consolidated Statements of Cash Flows F-5
Notes to Consolidated Financial Statements F-7
<PAGE>
Report of Independent Certified Public Accountants
The Board of Directors and Stockholders
Source Capital Corporation and Subsidiaries
Spokane, Washington
We have audited the accompanying consolidated balance sheets of Source Capital
Corporation and Subsidiaries as of December 31, 1999 and 1998 and the related
consolidated statements of income and comprehensive income, changes in
stockholders' equity and cash flows for the years then ended. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the 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, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Source Capital
Corporation and Subsidiaries as of December 31, 1999 and 1998, and the
consolidated results of their operations and their cash flows for the years then
ended, in conformity with generally accepted accounting principles.
/s/ BDO Seidman, LLP
Spokane, Washington
January 26, 2000
F-1
<PAGE>
Source Capital Corporation and Subsidiaries
Consolidated Balance Sheets
December 31, 1999 and 1998
<TABLE>
<CAPTION>
1999 1998
---- ----
ASSETS
<S> <C> <C>
Loans receivable, net $ 42,833,844 $ 40,411,783
Leases receivable, net 14,224,409 14,006,137
Accrued interest receivable 326,190 463,986
Cash and cash equivalents 590,630 750,218
Marketable securities 195,684 219,502
Real estate and equipment owned 594,366 393,013
Other assets 1,141,887 853,942
Deferred income taxes 1,206,560 1,467,660
------------ ------------
Total assets $ 61,113,570 $ 58,566,241
============ ============
LIABILITIES
Note payable to bank $ 36,781,267 $ 35,243,164
Long-term debt 3,103,269 3,147,579
Accounts payable and accrued expenses 879,209 651,904
Customer deposits 723,005 687,802
Convertible subordinated debentures 5,950,000 6,000,000
------------ ------------
Total liabilities 47,436,750 45,730,449
------------ ------------
Commitments (Notes 2, 8,9,10 and 12)
STOCKHOLDERS' EQUITY
Preferred stock, no par value, 10,000,000 shares authorized,
no shares outstanding -- --
Common stock, no par value, authorized 10,000,000 shares;
issued and outstanding, 1,359,645 and 1,350,279 shares 7,052,881 7,006,849
Additional paid-in capital 2,049,047 2,049,047
Accumulated other comprehensive loss (33,568) (15,869)
Retained earnings 4,608,460 3,795,765
------------ ------------
Total stockholders' equity 13,676,820 12,835,792
------------ ------------
Total liabilities and stockholders' equity $ 61,113,570 $ 58,566,241
============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
F-2
<PAGE>
Source Capital Corporation and Subsidiaries
Consolidated Statements of Income and Comprehensive Income
for the years ended December 31, 1999 and 1998
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Financing income:
Interest and fee income $ 6,596,089 $ 5,516,650
Lease financing income 2,675,086 1,482,206
Interest expense (4,091,394) (3,162,855)
----------- -----------
Net financing income 5,179,781 3,836,001
Other income and provision for loan losses:
Gains on sale of investments, real estate and equipment (net) 47,564 97,585
Gains on sales of leases 356,287 --
Provision for loan and lease losses (578,353) (287,486)
----------- -----------
Income before operating expense 5,005,279 3,646,100
----------- -----------
Non-interest expense:
Employee compensation and benefits 2,100,567 1,514,266
Other operating expenses 1,289,069 1,003,085
----------- -----------
Total non-interest expenses 3,389,636 2,517,351
----------- -----------
Income before income taxes 1,615,643 1,128,749
----------- -----------
Income tax provision:
Current (299,100) (395,521)
Deferred (261,100) 11,421
----------- -----------
Total income tax provision (560,200) (384,100)
----------- -----------
Net income $ 1,055,443 $ 744,649
=========== ===========
Net income per common share - basic $ .78 $ .55
=========== ===========
Net income per common share - diluted $ .66 $ .50
=========== ===========
Weighted average number of basic common shares outstanding 1,359,221 1,354,397
=========== ===========
Weighted average number of diluted common shares outstanding 2,116,244 2,058,487
=========== ===========
Cash dividends per share $ .18 $ .18
=========== ===========
Net income $ 1,055,443 $ 744,649
Other comprehensive income:
Unrealized gain (loss) on marketable,
securities, net of tax (17,699) 11,274
----------- -----------
Comprehensive income $ 1,037,744 $ 755,923
=========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
F-3
<PAGE>
Source Capital Corporation and Subsidiaries
Consolidated Statements of Changes in Stockholders' Equity
for the years ended December 31, 1999 and 1998
<TABLE>
<CAPTION>
Accumulated
Common Stock Additional Other
-------------------- Paid-in Comprehensive Retained
Shares Amount Capital Loss Earnings
------ ------ ------- ---- --------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1997 1,355,818 $ 7,038,802 $ 2,049,047 $ (27,143) $ 3,295,163
Cash dividend ($.18 per share) paid February 27, 1998 -- -- -- -- (244,047)
Redemption and cancellation of outstanding common stock (5,539) (31,953) -- -- --
Net income -- -- -- -- 744,649
Net change in unrealized losses on marketable securities -- -- -- 11,274 --
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1998 1,350,279 7,006,849 2,049,047 (15,869) 3,795,765
Cash dividend ($.18 per share) paid February 25, 1999 -- -- -- -- (242,748)
Redemption and cancellation of outstanding common stock (634) (3,968) -- -- --
Exercise of common stock options 10,000 50,000 -- -- --
Net income -- -- -- -- 1,055,443
Net change in unrealized losses on marketable securities -- -- -- (17,699) --
----------- ----------- ----------- ----------- -----------
Balance, December 31, 1999 1,359,645 $ 7,052,881 $ 2,049,047 $ (33,568) $ 4,608,460
=========== =========== =========== =========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
Source Capital Corporation and Subsidiaries
Consolidated Statements of Cash Flows
for the years ended December 31, 1999 and 1998
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Increase (Decrease) in Cash
Cash flows from operating activities:
Net income $ 1,055,443 $ 744,649
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation 66,917 50,059
Provision for loan and lease losses 406,845 287,486
Impairment loss on repossessed assets 171,508 14,500
Deferred income tax (benefit) provision 261,100 (11,421)
Gain on sale of marketable securities (18,355) (55,204)
Gain on sale of equipment and real estate owned (29,209) (56,881)
Gain on sale of leases (356,287) --
Change in:
Accrued interest and other assets 105,258 (547,636)
Accounts payable and accrued expenses 212,360 238,904
Customer deposits 35,203 588,010
------------ ------------
Net cash provided by operating activities 1,910,783 1,252,466
------------ ------------
Cash flows from investing activities:
Proceeds from sale of marketable securities 24,474 97,700
Loan originations (31,412,419) (26,046,948)
Loan repayments 28,866,597 22,075,724
Additions to direct financing leases (11,344,789) (15,225,491)
Collections on direct financing leases 4,998,408 3,798,862
Recovery (capitalization) of costs related to repossessed assets 5,071 (70,566)
Proceeds from sale of real estate and equipment owned 582,692 559,094
Proceeds from sale of leases 5,083,490 --
Purchase of office furniture and equipment (124,380) (101,282)
------------ ------------
Net cash used in investing activities (3,320,856) (14,912,907)
------------ ------------
Cash flows from financing activities:
Proceeds from line of credit borrowings 42,516,980 39,510,238
Payments on line of credit borrowings (40,978,877) (31,257,170)
Proceeds from sale of subordinated convertible debentures -- 6,000,000
Payments of long-term debt (44,310) (39,960)
Proceeds from exercise of stock options 50,000 --
Payments for redemption of common stock (3,968) (31,953)
Payments for redemption of debentures (46,592) --
Cash dividends paid (242,748) (244,047)
------------ ------------
Net cash provided by financing activities 1,250,485 13,937,108
------------ ------------
</TABLE>
F-5
<PAGE>
Source Capital Corporation and Subsidiaries
Consolidated Statements of Cash Flows, Continued
for the years ended December 31, 1999 and 1998
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Net increase (decrease) in cash and cash equivalents $ (159,588) $ 276,667
Cash and cash equivalents, beginning of year 750,218 473,551
----------- -----------
Cash and cash equivalents, end of year $ 590,630 $ 750,218
=========== ===========
Supplemental disclosure of cash flow information:
Interest paid $ 4,024,882 $ 3,024,127
Income taxes paid 197,300 241,088
Non-cash financing and investing transactions:
Financing of sales of real estate owned $ 66,000 $ 292,993
Deferred interest on financing of real estate sold 13,160 56,442
Loans and interest converted to real estate owned
through repossession 198,317 458,218
Leases converted to repossessed assets 1,046,435 61,150
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE>
Source Capital Corporation and Subsidiaries
Notes to Consolidated Financial Statements
1. Organization and Summary of Significant Accounting Policies:
Organization
Source Capital Corporation was incorporated in Washington in October
1969. The Company is engaged in lending activities, primarily making
direct loans to individuals and corporations. Approximately 85% of the
Company's loan portfolio is collateralized by real estate located in the
Pacific Northwest. In April 1997, the Company began equipment leasing
operations through its wholly owned subsidiary, Source Capital Leasing
Company, and in November 1997 began an accounts receivable factoring
operation though its other wholly owned subsidiary, Source Capital
Finance Inc. In the fourth quarter of 1998 the Company redeployed the
personnel in its factoring operations to the Company's leasing operations
to facilitate the more rapid growth in its leasing operations.
Principles of Consolidation
The accompanying financial statements include the accounts of the Company
and its wholly owned subsidiaries. All significant intercompany accounts
and transactions have been eliminated in consolidation.
Loans Receivable
Loans receivable are reported at outstanding balance, including principal
and accrued interest, and adjusted for the allowance for losses and any
deferred fees or costs.
Loan origination fees, net of certain direct origination costs, are
deferred and amortized as an adjustment of yield over the term of the
related loan.
Allowance for Losses on Loans and Leases
The allowance for credit losses is based on a current evaluation of the
probable losses in the Company's loan and lease portfolios. Provision for
loss is recognized based on the estimated fair value of the underlying
collateral, net of selling costs.
Leases Receivable
The Company accounts for its portfolio of leases receivable as direct
financing leases. Accordingly, the minimum lease payments, including any
residual values are included in the gross lease receivable. The
difference between the gross lease receivable and the cost of the
equipment is recorded as unearned income
The Company reports its net investment in direct financing leases as an
asset in its consolidated balance sheet. Unearned income and initial
direct costs are amortized to income over the term of the lease so as to
produce a constant periodic rate of return on the Company's net
investment in the leases.
Cash Equivalents
The Company considers cash equivalents to be short-term, highly liquid
investments with maturities of three months or less at the date of
purchase. The Company, on occasion, has cash in institutions which may
exceed federal depository insurance limits. The Company places such
deposits with high-credit quality institutions and has not experienced
any losses.
F-7
<PAGE>
1. Organization and Summary of Significant Accounting Policies, Continued:
Marketable Securities
The Company invests in limited amounts of equity securities and minimizes
its investment in any one company or industry. Investments in equity
securities are classified as available-for-sale securities for which
unrealized gains and losses are recognized as a component of
stockholders' equity. Realized gains or losses on the sale of securities
are reflected in operations based on specific identification.
Real Estate and Equipment Owned
The Company records foreclosed assets as real estate and equipment owned
which is stated at the lower of (a) the fair value of the asset minus the
estimated selling costs, or (b) the cost of the asset. Costs for the
development and improvement of the real estate are capitalized during the
period in which the real estate property is being readied for its
intended use. Pending the sale of certain repossessed properties and
equipment, the Company incurs certain expenses associated with the
assets, which are recognized in operations.
Office Furniture and Equipment
Office furniture and equipment are stated at cost. Depreciation is
computed using the straight-line method over the estimated useful lives
of the assets (5-10 years). Major renewals or betterments are capitalized
and repairs and maintenance are expensed to operations as incurred. When
furniture and equipment is sold or retired, the cost and related
accumulated depreciation are removed from the respective accounts, and
the resulting gains or losses are reflected in operations.
Income Recognition
Interest income from loans is recognized using the accrual method.
Accrual of income is suspended when a loan is contractually delinquent
for 90 days or more, unless the value of the underlying collateral
exceeds the sum of the loan and accrued interest balances. The accrual is
resumed when the loan becomes contractually current, and past-due
interest income is recognized at that time, unless collection of the loan
and interest is doubtful.
Loan origination fees net of direct loan costs are deferred and amortized
to interest income, using the interest method, over the contractual term
of the loan.
Income Taxes
Deferred tax assets and liabilities are recognized for the future income
tax consequences of transactions that have been recognized in the
Company's financial statements, using enacted tax rates in effect in the
years in which the temporary differences between the carrying amount and
the tax basis are expected to reverse (see Note 6).
The Company files a consolidated income tax return with its subsidiaries.
Net Income Per Share
Net income per share - basic is computed by dividing net income by the
weighted-average number of common shares outstanding during the period.
Net income per share - diluted is computed by dividing net income by the
weighted-average number of common shares outstanding increased by the
additional common shares that would have been outstanding if the dilutive
potential common shares had been issued.
The net income per share disclosures have been made in accordance with
SFAS No. 128, "Earnings per Share," which was applied by the Company in
1997. During the years ended December 31, 1999 and 1998 stock options
outstanding resulted in the addition of 14,201 and 17,448 weighted
average shares to the diluted net income per share computation.
F-8
<PAGE>
1. Organization and Summary of Significant Accounting Policies, Continued:
Estimates
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 disclosure 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.
Material estimates that are susceptible to significant change in the
near-term relate to the determination of the allowance for loan and lease
losses. Management evaluates the adequacy of these allowances on a
monthly basis and believes the amounts reserved for future loan and lease
losses to be adequate. While management uses current information to
recognize losses on loans and leases, future additions to the allowances
may be necessary based on changes in economic conditions.
New Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133 ("SFAS No. 133"), Accounting
for Derivative Instruments and Hedging Activities. SFAS No. 133 requires
companies to recognize all derivative contracts as either assets or
liabilities in the balance sheet and to measure them at fair value. If
certain conditions are met, a derivative may be specifically designated
as a hedge, the objective of which is to match the timing of gain or loss
recognition on the hedging derivative with the recognition of (I) the
changes in the fair value of the hedged asset or liability that are
attributable to the hedged risk or (ii) the earnings effect of the hedged
forecasted transaction. For a derivative not designated as a hedging
instrument, the gain or loss is recognized as income in the period of
change. SFAS No. 133 is effective for all fiscal quarters of fiscal years
beginning after June 15, 2000. Based on its current and planned future
activities relative to derivative instruments, the Company believes that
the adoption of SFAS No. 133 on January 1, 2001 will not have a
significant effect on its financial statements.
Reclassifications
Certain 1998 balances have been reclassified to conform with the 1999
presentation with no effect on retained earnings or net income as
previously reported.
2. Loans Receivable:
Loans receivable consist of short-term and long-term loans made to
individuals and corporations. Virtually all loans are collateralized by
real property. At December 31, 1999, approximately 98% of the loans have
interest rates that fluctuate based upon changes in the prime interest
rate. Loans receivable, the weighted-average interest rate and effective
yield (including amortized loan fees) by type of loan at December 31,
1999 and 1998 consist of the following:
<TABLE>
<CAPTION>
Weighted-
Average Effective Yield
Contractual on Average Loans
1999 Amount Interest Rate Outstanding
---- -------------- -------------------- --------------------
<S> <C> <C> <C>
Commercial real estate loans $ 43,729,290 12.36% 15.15%
Unearned discounts and fees (675,446)
Allowance for loan losses (220,000)
Loans receivable, net $ 42,833,844
==============
</TABLE>
F-9
<PAGE>
2. Loans Receivable, Continued:
<TABLE>
<CAPTION>
1998
----
<S> <C> <C> <C>
Commercial real estate loans $41,117,069 11.88% 15.08%
Unearned discounts and fees (497,294)
Allowance for loan losses (207,992)
Loans receivable, net $ 40,411,783
==============
</TABLE>
Included in the 1999 totals above is one commercial loan for $550,000
which is non-performing, however, the loan is still accruing interest as
the loan is well secured and the Company expects to recover all accrued
interest and principal in 2000. Included in the 1998 totals above were
four commercial loans totaling approximately $493,000 which were
identified as non-performing and are not accruing interest. Interest
income of $25,997 was recognized on these loans during the year ended
December 31, 1998. Had these loans performed in accordance with their
original terms, interest income of $63,204 would have been recognized.
The average recorded investment in impaired loans during the year ended
December 31, 1999 and 1998 was $632,120 and $1,053,746 respectively.
The following table sets forth the final scheduled maturity dates of the
principal balances of loans in the portfolio at December 31, 1999:
Loans Maturing in
Year Ending
December 31, Commercial
2000 $ 32,860,337
2001 4,694,292
2002 456,688
2003 1,953,899
2004 -
Thereafter 3,764,074
--------------
$ 43,729,290
==============
The preceding table includes the total principal amount outstanding in
the year of loan maturity. However, most loans require periodic payments
(generally monthly) of principal and or interest. The Company applies
collection and foreclosure procedures to delinquent and non-performing
loans which may significantly affect the actual loan payment schedule.
This schedule does not purport to present actual anticipated principal
payments on loans receivable.
The Company has outstanding loans to thirteen borrowers exceeding
$1,000,000 individually, which aggregate approximately $20,085,000 at
December 31, 1999. Included in the aforementioned total is a loan of
approximately $3,696,000 which the Company originated on the sale of a
shopping center (see note 8) and a loan of approximately $4,926,000 of
which approximately $3,031,000 is participated out to another lender. The
Company believes that the value of the real estate that collateralizes
these loans is sufficient to reduce the Company's credit risk on these
loans to a reasonable level. Actual results could vary from estimates in
the near term.
At December 31, 1999, the Company has outstanding loan commitments
aggregating approximately $7,210,000 net of approximately $969,000
committed by a participating lender.
F-10
<PAGE>
2. Loans Receivable, Continued:
The following is a summary of the changes in the allowance for loan
losses for the years ended December 31, 1999 and 1998:
1999 1998
---- ----
Beginning balance $207,992 $204,966
Recoveries 12,008 7,026
Provision - 11,000
Write offs - (15,000)
--------- --------
Ending balance $220,000 $207,992
======== ========
3. Leases Receivable:
Leases receivable consist of small ticket lease contracts with an average
contract size of approximately $41,000. All leases are collateralized by
the underlying equipment, additional collateral or personal guarantee by
the lessee or surety. Leases are originated with varying terms from 12 to
60 months and are priced at the market rate for similar contracts. All
leases are accounted for as direct financing capital leases and are
reported net of unearned income.
Following are the components of the Company's investment in leases
receivable at December 31,
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Minimum lease payments receivable $ 17,751,017 $ 17,408,810
Contingent rentals for interim rent receivable -- 203,796
Initial direct costs 76,899 45,604
Residual value, estimated 842,001 866,017
------------ ------------
Gross leases receivable 18,669,917 18,524,227
Less unearned finance income (4,125,932) (4,304,790)
Less allowance for uncollectable leases (319,576) (213,300)
------------ ------------
Net investment in leases receivable $ 14,224,409 $ 14,006,137
============ ============
</TABLE>
The following table sets forth the expected future minimum lease payments
to be received as of December 31, 1999.
Year Ending
December 31,
--------------
2000 $ 5,685,230
2001 4,963,925
2002 3,954,521
2003 2,463,311
2004 684,030
--------------
$ 17,751,017
==============
The following is a summary of the changes in the allowance for lease
losses for the years ended December 31, 1999 and 1998:
1999 1998
---- ----
Beginning balance $ 213,300 $ 18,000
Recoveries 53,902 8,814
Provision 578,353 276,486
Write offs (525,979) (90,000)
--------- ----------
Ending balance $ 319,576 $ 213,300
========= ==========
F-11
<PAGE>
4. Marketable Securities:
The amortized cost and estimated market values of available-for-sale
equity securities at December 31, 1999 and 1998 are as follows:
<TABLE>
<CAPTION>
Carrying/
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---- ----- ------ -----
<S> <C> <C> <C> <C>
1999:
Equity securities $ 229,252 $ 22,557 $ 56,125 $195,684
========== ======== ======== ========
1998:
Equity securities $ 235,371 $ 20,299 $ 36,168 $219,502
========== ======== ======== ========
</TABLE>
5. Real Estate and Equipment Owned:
Real estate and equipment owned consists primarily of real estate and
equipment obtained upon loan and lease foreclosures and is adjusted to
net realizable value. The amounts held for resale as of December 31, 1999
and 1998 are as follows:
1999 1998
---- ----
Foreclosed real estate $ 362,542 $ 374,492
Equipment held for resale 231,824 18,521
------------ -------------
$ 594,366 $ 393,013
============ ============
6. Income Taxes:
The tax effect of the temporary differences and carryforwards giving rise
to the Company's deferred tax assets at December 31, 1999 and 1998 is as
follows:
1999 1998
---- ----
Net operating loss carryforwards $ 828,776 $ 935,106
Deferred compensation 319,215 319,215
Allowances for loan and lease losses 194,247 142,900
Other (135,678) 70,439
------------- ------------
$ 1,206,560 $ 1,467,660
============ ============
Net operating loss carryforwards that will expire before utilization have
been excluded from the deferred tax asset. No valuation allowance has
been established for any of the Company's deferred tax assets as it is
more likely than not that these assets will be realized. Realization is
dependent on the generation of sufficient taxable income in future years.
The amount of deferred tax asset considered realizable may be reduced in
the near term if estimates of future taxable income during the
carryforward period are reduced.
At December 31, 1999, the Company has regular and alternative minimum tax
net operating loss carryforwards available to offset future taxable
income. These carryforwards expire as follows:
Year Ending Alternative
December 31, Regular Minimum
------------ ------- -------
2003 $ 1,792,000 $ --
2004 612,000 610,000
2006 26,000 26,000
------------ ------------
$ 2,430,000 $ 636,000
============ ============
Due to the Company's change in ownership and its election to limit the
annual utilization of net operating losses
F-12
<PAGE>
6. Income Taxes, continued:
rather than reduce available net operating losses, the amount of net
operating losses that can be utilized in any given year to reduce future
taxable income are limited to approximately $448,000.
The effective tax rates on earnings before taxes differ from the federal
statutory rate. The following reconciliation shows the significant
differences in the tax at statutory and effective rates, for the years
ended December 31, 1999 and 1998:
1999 1998
---- ----
Federal statutory tax rate 34.0% 34.0%
State rates, adjusted for federal benefit 2.0% 1.8%
Permanent differences (0.9)% (0.9)%
Other (0.4)% (0.9)%
----- -----
Effective Tax Rate 34.7% 34.0%
===== =====
7. Line-of-Credit Agreement:
The Company has a $45,000,000 revolving line-of-credit agreement with a
commercial bank which expires on April 30, 2000. Borrowings under the
line-of-credit agreement bear interest at .25% over the bank's prime
rate, (8.75% at December 31, 1999). The Company at its option may
purchase "LIBOR" (London Interbank Offered Rate) contracts as a part of
its line of credit. The Company's outstanding debt at December 31, 1999
included no "LIBOR" contracts in the total $26,105,000 outstanding under
the line of credit agreement. The "LIBOR" contracts purchased by the
Company bear interest at 2.625% over the "LIBOR" rate on the date of
purchase. All borrowings under the line-of-credit agreement are
collateralized by loans receivable. The credit agreement contains
restrictive covenants including maximum percentages of loan categories
allocated to land loans, second mortgages and loan term exceeding 24
months. The agreement also requires the Company to maintain minimum
levels of cash or marketable securities of $400,000 and a tangible net
worth plus subordinated debt (see note 9) of at least $17,000,000. The
Company was in compliance with all terms and covenants of the line of
credit agreement at December 31, 1999. The line is annually renewable and
the Company expects the line will be renewed on its expiration date.
Additionally, the Company's wholly owned subsidiary, Source Capital
Leasing Co. has a separate $17,000,000 line of credit. Each advance under
this line is evidenced by a separate note, and shall be no greater than
100% of equipment cost less security deposits and advance payments.
Advances under the line of credit bear interest at the Bank's composite
cost of funds, and vary by maturity. Rates at December 31, 1999 ranged
from 6.98% to 8.60%. Maturities shall not exceed 60 months and are
matched to the specific lease to which it applies. At December 31, 1999,
$10,676,267 was outstanding under the line-of-credit agreement. The
commitment under this line expires April 30, 2000 and is renewable
annually. The Company expects the line will be renewed at that time.
8. Long-Term Debt:
On October 16, 1996, the Company placed a mortgage on a shopping center
acquired through foreclosure in the amount of $3,220,000. The mortgage is
amortized over 24 years with the entire balance due in 10 years. The
interest rate is 3.75% added to the six months LIBOR and is subject to
change each three-month period throughout the term of the loan. On
December 20, 1996, the Company sold the shopping center and took back a
wrapped mortgage in the amount of $3,800,000. The Company remains liable
on the first mortgage.
F-13
<PAGE>
8. Long-Term Debt, continued:
Aggregate amounts of principal due on this long-term debt are as follows:
Year Ending
December 31,
------------
2000 $ 42,205
2001 45,733
2002 50,530
2003 55,831
2004 61,687
Thereafter 2,847,283
------------
$ 3,103,269
============
9. Convertible Subordinated Debentures:
On February 11, 1998, the Company sold $6,000,000 of Convertible
Subordinated Debentures. The debentures carry an interest rate of 7.50%,
mature on March 1, 2008 and are convertible into common stock at the rate
of $8.01 per share. These debentures were sold through a private
placement to institutional investors. The Company filed a registration
statement in July 1998 to register the shares of common stock into which
the debentures may be converted. The registration statement became
effective on September 22, 1998. The debentures are convertible at any
time until maturity at the option of the debenture holder. Interest on
the debentures is payable semiannually in arrears each March 1 and
September 1. The debentures are redeemable, in whole or in part, at any
time on or after March 1, 2001, at the option of the Company. On May 18,
1999 the Company redeemed $50,000 of the debentures through an open
market transaction. The debentures are unsecured general obligations of
the Company subordinate in right of payment to all existing and future
Senior indebtedness of the Company. Senior indebtedness includes but is
not limited to, all current bank lines-of-credit and any future increases
to these lines as well as any new borrowings from financial institutions.
10. Capital Stock:
The Company is authorized to issue 10,000,000 shares of Preferred Stock
having no par value, and 10,000,000 shares of Common Stock having no par
value.
Preferred Stock
The Preferred Stock may be issued upon resolution adopted by the board of
directors providing for the issuance and establishing the terms of each
preferred stock share. Terms established by the board are to include
voting rights, dividend rates, conversion rights and any other rights
granted to Preferred stockholders. At December 31, 1999 and 1998, no
Preferred Stock is outstanding.
Common Stock Options
The Company has three stock option plans (the Plans) for non-employee
directors, key employees and non-director, non-officer employees. The
Plans allow for the granting of options to purchase up to 264,000 shares
of Common Stock for terms up to ten years. Non-employee directors receive
an annual grant of options to purchase 1,000 shares of the Company's
Common Stock (as adjusted) at fair market value not to exceed $10.00 per
share. Non-employee directors will be granted an additional 1,000 options
if the Company's pre-tax income for the fiscal year exceeds 110% of the
immediate prior fiscal year's pre-tax income, and an additional 1,000
options if the pre-tax income for the fiscal year exceeds 115% of the
immediate prior fiscal year's pre-tax income. The exercise price for the
additional incentive stock options shall be 85% of fair market value of
the Common Stock as defined in the Plan. The maximum annual grant to an
eligible participant in any one fiscal year of the Company shall not
exceed 3,000 shares. Key employee and non-director, non-officer employee
options are administered by the compensation committee of the Board of
Directors and options are granted at their sole discretion. In 1996 the
Company adopted
F-14
<PAGE>
10. Capital Stock, continue:
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock Based Compensation" (SFAS 123). As permitted by SFAS 123, the
Company has chosen to apply APB Opinion No. 25, "Accounting for Stock
Issued to Employees" (APB 25) and related Interpretations in accounting
for its Plans. Had compensation cost for the Company's Plans been
determined based on the fair value at the grant dates for awards under
the Plans consistent with SFAS 123, the Company's net income and net
income per share as reported would have been reduced to the pro forma
amounts indicated below:
<TABLE>
<CAPTION>
1999 1998
------------------------ -------------------------
As Pro As Pro
Reported Forma Reported Forma
-------- ----- -------- -----
<S> <C> <C> <C> <C>
Net income $ 1,055,443 $ 885,082 $ 744,649 $ 577,449
============ ========= ========= ===========
Net income per share - basic $ 0.78 $ 0.65 $ 0.55 $ 0.43
============ ========= ========= ===========
Net income per share - diluted $ 0.66 $ 0.42 $ 0.50 $ 0.42
============ ========= ========= ===========
</TABLE>
The fair value of each option grant is estimated on the date of grant
using an option-pricing model such as (Black-Scholes), with the following
weighted-average assumptions used for grants in 1999 and 1998,
respectively: dividend yield of 3% in 1999 and 0% 1998, as there has been
no regular dividend payment history prior to 1998, expected volatility of
28% and 30%; risk-free interest rates of 6.15% to 6.25%, and 5.50%
respectively and expected lives of 6.67 and 7.07 years.
A summary of the status of the Company's Plans as of December 31, 1999
and 1998 and changes during the years ended on those dates is presented
below:
<TABLE>
<CAPTION>
1999 1998
---------------------- ----------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
------ ----- ------ -----
<S> <C> <C> <C> <C>
Outstanding at beginning of year 203,400 $ 6.58 138,900 $ 6.59
Granted 50,500 5.13
Granted 3,000 6.00 72,000 6.54
Returned (10,000) 8.35 -- --
Canceled (3,000) 5.60 (7,500) 6.54
Exercised (10,000) 5.00 -- --
------- --------
Outstanding at end of year 233,900 6.31 203,400 6.58
======= ========
Options exercisable at end of year 196,850 $ 6.31 163,350 $ 6.63
======== ======== ======== ========
Weighted-average fair value of options granted
during the year $ 5.18 $ 6.54
</TABLE>
The following table summarizes information about the Plan's stock options
at December 31, 1999:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
-------------------------------------------------------- ------------------------------------
Number Weighted-Average Number
Range of Outstanding at Remaining Weighted-Average Exercisable at Weighted-Average
Exercise Prices December 31, 1999 Contractual Life Exercise Price December 31, 1999 Exercise Price
--------------- ----------------- ----------------- ----------------- ----------------- ----------------
<S> <C> <C> <C> <C> <C> <C> <C>
$4.00-$4.99 24,400 5.0 years $4.60 24,400 $4.60
$5.00-$5.99 63,500 8.7 5.17 36,350 5.18
$6.00-$6.99 86,500 7.2 6.51 76,600 6.51
$7.00-$7.99 29,500 7.0 7.25 29,500 7.25
$8.00-$8.99 28,000 4.5 8.13 28,000 8.13
$9.00-$9.99 2,000 4.4 9.40 2,000 9.40
-------- -------
233,900 196,850
======== =======
</TABLE>
F-15
<PAGE>
11. Benefit Plans:
The Company has a non-qualified retirement plan for its Chairman of the
Board under which (at his annual election), all or a portion of his
salary and bonuses are placed into an off-balance sheet trust fund. The
assets in the trust fund are subject to the claims of the general
creditors of the Company. Excluding this claim, the assets of the trust
fund are restricted solely for the distribution to the Chairman upon his
retirement, termination or death. From the date of the plan until January
1, 1998, the Chairman elected to defer all salary and bonus. From its
inception in January 1992, $938,868 of salary and bonuses has been placed
into the trust.
The Company provides a 401(k) defined contribution plan for its
employees. All employees are eligible to participate in the Plan.
Employees may contribute from 1% to 15% of their compensation to the
Plan. The Company may at its discretion, make contributions to the Plan
in accordance with applicable rules. The Company's contribution in 1999
and 1998 was $62,131 and $50,019, respectively.
12. Operating Lease:
The Company leases office space in a building owned by a partnership in
which the partners are adult children of the Chairman of the Board of the
Company. The lease requires minimum monthly payments through May 6, 2001
of $8,213 which is subject to adjustment on March 1, each year based on
the increase in the consumer price index over the prior year. The Company
leases the entire first floor of the building. The Company may, at its
option, sublease any unoccupied portion of its space. The Company
additionally assumed an existing lease on its Seattle office which calls
for monthly rent of $2652, through October 31, 2000 and $2730, from
November 1, 2000 through October 31, 2001.
Future minimum lease payments under these non-cancelable lease agreements
are as follows:
Year Ending
December 31,
------------
2000 $ 170,808
2001 59,865
------------
$ 230,673
Total rent expense for the years ended December 31, 1999 and 1998 was
approximately $171,000 and $153,000, respectively.
13. Fair Value of Financial Instruments:
The following methods and assumptions were used to estimate the value of
each class of financial instrument for which it is practicable to
estimate that value. Potential income tax ramifications related to the
realization of unrealized gains and losses that would be incurred in an
actual sale and/or settlement have not been taken into consideration.
Cash and Cash Equivalents - Carrying value approximates fair value.
Marketable Securities - Fair value is determined by quoted market
prices.
Loans Receivable - Fair values are determined using the discounted
value of future cash flows at a rate currently offered for loans of
similar characteristics.
Note Payable to Bank and Long-Term Debt - Fair value approximates the
carrying value because the notes bear current interest rates.
F-16
<PAGE>
13. Fair Value of Financial Instruments, continued:
The estimated fair values of the following financial instruments as of
December 31, 1999 and 1998 are as follows:
<TABLE>
<CAPTION>
1999 1998
----------------------------- -----------------------------
Carrying Fair Carrying Fair
Value Value Value Value
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents $ 590,630 $ 590,630 $ 750,218 $ 750,218
Marketable securities 195,684 195,684 219,502 219,502
Loans receivable (face):
Commercial real estate 42,833,844 45,211,026 40,411,783 43,044,562
Financial liabilities:
Note payable to bank 36,781,267 36,781,267 35,243,164 35,243,164
Long-term debt 3,103,269 3,103,269 3,147,579 3,147,579
</TABLE>
Limitations - The fair value estimates are made at a discrete point in
time based on relevant market information and information about the
financial instruments. Because no market exists for a portion of these
financial instruments, fair value estimates are based on judgments
regarding current economic conditions and other factors. These estimates
are subjective in nature and involve uncertainties and matters of
significant judgment and, therefore, cannot be determined with precision.
Changes in assumptions could significantly affect the estimates.
Accordingly, the estimates presented herein are not necessarily
indicative of what the Company could realize in a current market
exchange.
14. Earnings Per Share Computation:
<TABLE>
<CAPTION>
For the Year ended December 31, 1999
Weighted- Per-share
Net Income Average shares Amount
---------- -------------- ------
<S> <C> <C> <C>
Basic Earnings Per Share:
Income available to
Stockholders $1,055,443 1,359,221 $ .78
=======
Effect of Dilutive Securities
Interest on convertible subordinated
debentures (net of tax) 332,430 742,822
Common stock options -- 14,201
---------- ----------
Diluted Earnings Per Share
Income available to common
stockholders + assumed conversions $1,387,873 2,116,244 $ .66
========== ========== =======
</TABLE>
F-17
<PAGE>
14. Earnings Per Share Computation, continued:
<TABLE>
<CAPTION>
For the Year ended December 31, 1998
Weighted- Per-share
Net Income Average shares Amount
---------- -------------- ------
<S> <C> <C> <C>
Basic Earnings Per Share:
Income available to
Stockholders $ 744,649 1,354,397 $ .55
=======
Effect of Dilutive Securities
Interest on convertible subordinated
debentures (net of tax) 294,433 686,642
Common stock options -- 17,448
---------- ----------
Diluted Earnings Per Share
Income available to common
stockholders + assumed conversions $1,039,082 2,058,487 $ .50
========== ========== =======
</TABLE>
15. Reportable Segments-Source Capital Leasing Co:
The Company's consolidated financial statements include certain
reportable segment information. The Company's two reportable segments
consist of lending and leasing activities. All accounting policies of
the segments are the same as those described in the summary of
significant accounting policies. The Company evaluates the performance
of the segments based upon multiple variables including lease income,
interest income interest expense and profit or loss after tax. The
Company does not allocate any unusual items to the segment.
The segment's profit and loss components and schedule of assets as of
December 31, 1999 an 1998 is as follows:
<TABLE>
<CAPTION>
1999 1998
Leasing Lending Leasing Lending
------- ------- ------- -------
<S> <C> <C> <C> <C>
Income commercial real estate $ -- $ 6,643,653 $ -- $ 5,516,650
Income lease financing 3,031,373 -- 1,482,206 --
Interest expense 919,669 3,171,725 465,719 2,697,136
Depreciation 18,443 48,474 9,695 40,365
Income tax expense 80,300 479,900 45,000 339,100
Net income 139,695 915,748 87,062 657,587
Significant non-cash items
other than depreciation 406,845 -- 276,496 25,500
Real estate lending assets -- 50,564,603 -- 48,150,421
Leasing assets 15,697,149 -- 14,405,417 --
Real estate and equipment owned 231,824 362,542 18,521 374,492
</TABLE>
Reconciliation of segment net income, total assets, notes payable and
other significant items for the year ended December 31, 1999 and 1998
follows:
<TABLE>
<CAPTION>
Profit or loss 1999 1998
-------------- ---- ----
<S> <C> <C>
Leasing net income (loss) $ 139,695 $ 87,062
Adjustment for income taxes (479,900) (339,100)
Unallocated amounts:
Revenue of real estate lending 6,667,222 5,606,840
Expenses of real estate lending (5,271,574) (4,610,153)
Consolidated net income after tax $ 1,055,443 $ 744,649
=========== ===========
</TABLE>
F-18
<PAGE>
15 Reportable Segments-Source Capital Leasing Co, continued:
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Total Assets
Net lease investment $ 14,224,409 $ 14,006,137
Unallocated assets of leasing 1,472,740 399,280
Elimination of intercompany (4,186,899) (3,489,562)
Commercial loans receivable, net 42,833,844 40,411,783
Unallocated assets of real estate lending 6,769,476 7,238,603
------------ ------------
Consolidated assets $ 61,113,570 $ 58,566,241
Debt
Leasing note payable $ 10,676,267 $ 10,608,164
Real estate lending note payable 26,105,000 24,635,000
Real estate lending long-term debt 3,103,269 3,147,579
Real estate lending convertible subordinated debentures 5,950,000 6,000,000
------------ ------------
Consolidated notes payable and long-term debt $ 45,834,536 $ 44,390,743
============ ============
</TABLE>
<TABLE>
<CAPTION>
Real Estate
Other Significant Items Leasing Lending
1999 Total Total Consolidated
----- ----- ------------
<S> <C> <C> <C>
Interest expense $ 919,669 $3,171,725 $4,091,394
Provision for loan and lease losses $ 578,353 $ -- $ 578,353
1998
Interest expense $ 465,719 $2,697,136 $3,162,855
Provision for loan and lease losses $ 276,486 $ 11,000 $ 287,486
</TABLE>
F-19
EXHIBIT 21
The wholly owned subsidiaries of the Registrant are as follows:
Source Capital Leasing Co.
1825 N. Hutchinson Rd.
Spokane, WA 00212
Source Capital Finance Inc.
1825 N. Hutchinson Rd.
Spokane, WA 99212
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C> <C>
<PERIOD-TYPE> 12-MOS 12-MOS
<FISCAL-YEAR-END> DEC-31-1999 DEC-31-1998
<PERIOD-END> DEC-31-1999 DEC-31-1998
<CASH> 590,630 750,218
<SECURITIES> 195,684 219,502
<RECEIVABLES> 57,597,829 54,839,212
<ALLOWANCES> 539,576 421,292
<INVENTORY> 0 0
<CURRENT-ASSETS> 0 0
<PP&E> 0 0
<DEPRECIATION> 0 0
<TOTAL-ASSETS> 61,113,570 58,566,241
<CURRENT-LIABILITIES> 0 0
<BONDS> 0 0
0 0
0 0
<COMMON> 7,052,881 7,006,849
<OTHER-SE> 2,049,047 2,049,047
<TOTAL-LIABILITY-AND-EQUITY> 61,113,570 58,566,241
<SALES> 9,675,026 7,096,441
<TOTAL-REVENUES> 0 0
<CGS> 0 0
<TOTAL-COSTS> 0 0
<OTHER-EXPENSES> 3,389,636 2,517,351
<LOSS-PROVISION> 578,353 287,486
<INTEREST-EXPENSE> 4,091,394 3,162,855
<INCOME-PRETAX> 1,615,643 1,128,749
<INCOME-TAX> 560,200 384,100
<INCOME-CONTINUING> 1,055,443 744,649
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> 1,055,443 744,649
<EPS-BASIC> .78 .55
<EPS-DILUTED> .66 .50
</TABLE>
