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U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K/A
(Mark One)
[X] Annual Report under Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the fiscal year ended June 30, 1999
[ ] Transition report under Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from _______________ to ________________
Commission File No. 000-22474
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AMERICAN BUSINESS FINANCIAL SERVICES, INC.
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(Name of registrant as specified in its charter)
Delaware 87-0418807
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(State or other jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
111 Presidential Boulevard, Bala Cynwyd, PA 19004
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(Address of Principal Executive Offices) (Zip Code)
(610) 668-2440
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(Registrant's Telephone Number, Including Area Code)
Securities registered under Section 12(b) of the Exchange Act: None
Securities registered under
Section 12(g) of the Exchange Act:
Common Stock, par value
$.001 per share
---------------
(Title of Class)
Indicate by check mark whether the Registrant (1) filed all reports
required to be filed by Section 13 or 15(d) of the 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. [X] YES [ ] NO
Indicate by check mark if disclosure of delinquent filers in response
to Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of Registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of the Form 10-K or
amendment to this Form 10-K. [ ] YES [X] NO
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The aggregate market value of the 1,847,875 shares of common stock,
$.001 par value per share, held by non-affiliates of the Registrant as of
September 3, 1999 was $23.4 million.
The number of shares outstanding of the Registrant's sole class of
common stock as of September 3, 1999 was 3,587,014 shares. (The share amounts
stated above give effect to a 5% stock dividend declared on August 18, 1999 and
payable on September 27, 1999 to stockholders of record on September 3, 1999.)
DOCUMENTS INCORPORATED BY REFERENCE:
Part III - Proxy Statement for 1999 Annual Meeting of Stockholders
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Part I
Item 1. Business
Forward Looking Statements
Some of the information in this Form 10-K or the documents incorporated
by reference in this Form 10-K may contain forward-looking statements. You can
identify these statements by the appearance of phrases such as "will likely
result," "may," "are expected to," "is anticipated," "estimate," "projected,"
"intends to" or other similar words. Forward-looking statements are subject to
certain risks and uncertainties, including but not limited to the following:
o market conditions and real estate values in our primary lending area;
o credit risk related to our borrowers;
o our dependence on securitizations;
o our ability to sustain our revenue and earnings growth;
o our ability to implement our growth strategy;
o competition;
o our dependence on debt financing to fund our operations;
o changes in interest rates;
o our ability to implement an effective hedging strategy;
o the geographic concentration of our loans;
o state and federal regulation and licensing requirements applicable to
our lending activities;
o claims by borrowers or investors;
o dependence on key personnel;
o environmental regulation; and
o risks associated with year 2000 computer systems problems.
All of the above risks could cause our actual results to differ
materially from historical earnings and those presently anticipated. When
considering forward-looking statements, you should keep these risk factors in
mind as well as the other cautionary statements in this Form 10-K. You should
not place undue reliance on any forward-looking statement. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
General
American Business Financial Services, Inc. is a diversified financial
services company operating throughout the United States. We originate loans
through a combination of channels including a national processing center located
at our centralized operating office in Bala Cynwyd, Pennsylvania, and a retail
branch network of offices. Through our principal direct and indirect
subsidiaries, we originate, service and sell:
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o loans to businesses secured by real estate and other business
assets, which we refer to in this document as business purpose
loans;
o mortgage loans which are secured by first and second mortgages
on single-family residences and which do not satisfy the
eligibility requirements of Fannie Mae, Freddie Mac or similar
buyers which we refer to in this document as home equity
loans; and
o mortgage loans which are secured by first mortgages on one-to
four-unit residential properties, most of which satisfy the
eligibility requirements of Fannie Mae and Freddie Mac, which
are referred to in this document as conventional first
mortgage loans.
o small ticket business leases, which generally involve amounts
of $2,000 to $250,000.
In addition, we have entered into business arrangements with several
financial institutions. According to these business arrangements, we will
purchase home equity loans that meet our underwriting criteria but do not meet
the underwriting guidelines of the selling institution for loans it holds in its
portfolio. The loans are originated by the selling institution and immediately
sold to us. Following our purchase of the loans through this program, we hold
these loans as available for sale until they are sold in connection with a
future securitization. We refer to these business arrangements in this document
as the Bank Alliance Program.
Our loan customers fall primarily into two categories. The first
category of customers includes credit-impaired borrowers who are generally
unable to obtain financing from banks or savings and loan associations. These
institutions have historically provided loans only to individuals with the most
favorable credit characteristics. These borrowers generally have impaired or
unsubstantiated credit histories and/or unverifiable income. The second category
of customers includes borrowers who would qualify for loans from traditional
lending sources but who still prefer to use our products and services. Our
experience has indicated that these borrowers are attracted to our loan products
as a result of our marketing efforts, the personalized service provided by our
staff of highly trained lending officers and our timely response to loan
requests. Historically, both categories of customers have been willing to pay
our origination fees and interest rates even though they are generally higher
than those charged by traditional lending sources. Leases in our managed
portfolio were typically made to small businesses or proprietorships with less
than 100 employees and favorable credit histories.
We were incorporated in Delaware in 1985 and we began operations in
1988, initially offering business purpose loans secured by real estate through
our subsidiary, American Business Credit. References in this document to "ABFS,"
"we," "us," and "our" refer to American Business Financial Services, Inc. and
its subsidiaries. Certain financial information contained in this document has
been adjusted to reflect a 5% stock dividend declared on August 18, 1999 and
payable on September 27, 1999.
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The ongoing securitization of our loans and leases is a central part of
our current business strategy. A securitization is a financing technique often
used by originators of financial assets to raise capital. A securitization
involves the transfer of a pool of financial assets, in our case, loans or
leases, to a trust in exchange for certificates, notes or other securities
issued by the trust and representing an undivided interest in the trust assets.
The transfer to the trust could involve a sale or pledge of the financial assets
depending on the particular transaction. Next, we sell a portion of the
certificates, notes or other securities to investors for cash. Often the
originator of the loans or leases retains the servicing rights, which is the
right to service the loans for a fee. The originator may also retain an interest
in the cash flows generated by the securitized loans which is subordinate to the
regular interest sold to investors. This interest in the cash flows generated by
the securitized loans is called an interest-only strip. Through June 30, 1999,
we had securitized an aggregate of $1.3 billion of loans and leases, consisting
of $201.3 million of business purpose loans, $969.8 million of home equity
loans, and $152.3 of equipment leases. We retain the servicing rights on all
securitized loans and leases. See "-- Securitizations."
In addition to securitizations, we fund our operations with
subordinated debt that we offer by means of a prospectus which was declared
effective by the SEC from our principal operating office located in Pennsylvania
and branch offices located in Florida and Arizona. We have offered this debt
without the assistance of an underwriter or dealer. At June 30, 1999, we had
$211.7 million in subordinated debt outstanding. This debt had a weighted
average interest rate of 9.35% and a weighted average maturity of 21 months as
of June 30, 1999. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Liquidity and Capital Resources."
We continue to explore a variety of strategic options to broaden our
product offerings and reduce our cost of funds. To achieve these goals, we may
consider various electronic commerce initiatives, the acquisition of other
finance companies or related companies, the purchase of portfolios of loans, the
issuance of secured credit cards, the origination and servicing of loans insured
by the Small Business Administration and the engagement of independent NASD
registered brokers to assist in the sale of the subordinated debt securities. We
cannot assure you that we will engage in any of the activities listed above or
the impact of those activities on our financial condition or results of
operations.
Our principal executive office is located at 103 Springer Building,
3411 Silverside Road, Wilmington, Delaware 19810. The telephone number at that
address is (302) 478-6160. Our principal operating office and the executive
offices of our subsidiaries are located at Balapointe Office Centre, 111
Presidential Boulevard, Suite 215, Bala Cynwyd, PA 19004. The telephone number
at the Balapointe Office Centre is (610) 668-2440. We maintain a site on the
World Wide Web at www.abfsonline.com. The information on our web site is not and
should not be considered part of this document.
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Subsidiaries
As a holding company, our activities have been limited to:
(1) holding the shares of our operating subsidiaries, and
(2) raising capital for use in the subsidiaries' lending operations.
ABFS is the parent holding company of American Business Credit, Inc.
and its primary subsidiaries, HomeAmerican Credit, Inc. (doing business as
Upland Mortgage), Processing Service Center, Inc., American Business Leasing,
Inc., ABC Holdings Corporation and New Jersey Mortgage and Investment Corp. and
its subsidiary, Federal Leasing Corp.
American Business Credit, a Pennsylvania corporation incorporated in
1988 and acquired by us in 1993, originates, services and sells business purpose
loans. HomeAmerican Credit, a Pennsylvania corporation incorporated in 1991,
originates and sells home equity loans. HomeAmerican Credit acquired Upland
Mortgage Corp. in 1996 and since that time has conducted business as "Upland
Mortgage." Upland Mortgage also purchases home equity loans through the Bank
Alliance Program. Processing Service Center processes home equity loan
applications for financial institutions as part of the Bank Alliance Program.
Incorporated in 1994, American Business Leasing commenced operations in 1995 and
originates and services equipment leases held in our managed portfolio.
New Jersey Mortgage and Investment Corp., a New Jersey corporation
organized in 1938 and acquired by us in October 1997, is currently engaged in
the origination and sale of home equity loans, as well as first mortgage loans.
New Jersey Mortgage originates loans secured by real estate. These loans are
originated through New Jersey Mortgage's network of six branch sales offices and
three satellite offices. New Jersey Mortgage has been offering mortgage loans
since 1939. We currently sell first mortgage loans originated by American
Household Mortgage, a division of New Jersey Mortgage, in the secondary market
with servicing released. We also securitize home equity loans originated by New
Jersey Mortgage pursuant to our existing current securitization program.
New Jersey Mortgage's wholly-owned subsidiary, Federal Leasing Corp.,
is a Delaware corporation which was organized in 1974. Federal Leasing Corp.
currently services leases previously originated and sold through securitization.
ABC Holdings Corporation, a Pennsylvania corporation, was incorporated
in 1992 to hold properties acquired through foreclosure. Subsequent to year end,
we changed the name of this subsidiary to Tiger Relocation Company.
We also have numerous special purpose subsidiaries that were
incorporated solely to facilitate our securitizations. Some of those companies
are Delaware investment holding companies. None of these corporations engage in
any business activity other than holding the subordinated certificate, if any,
and the interest only and residual strips created in connection with
securitizations completed through Federal Leasing Corp. prior to its acquisition
by us. See "--Securitizations."
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The following chart sets forth our basic organizational structure(1).
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C>
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ABFS
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(Holding Company)
(Issues subordinated debt securities)
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AMERICAN BUSINESS CREDIT, INC.
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(Originates and services business purpose loans)
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HOME AMERICAN
NEW JERSEY CREDIT, INC. PROCESSING AMERICAN ABC
MORTGAGE AND d/b/a SERVICE BUSINESS HOLDINGS
INVESTMENT CORP. UPLAND CENTER, INC. LEASING, INC. CORP.
MORTGAGE
---------------------------------------------------------------------------------------------
(Originates and (Originates, (Processes bank (Originates (Holds
services first purchases and alliance and foreclosed
mortgage and services home program services real estate)
home equity equity loans)(2) home equity equipment
loans) loans) leases)
---------------------------------------------------------------------------------------------
FEDERAL
LEASING CORP.
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(Originates
equipment
leases)
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</TABLE>
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(1) In addition to the corporations pictured above, we organized at least one
special purpose corporation for each of these securitizations.
(2) Loans purchased by Upland Mortgage represent loans acquired through the Bank
Alliance Program.
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Lending and Leasing Activities
General. The following table sets forth certain information concerning
our loan and lease origination, purchase and sale activities for the years
indicated. We did not originate first mortgage loans prior to October 1997.
<TABLE>
<CAPTION>
June 30,
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1999 1998 1997
----------- ------------ --------------
(dollars in thousands)
<S> <C> <C> <C>
Loans/Leases Originated/Purchased
(Net of refinances)
Business purpose loans......................... $ 64,818 $ 52,335 $38,712
Home equity loans.............................. $634,820 $328,089 $91,819
First mortgage loans........................... $ 66,519 $ 33,671 --
Equipment leases............................... $ 96,289 $ 70,480 $ 8,004
Number of Loans/Leases Originated/Purchased
Business purpose loans......................... 806 632 498
Home equity loans.............................. 8,251 5,292 1,791
First mortgage loans........................... 781 218 --
Equipment leases............................... 4,138 3,350 743
Average Loan/Lease Size
Business purpose loans......................... $ 80 $ 83 $ 78
Home equity loans.............................. $ 74 $ 62 $ 51
First mortgage loans........................... $ 165 $ 154 --
Equipment leases............................... $ 23 $ 21 $ 11
Weighted Average Interest Rate on Loans/Leases
Originated/Purchased
Business purpose loans......................... 15.91% 15.96% 15.91%
Home equity loans.............................. 11.05% 11.95% 11.69%
First mortgage loans........................... 7.67% 8.22% --
Equipment leases............................... 11.40% 12.19% 15.48%
Weighted Average Term (in months)
Business purpose loans......................... 169 172 184
Home equity loans.............................. 261 244 218
First mortgage loans........................... 322 340 --
Equipment leases............................... 50 49 40
Loans/Leases Sold
Business purpose loans......................... $ 71,931 $ 54,135 $38,083
Home equity and First mortgage loans........... $613,070 $322,459 $80,734
Equipment leases............................... $ 92,597 $ 59,700 --
Number of Loans/Leases Sold
Business purpose loans......................... 911 629 497
Home equity and First mortgage loans........... 8,074 4,753 1,631
Equipment leases............................... 4,363 3,707 --
Weighted Average Rate on Loans/Leases
Originated..................................... 11.30% 11.63% 13.09%
</TABLE>
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The following table sets forth information regarding the average
loan-to-value ratios for loans we originated during the periods indicated. We
did not originate any first mortgage loans prior to October 1997.
<TABLE>
<CAPTION>
Year Ended June 30,
-----------------------------------------------
Loan Type 1999 1998 1997
------------------------------------------------------- ------------ -------------- -------------
<S> <C> <C> <C>
Business purpose loans ............................ 61.5% 60.5% 60.0%
Home equity loans ................................. 78.0 76.6 72.0
First mortgage loans .............................. 78.0 79.9 --
</TABLE>
The following table shows the geographic distribution of our loan and
lease originations and purchases during the periods indicated.
<TABLE>
<CAPTION>
Year Ended June 30,
---------------------------------------------------------------------------------
1999 % 1998 % 1997 % 1996 %
---------- --------- ------------------- --------- ---------- --------- ---------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
New Jersey................... $ 236,976 27.48% $ 128,025 26.38% $ 40,725 29.39% $20,986 29.33%
New York..................... 163,580 18.97 54,907 11.31 8,343 6.02 7,417 10.36
Pennsylvania................. 139,992 16.23 150,048 31.06 53,834 38.85 33,324 46.57
Florida...................... 61,312 7.11 23,905 4.93 3,670 2.65 674 0.94
Georgia...................... 59,395 6.89 23,084 4.76 10,092 7.28 181 0.25
Illinois..................... 27,663 3.21 -- -- -- -- -- --
California................... 20,487 2.38 12,709 2.62 -- -- -- --
Maryland..................... 19,625 2.28 11,748 2.42 5,010 3.61 4,408 6.16
Ohio......................... 17,155 1.99 -- -- -- -- -- --
Virginia..................... 17,126 1.99 13,138 2.71 5,469 3.95 104 0.15
Delaware..................... 14,254 1.65 10,823 2.23 3,117 2.25 2,724 3.81
Connecticut.................. 14,052 1.63 5,964 1.23 2,005 1.45 87 0.12
North Carolina............... 13,648 1.58 5,144 1.06 4,245 3.06 78 0.11
Texas........................ 6,631 .77 6,430 1.33 -- -- -- --
Other........................ 50,550 5.84 38,650 7.98 2,073 1.49 1,575 2.20
--------- --------- ------------------- ---------- ---------- -------- ---------
Total................... $ 862,446 100.00% $484,575 100.00% $138,583 100.00% $71,558 100.00%
========= ========= =================== ========== ========== ======== =========
</TABLE>
Business Purpose Loans. Through our subsidiary, American Business
Credit, we currently originate business purpose loans through a retail network
of salespeople in Connecticut, Delaware, Florida, Georgia, Maryland, New Jersey,
New York, Ohio, Pennsylvania and Virginia. We focus our marketing efforts on
small businesses who do not meet all of the credit criteria of commercial banks
and small businesses that our research indicates may be predisposed to using our
products and services.
We originate business purpose loans to corporations, partnerships, sole
proprietors and other business entities for various business purposes including,
but not limited to, working capital, business expansion, equipment acquisition
and debt-consolidation. We do not target any particular industries or trade
group and, in fact, take precautions against concentration of loans in any one
industry group. All business purpose loans generally are collateralized by a
first or second mortgage lien on a principal residence or some other parcel of
real property, such as office and apartment buildings and mixed use buildings,
owned by the borrower, a principal of the borrower, or a guarantor of the
borrower. In addition, in most cases, these loans are further collateralized by
personal guarantees, pledges of securities, assignments of contract rights, life
insurance and lease payments and liens on business equipment and other business
assets.
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Our business purpose loans generally ranged from $15,000 to $500,000
and had an average loan size of approximately $80,000 for the loans originated
during the year ended June 30, 1999. Generally, our business purpose loans are
made at fixed rates and for terms ranging from five to 15 years. We generally
charge origination fees for these loans of 5.0% to 6.0% of the original
principal balance. The weighted average interest rate charged on the business
purpose loans originated by us was 15.91% for the year ended June 30, 1999. The
business purpose loans we securitized during the past fiscal year had a weighted
average loan-to-value ratio, based solely upon the real estate collateral
securing the loans, of 61.5% at the time of securitization. See
"--Securitizations." We originated $64.8 million of business purpose loans for
the year ended June 30, 1999.
Generally, we compute interest due on its outstanding loans using the
simple interest method. Where permitted by applicable law, we impose a
prepayment fee. Although prepayment fees imposed vary based upon applicable
state law, the prepayment fees on our business purpose loan documents generally
amount to a significant portion of the outstanding loan balance. We believe that
such prepayment terms tend to extend the average life of our loans by
discouraging prepayment which makes these loans more attractive for
securitization. Whether a prepayment fee is imposed and the amount of such fee,
if any, is negotiated between the individual borrower and American Business
Credit prior to closing of the loan.
Home Equity Loans. We originate home equity loans through Upland
Mortgage and New Jersey Mortgage primarily to credit-impaired borrowers through
retail marketing which includes telemarketing operations, direct mail, radio and
television advertisements as well as through our interactive web site. We
entered the home equity loan market in 1991. Currently, we are licensed to
originate home equity loans in 44 states across the United States.
Home equity loans originated and funded by our subsidiaries are
generally securitized. In addition, we sell home equity loans to one of several
third party lenders, at a premium and with servicing released. Currently, we
build portfolios of home equity loans for the purpose of securitizing such
loans.
Home equity loan applications are obtained from potential borrowers
over the phone, in person or over the Internet through our interactive web site.
The loan request is then processed and closed. The loan processing staff
generally provides its home equity borrowers with a loan approval within 24
hours and closes its home equity loans within approximately seven to ten days of
obtaining a loan approval.
Home equity loans generally range from $10,000 to $250,000 and had an
average loan size of approximately $74,000 for the loans originated during the
year ended June 30, 1999. During the year ended June 30, 1999, we originated
$634.8 million of home equity loans. Generally, home equity loans are made at
fixed rates of interest and for terms ranging from five to 30 years. Such loans
generally have origination fees of approximately 2.0% of the aggregate loan
amount. For the year ended June 30, 1999, the weighted average interest rate
received on such loans was 11.05% and the average loan-to-value ratio was 78.0%
for the loans originated by us during such period. We attempt to maintain our
interest and other charges on home equity loans competitive with the lending
rates of other finance companies and banks. Where permitted by applicable law, a
prepayment fee may be imposed and is generally charged to the borrower on the
prepayment of a home equity loan except in the event the borrower refinances a
home equity loan with us.
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In fiscal 1996, through Upland Mortgage and in conjunction with
Processing Service Center, Inc., we entered into business arrangements with
several financial institutions which provide for Upland Mortgage's purchase of
home equity loans that meet our underwriting criteria but do not meet the
underlying guidelines of the selling institution for loans held in its
portfolio. This program is called the Bank Alliance Program. The Bank Alliance
Program is designed to provide an additional source of home equity loans. This
program targets traditional financial institutions, such as banks, which because
of their strict underwriting and credit guidelines have generally provided
mortgage financing only to the most credit-worthy borrowers. This program allows
these financial institutions to originate loans to credit-impaired borrowers in
order to achieve community reinvestment goals and to generate fee income and
subsequently sell such loans to Upland Mortgage. We believe that the Bank
Alliance Program is a unique method of increasing our production of home equity
loans.
Under this program, a borrower who fails to meet a financial
institution's underwriting guidelines will be referred to Processing Service
Center, Inc. which will process the loan application and underwrite the loan
pursuant to Upland Mortgage's underwriting guidelines. If the borrower qualifies
under Upland Mortgage's underwriting standards, the loan will be originated by
the financial institution and subsequently sold to Upland Mortgage.
Since the introduction of this program, we have entered into agreements
with 22 financial institutions to provide us with the opportunity to underwrite,
process and purchase loans generated by the branch networks of such institutions
which consist of in excess of 1,500 branches located in Colorado, Delaware,
Florida, Georgia, Indiana, Maryland, Michigan, Nebraska, New Hampshire, New
Jersey, Ohio, Pennsylvania and Tennessee. During fiscal 1999, Upland Mortgage
purchased in excess of $35.0 million of loans pursuant to this program. We
intend to continue to expand the Bank Alliance Program with financial
institutions across the United States.
During fiscal 1999, we launched an Internet loan distribution channel
under the name www.UplandMortgage.com. Through this interactive web site,
borrowers can calculate interest payments and submit an application via the
Internet. The Upland Mortgage Internet platform provides borrowers with
convenient access to the mortgage loan application process, 7 days a week, 24
hours a day. We believe that the addition of this distribution channel maximizes
the efficiency of the application process and could reduce our transaction costs
in the future to the extent the volume of loan applications received via the web
page increases. Throughout the loan processing period, borrowers who submit
applications on line are supported by our staff of highly trained loan officers.
We intend to continue to enhance our web site in order to permit online
underwriting, approval and processing of a loan application.
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Conventional First Mortgage Loans. We began offering conventional first
mortgage loans in October 1997 in connection with our acquisition of New Jersey
Mortgage. New Jersey Mortgage has been originating mortgage loans since 1939. We
originate conventional first mortgage loans and sell them in the secondary
market with servicing released. Our conventional first mortgage lending market
area is primarily the eastern region of the United States. We originated $66.5
million of conventional first mortgage loans during the year ended June 30,
1999.
The conventional first mortgage loans are secured by one-to four-unit
residential properties located primarily in the eastern region of the United
States. These properties are generally owner-occupied single family residences
but may also include second homes and investment properties. These loans are
generally made through American Household Mortgage, a division of New Jersey
Mortgage, to borrowers with favorable credit histories and are underwritten
pursuant to Freddie Mac or Fannie Mae standards to permit their sale in the
secondary market, however, we also originate first mortgage loans which do not
meet the Freddie Mac or Fannie Mae standards for sale in the secondary market.
Certain of these first mortgage loans have balances of $240,000 or greater and
are commonly referred to as jumbo loans.
New Jersey Mortgage typically sells such loans to third parties with
servicing released. New Jersey Mortgage also originates Federal Housing
Authority ("FHA") and Veterans Administration ("VA") loans which are
subsequently sold to third parties with servicing released. This means that we
do not generally retain the right to collect and service these loans after they
are sold. New Jersey Mortgage originates such loans for sale in the secondary
market.
Equipment Leases. Equipment leases held in our managed portfolio
included leases to corporations, partnerships, other entities and sole
proprietors on various types of business equipment including, but not limited
to, computer equipment, automotive repair equipment, construction equipment,
commercial equipment, medical equipment and industrial equipment.
Generally, our equipment leases consist of two types:
(1) finance leases which have a term of 12 to 60 months and provide a
purchase option exercisable by the lessee at $1.00 or 10% of the
original equipment cost at the termination of the lease, and
(2) fair market value or true leases which have a similar term, but
provide a purchase option exercisable by the lessee at the fair
market value of the equipment at the termination of the lease.
Our equipment leases generally range in size from $2,000 to $250,000, with an
average lease size of approximately $23,000 for the leases originated during the
year ended June 30, 1999. Our leases generally had maximum terms of seven years.
The weighted average interest rates received on leases for the year ended June
30, 1999 was 11.40%. During the year ended June 30, 1999, we originated $96.3
million of equipment leases. Generally, the interest rates and other terms and
conditions of our equipment leases are competitive with the leasing terms of
other leasing companies in our market area.
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There are risks inherent in holding leases which are different than
those risks inherent in our mortgage lending activities. See "Risk Factors -- If
we experience losses in the value of our leased equipment securing the leases we
hold, our revenues may be reduced."
Prepayment Fees. Historically, we charged prepayment fees on a
significant percentage of our business purpose loans and on less than 50% of our
home equity loans. We currently charge prepayment fees on substantially all of
our business purpose loans, and have increased the percentage of home equity
loans originated with prepayment fees to approximately 85% of home equity loans
originated. Home equity loans comprise approximately 90% of all loans we
originate and the remaining 10% are business purpose loans. The type of
prepayment fee we obtain on a home equity loan is generally a certain percentage
of the outstanding principal balance of the loan. One typical prepayment fee
provides for a fee of 5% of the outstanding principal loan balance if paid
within the first three years after the loan's origination and 2% of the
outstanding principal loan balance if prepaid between three and five years after
the loan's origination and no prepayment fee if the loan is prepaid after five
years from the date of origination. In the case of business purpose loans, the
prepayment fee generally amounts to a significant portion of the outstanding
principal loan balance and is most often calculated on the basis of the Rule of
78s formula, also known as the "sum of the digits" method.
Our ability to charge a prepayment fee is sometimes impacted by state
law, with respect to both home equity loans and business purpose loans. In the
case of home equity loans which have a "balloon" payment feature, whenever
possible, we use the Federal Alternative Mortgage Transactions Parity Act of
1982 referred to as the Parity Act to preempt state laws which limit or restrict
prepayment fees. In states which have overridden the Parity Act and in the case
of some fully amortizing home equity loans, state laws may restrict prepayment
fees either by the amount of the prepayment fee or the time period during which
it can be imposed. Similarly, in the case of business purpose loans, some states
prohibit or limit prepayment fees where the loan is below a specific dollar
threshold or is secured by residential real property.
Marketing Strategy
We concentrate our marketing efforts primarily on two potential
customer groups. One group, based on historical profiles, has a tendency to
select our loan and lease products because of our personalized service and
timely response to loan requests. The other group is comprised of
credit-impaired borrowers who satisfy our underwriting guidelines. We also
market first mortgage loans and leases to borrowers with favorable credit
histories. See "--Risk Factors - Lending to credit-impaired borrowers may result
in higher delinquencies in our managed portfolio which could adversely impact
our financial condition and results of operations."
Our marketing efforts for business purpose loans focus on our niche
market of selected small businesses located in our market area which generally
includes the eastern half of the United States. We target businesses which we
believe would qualify for loans from traditional lending sources but would elect
to use our products and services. Our experience has indicated that these
borrowers are attracted to us as a result of our marketing efforts, the
personalized service provided by our staff of highly trained lending officers
and our timely response to loan applications. Historically, such customers have
been willing to pay our origination fees and interest rates which are generally
higher than those charged by traditional lending sources.
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We market business purpose loans through various forms of advertising,
and a direct sales force. Advertising media used includes large direct mail
campaigns and newspaper and radio advertising. Our commissioned sales staff,
which consists of full-time highly trained salespersons, is responsible for
converting advertising leads into loan applications. We use a proprietary
training program involving extensive and on-going training of our lending
officers. Our sales staff uses significant person-to-person contact to convert
direct mail advertising into loan applications and maintains contact with the
borrower throughout the application process. See "--Lending and Leasing
Activities - Business Purpose Loans."
We market home equity loans through telemarketing, direct mail
campaigns as well as television, Internet, radio and newspaper advertisements.
Our television advertising campaign is designed to complement the other forms of
advertising we used. Our integrated approach to media advertising is intended to
maximize the effect of our advertising campaigns. We also use a network of loan
brokers.
Our marketing efforts for home equity loans are concentrated in the
eastern region of the United States. In connection with the acquisition of New
Jersey Mortgage, we expanded our branch office network to include Illinois,
Ohio, Delaware, Pennsylvania and Virginia in its existing network of offices in
Georgia, Maryland, South Carolina and Florida. We intend to open additional
sales offices in other states in the future. Loan processing, underwriting,
servicing and collection procedures are performed at our main office located in
Pennsylvania. We also use the Bank Alliance Program as an additional source of
loans as well as our Internet web site. See "--Lending and Leasing
Activities-Home Equity Loans."
We market first mortgage loans through our network of loan brokers. Our
marketing efforts for first mortgage loans are concentrated in the mid-Atlantic
region of the United States. In addition, we market first mortgage loans under
the name American Household Mortgage. See "--Lending and Leasing Activities -
First Mortgage Loans."
Loan and Lease Servicing
Generally, we service the loans and leases we maintain as available for
sale or which we securitize in accordance with our established servicing
procedures. Servicing includes collecting and transmitting payments to
investors, accounting for principal and interest, collections and foreclosure
activities, and selling the real estate or other collateral that is acquired. At
June 30, 1999, our total managed portfolio included approximately 23,000 loans
and leases with an aggregate outstanding balance of $1.2 billion. We generally
receive contractual servicing fees for our servicing responsibilities. In
addition, we receive other ancillary fees related to the loans and leases
serviced. Our servicing and collections activities are centralized at our
principal operating office located in Bala Cynwyd, Pennsylvania.
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In servicing loans and leases, we typically send an invoice to obligors
on a monthly basis advising them of the required payment and its due date. We
begin the collection process immediately after a borrower fails to make a
monthly payment. When a loan or lease becomes 45 to 60 days delinquent, it is
transferred to our work-out department. The work-out department tries to
reinstate a delinquent loan or lease, seek a payoff, or occasionally enter into
a modification agreement with the borrower to avoid foreclosure. All proposed
work-out arrangements are evaluated on a case-by-case basis, based upon the
borrower's past credit history, current financial status, cooperativeness,
future prospects and the reasons for the delinquency. If the loan or lease
becomes delinquent 61 days or more and a satisfactory work-out arrangement with
the borrower is not achieved or the borrower declares bankruptcy, the matter is
immediately referred to our attorneys for collection. Legal action may be
initiated prior to a loan or lease becoming delinquent over 60 days if
management determines that the circumstances warrant such action.
Real estate acquired as a result of foreclosure or by deed in lieu of
foreclosure is classified as real estate owned until it is sold. When property
is acquired or expected to be acquired by foreclosure or deed in lieu of
foreclosure, we record it at the lower of cost or estimated fair value, less
estimated cost of disposition. After acquisition, all costs incurred in
maintaining the property are accounted for as expenses.
Our ability to foreclose on certain properties may be affected by state
and federal environmental laws. The costs of investigation, remediation or
removal of hazardous substances may be substantial and can easily exceed the
value of the property. The presence of hazardous substances, or the failure to
properly eliminate the substances from the property, can hurt the owner's
ability to sell or rent the property and prevent the owner from using the
property as collateral for a loan. Even people who arrange for the disposal or
treatment of hazardous or toxic substances also may be liable for the costs of
removal or remediation of the substances at the disposal or treatment facility,
whether or not the facility is owned or operated by the person who arranged for
the disposal or treatment. See "--Risk Factors - Environmental laws and
regulations may restrict our ability to foreclose on loans secured by real
estate."
As the servicer of securitized loans and leases, we are obligated to
advance funds for scheduled payments that have not been received from the
borrower unless we determine that our advances will not be recoverable from
subsequent collections in respect to the related loans or leases. See
"--Securitizations."
Underwriting Procedures and Practices
Summarized below are certain of the policies and practices which are
followed in connection with the origination of business purpose loans, home
equity loans, first mortgage loans and equipment leases. These policies and
practices may be altered, amended and supplemented as conditions warrant. We
reserve the right to make changes in our day-to-day practices and policies.
Our loan and lease underwriting standards are applied to evaluate
prospective borrowers' credit standing and repayment ability as well as the
value and adequacy of the mortgaged property or equipment as collateral.
Initially, the prospective borrower is required to fill out a detailed
application providing pertinent credit information. As part of the description
of the prospective borrower's financial condition, the borrower is required to
provide information concerning assets, liabilities, income, credit, employment
history and other demographic and personal information. If the application
demonstrates the prospective borrower's ability to repay the debt as well as
sufficient income and equity, loan processing personnel obtain and review an
independent credit bureau report on the credit history of the borrower and
verification of the borrower's income. Once all applicable employment, credit
and property information is obtained, a determination is made as to whether
sufficient unencumbered equity in the property exists and whether the
prospective borrower has sufficient monthly income available to meet the
prospective borrower's monthly obligations.
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Generally, business purpose loans collateralized by residential real
estate must have an overall loan-to-value ratio (based solely on the independent
appraised fair market value of the real estate collateral securing the loan) on
the properties collateralizing the loans of no greater than 75%. Business
purpose loans collateralized by commercial real estate must generally have an
overall loan-to-value ratio (based solely on the independent appraised fair
market value of the real estate collateral securing the loan) of no greater than
60% percent. In addition, in substantially all instances, we also receive
additional collateral in the form of, among other things, personal guarantees,
pledges of securities, assignments of contract rights, life insurance and lease
payments and liens on business equipment and other business assets, as
available. The business purpose loans we originated had an average loan-to-value
ratio of 61.5% for the year ended June 30, 1999.
The maximum acceptable loan-to-value ratio for home equity loans held
in portfolio or securitized is generally 90%. The home equity loans we
originated had an average loan-to-value ratio of 78.0% for the year ended June
30, 1999. Occasionally, exceptions to these maximum loan-to-value ratios are
made if other collateral is available or if there are other compensating
factors. From time to time, we make loans with loan-to-value ratios in excess of
90% which are sold with servicing released. Title insurance is generally
obtained in connection with all real estate secured loans.
We generally do not lend more than 95% of the appraised value in the
case of first mortgage loans, other than Federal Housing Authority and Veterans
Administration Loans. We generally require private mortgage insurance on all
first mortgage loans with loan-to-value ratios in excess of 80% at the time of
origination in order to reduce our exposure. We obtain mortgage insurance
certificates from the FHA on all FHA loans and loan guaranty certificates from
the VA on all VA loans regardless of the loan-to-value ratio on the underlying
loan amount.
We believe that the consistent application of the criteria described
above may mitigate some of the risks associated with lending to non-conforming
borrowers.
In determining whether the mortgaged property is adequate as
collateral, we have each property considered for financing appraised. The
appraisal is completed by an independent qualified appraiser and generally
includes pictures of comparable properties and pictures of the property securing
the loan. With respect to business purpose loans, home equity loans and
conventional first mortgage loans, the appraisal is completed by an independent
qualified appraiser on a Fannie Mae form.
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Any material decline in real estate values reduces the ability of
borrowers to use home equity to support borrowings and increases the
loan-to-value ratios of loans previously made by us, thereby weakening
collateral coverage and increasing the possibility of a loss in the event of
borrower default. Further, delinquencies, foreclosures and losses generally
increase during economic slowdowns or recessions. As a result, we cannot assure
that the market value of the real estate underlying the loans will at any time
be equal to or in excess of the outstanding principal amount of those loans.
Although we have expanded the geographic area in which we originate loans, a
downturn in the economy generally or in a specific region of the country may
have an effect on our originations. See "Risk Factors - A decline in value of
the collateral securing our loans could result in a reduction in originations
and an increase in losses on foreclosure which could reduce our profitability."
Loan Administration Procedures
We employ a large staff of experienced collectors and supervisors
working in shifts to manage non-performing loans. In addition, several in-house
collection attorneys and paralegals work closely with these collectors and their
managers to optimize collection efforts. The goal of our labor-intensive
collections program is to emphasize delinquency prevention.
In servicing business purpose loans and home equity loans, we typically
send an invoice to borrowers on a monthly basis advising them of the required
payment and its due date. We begin the collection process immediately after a
borrower fails to make a monthly payment. We believe we begin the collection
process earlier than lenders who provide financing to credit worthy borrowers.
When a loan becomes 45 to 60 days delinquent, it is transferred to a workout
specialist in the collections department. The workout specialist tries to
reinstate a delinquent loan, seek a payoff, or occasionally enter into a
modification agreement with the borrower to avoid foreclosure. All proposed
workout arrangements are evaluated on a case-by-case basis, based upon the
borrower's past credit history, current financial status, cooperativeness,
future prospects and the reasons for the delinquency. If the loan becomes
delinquent 61 days or more and a satisfactory workout arrangement with the
borrower is not achieved or the borrower declares bankruptcy, the matter is
immediately referred to our attorneys for collection. Due to this timing, the
foreclosure process on most delinquent loans is commenced before the loan is 100
days past due.
To our knowledge, we are one of very few lenders that has an in-house
legal staff dedicated to the collection of delinquent loans and the handling of
bankruptcy cases. As a result, we believe our delinquent loans are reviewed from
a legal perspective earlier in the collection process than is the case with
loans made by traditional lenders so that troublesome legal issues can be noted
and, if possible, resolved earlier. Our in-house legal staff also attempts to
find solutions for delinquent loans, other than foreclosure. Every loan is
analyzed to compare the property value against the loan balance and solutions
are presented to the borrower based on the results of that analysis.
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In those situations where foreclosures are handled by outside counsel,
the in-house legal staff manages outside counsel to ensure that the time period
for handling foreclosures meets or exceeds established industry standards.
Frequent contact between in-house and outside counsel insures that the process
moves quickly and efficiently in an attempt to achieve a timely and economical
resolution to contested matters.
Securitizations
Since 1995, we have completed approximately 14 securitization
transactions. The 14 pools of loans and leases securitized were comprised of
approximately $201.3 million of business purpose loans, approximately $969.8
million of home equity loans and approximately $152.3 million of equipment
leases. During fiscal 1999, the Company securitized $71.9 million of business
purpose loans, $613.0 million of home equity loans and $92.6 million of
equipment leases.
Securitization is a financing technique often used by originators of
financial assets to raise capital. A securitization involves the transfer of a
pool of financial assets, in our case loans or leases, to a trust in exchange
for cash and a retained interest in the securitized loans and leases which is
called an interest-only strip. The trust issues various classes of securities
which derive their cash flows from a pool of securitized loans and leases. These
securities which represent the remaining interest in the trust called the
regular interests, are sold to public or private investors. We also retain
servicing on securitized loans and leases. See "--Loan and Lease Servicing."
As the holder of the interest-only strips received in a securitization,
we are entitled to receive excess (or residual) cash flows. These cash flows are
the difference between the payments made by the borrowers on securitized loans
and leases and the sum of the scheduled and prepaid principal and pass-through
interest paid to the investors in the trust, servicing fees, trustee fees and,
if applicable, surety fees. Surety fees are paid to an unrelated insurance
entity to provide protection for the trust investors. Overcollateralization is
the excess of the aggregate principal balances of loans and leases in a
securitized pool over investor interests. Overcollateralization requirements are
established to provide additional protection for the trust investors.
We may be required either to repurchase or to replace loans or leases
which do not conform to the representations and warranties we made in the
pooling and servicing agreements entered into when the loans or leases are
pooled and sold through securitizations. As of June 30, 1999, we had not been
required to repurchase or replace any such loans or leases.
When borrowers are delinquent in making scheduled payments on loans or
leases included in a securitization trust, we are required to advance interest
payments with respect to such delinquent loans or leases to the extent that we
determine that such advances will be ultimately recoverable. These advances
require funding from our capital resources but have priority of repayment from
the succeeding month's collection.
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While we are under no obligation to do so, at times we elect to
repurchase some foreclosed and delinquent loans from the securitization trusts.
Under the terms of the securitization agreements, repurchases are permitted only
for foreclosed and delinquent loans and the purchase prices are at the loans'
outstanding contractual balance. We elect to repurchase loans in situations
requiring more flexibility for the administration and collection of these loans
in order to maximize their economic recovery and to avoid temporary
discontinuations of residual or stepdown overcollateralization cash flows from
securitization trusts.
Our securitizations often include a prefunding option where a portion
of the cash received from investors is withheld until additional loans or leases
are transferred to the trust. The loans or leases to be transferred to the trust
to satisfy the preferred option must be substantially similar in terms of
collateral, size, term, interest rate, geographic distribution and loan-to-value
ratio as the loans or leases initially transferred to the trust. To the extent
we fail to originate a sufficient number of qualifying loans or leases for the
prefunded account within the specified time period, our earnings during the
quarter in which the funding was to occur would be reduced.
The securitization of loans and leases during the years ended June 30,
1999, 1998 and 1997 generated gain on sale of loans and leases of $64.5 million,
$40.8 million and $19.9 million, respectively. These gains contributed to our
record levels of revenue and net income during these fiscal years. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations-Certain Accounting Considerations."
Subject to market conditions, we anticipate that we will continue to
securitize business purpose loans, home equity loans and possibly equipment
leases. We believe that a securitization program provides a number of benefits
by allowing us to diversify our funding base, provide liquidity and lower our
cost of funds.
Competition
We compete for business purpose loans against many other finance
companies and financial institutions. Although many other entities originate
business purpose loans, we have focused our lending efforts on our niche market
of businesses which may qualify for loans from traditional lending sources but
who we believe are attracted to our products as a result of our marketing
efforts, responsive customer service and rapid processing and closing periods.
We have significant competition for home equity loans. Through Upland
Mortgage and New Jersey Mortgage, we compete with banks, thrift institutions,
mortgage bankers and other finance companies, which may have greater resources
and name recognition. We attempt to mitigate these factors through a highly
trained staff of professionals, rapid response to prospective borrowers'
requests and by maintaining a relatively short average loan processing time. In
addition, we implemented our Bank Alliance Program in order to generate
additional loan volume.
The various segments of our lending businesses are highly competitive.
See "Risk Factors - Competition from other lending and lessors could adversely
affect our profitability."
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Risk Factors
Since we have historically experienced negative cash flows from our operations
and expect to do so in the foreseeable future, our ability to repay the
investment notes could be impaired.
We have historically experienced negative cash flow from operations
since 1996 primarily because our strategy of selling loans through
securitization requires us to build an inventory of loans over time. During the
period we are building this inventory of loans, we incur costs and expenses. We
do not recognize a gain on the sale of loans until we complete a securitization,
which may not occur until a subsequent period. In addition, our gain on a
securitization results from our retained interests in the securitized loans,
consisting primarily of interest-only strips, which do not generate cash flow
immediately. We expect this negative cash flow from operations to continue in
the foreseeable future. Should we continue to experience negative cash flows
from operations, it could impair our ability to make principal and interest
payments due under the terms of the investor notes. At June 30, 1999, there was
$118.1 million of investment notes which will mature through June 30, 2000.
We obtain the funds to repay the investment notes at their maturities
by securitizing our loans, selling whole loans and selling additional investment
notes. We may in the future generate cash flows by securitizing or selling
interest-only strips and selling servicing rights generated in past
securitizations. If we are unable in the future to securitize our loans, to sell
whole loans, or to realize cash flows from interest-only strips and servicing
rights generated in past securitizations, our ability to repay the investment
notes could be impaired. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
Our estimates of the value of interest-only strips and servicing rights we
retain when we securitize loans could be inaccurate and could result in reduced
profits.
We generally retain interest-only strips and servicing rights in the
securitization transactions we complete. We estimate the fair value of the
interest-only strips and servicing rights based upon estimated discount rates
established by management of our company and prepayment and default assumptions.
Together, these two assets represent 55.9% of our total assets at June 30, 1999.
The value of our interest-only strips totaled $178.2 million and the value of
our servicing rights totaled $43.2 million at June 30, 1999. Although we believe
that these amounts represent the fair value of these assets, the amounts were
estimated based on discounting the expected cash flows to be received in
connection with our securitizations using estimated discount rates established
by us, prepayment rates and default rate assumptions. Changes in market interest
rates may impact our discount rate assumptions and our actual prepayment and
default experience may vary materially from these estimates. Even a small
unfavorable change in these assumptions utilized could have a significant
adverse impact on the value of these assets. In the event of an unfavorable
change in these assumptions, the fair value of these assets would be overstated,
requiring an adjustment which would adversely affect our income in the period of
adjustment. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
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Since we depend upon the availability of financing to fund our continuing
operations, any failure to obtain adequate funding could hurt our profitability.
For our ongoing operations, we depend upon frequent financings,
including the sale of unsecured subordinated debt securities and warehouse
credit facilities or lines of credit. If we are unable to renew or obtain
adequate funding under a warehouse credit facility, or other borrowings, the
lack of adequate funds would reduce our profitability. To the extent that we are
not successful in maintaining or replacing existing subordinated debt securities
upon maturity, we may have to limit our loan originations or sell loans earlier
than intended and restructure our operations. Limiting our originations or
earlier sales of loans could reduce our profitability. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations --
Liquidity and Capital Resources."
Lending to credit-impaired borrowers may result in higher delinquencies in our
managed portfolio which could result in a reduction in profits.
We market a significant portion of our loans to borrowers who are
either unable or unwilling to obtain financing from traditional sources, such as
commercial banks. Loans made to these borrowers may entail a higher risk of
delinquency and loss than loans made to borrowers who use traditional financing
sources. Historically, we have experienced a higher rate of delinquencies on
loans made to these credit-impaired borrowers as compared to delinquency rates
experienced by banks on loans to conforming borrowers. While we use underwriting
standards and collection procedures designed to mitigate the higher credit risk
associated with lending to these borrowers, our standards and procedures may not
offer adequate protection against risks of default. Higher than anticipated
delinquencies, foreclosures or losses in our sold and serviced loans would
reduce our profits. See "-- Lending and Leasing Activities" and "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
Our reliance upon the sale of our loans and leases through securitization may
result in fluctuating operating results.
In recent periods, a significant portion of our revenue and net income
represented gain on the sale of loans and leases in securitization transactions.
Operating results for a given period can fluctuate significantly as a result of
the timing and size of securitizations. If we do not close securitizations when
expected, we could experience a loss for a period. In addition, we rely
primarily on securitizations to generate cash proceeds for the repayment of our
warehouse credit facilities and origination of additional loans.
Our ability to complete securitizations depends on several factors,
including:
o conditions in the securities markets generally including market
interest rates;
o conditions in the asset-backed securities markets specifically;
and
o the credit quality of our managed portfolios.
Any substantial impairment in the size or availability of the market for our
loans could result in our inability to continue to originate loans and repay the
notes upon maturity. See "--Securitizations" and "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Securitizations."
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A change in market interest rates may result in a reduction in our profits.
Rapid changes, either upward or downward, in interest rates may
adversely affect our profits. Any future rise in interest rates may:
o reduce customer demand for our products;
o widen investor spread requirements and increase
overcollateralization requirements in future securitizations;
o increase our cost of funds;
o reduce the spread between the rate of interest we receive on loans
and interest rates we must pay under our outstanding credit
facilities and debt securities;
o reduce the profit we will realize in securitizations or other sales
of loans; and
o limit our access to borrowings in the capital market.
Gain on sale of loans may be unfavorably impacted to the extent that we
hold fixed rate mortgages prior to securitization and a change in rates reduces
the spread between the average coupon rate on fixed rate loans and the weighted
average pass-through rate to investors for interests issued in connection with
the securitization. Although the average loan coupon rate is fixed at the time
the loan is originated, the pass-through rate to investors is not fixed until
the pricing of the securitization which occurs just prior to the sale of the
loans. Therefore, if market rates required by investors increase prior to
securitization of the loans, the spread between the average coupon rate on the
loans and the pass-through rate to investors may be reduced or eliminated which
would reduce or eliminate our profit on the sale of the loans. In addition, an
increase in interest rates could increase interest costs on all sources of
borrowed funds and reduce spreads on securitized loans which could negatively
impact our liquidity and capital resources by reducing cash flows which would
decrease our profitability.
Since a portion of the certificates issued to investors by
securitization trusts are floating rate certificates, the interest rates on
these certificates adjust based on an established index plus a spread. The fair
value of the excess cash flow we will receive from these trusts would be reduced
as a result of any changes in rates paid on the floating certificates. At June
30, 1999, $84.4 million of debt issued by securitization was floating rate debt
representing 8.6% of total debt issued by securitization trusts.
If we are not able to sustain the levels of growth in revenues and earnings that
we experienced in the past our future profits may be reduced.
During the year ended June 30, 1999, we experienced record levels of
total revenue and net income as a result of increases in loan and lease
originations and the securitization of loans and leases. Our ability to sustain
the level of growth in total revenue and net income experienced in the past
depends upon a variety of factors outside our control, including:
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o interest rates,
o conditions in the asset-backed securities markets,
o economic conditions in our primary market area,
o competition, and
o regulatory restrictions.
Our ability to sustain the levels of growth experienced in the past
will become increasingly difficult in light of rising interest rates experienced
during the year ended June 30, 1999 as compared to a falling or stable interest
rate environment. If we are unable to sustain our levels of growth, our profits
may be reduced. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations."
Decreasing market interest rates could reduce our profitability due to the
length of maturities of our outstanding subordinated debt.
We are subject to risks associated with changes in interest rates to
the extent that we have issued fixed rate subordinated debt securities with
scheduled maturities of one to ten years. At June 30, 1999, we had $93.6 million
of subordinated debt securities with scheduled maturities greater than one year
which is not subject to early redemption at our option. If market interest rates
decrease in the future, the rates paid on our long term subordinated debt could
exceed the current market rate paid for similar instruments which could result
in a reduction in our profitability. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations -- Interest Rate Risk
Management."
If we are unable to continue to successfully implement our growth strategy, our
revenues may decrease.
Our business strategy seeks to increase our loan volume through further
development of existing markets while maintaining our customary origination
fees, the spread between loan interest rates and the interest rates we pay for
capital and underwriting criteria. Implementation of this strategy will depend
in large part on our ability to:
o open or expand offices in markets with a sufficient concentration
of borrowers who meet our underwriting criteria;
o obtain adequate financing on favorable terms;
o profitably securitize our loans in the secondary market on a
regular basis;
o hire, train and retain skilled employees;
o successfully implement our marketing campaigns; and
o continue to expand in the face of increasing competition from other
lenders.
Our inability to achieve any or all of these factors could impair our ability to
implement our business strategy and successfully leverage our fixed costs which
could result in a reduction in our revenues. See "--Lending and Leasing
Activities."
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If loan prepayment rates are higher than anticipated, our profits could be
reduced.
A significant decline in market interest rates could increase the level
of loan prepayments, which would decrease the size of the total managed loan
portfolio and the related projected cash flows. Higher than anticipated rates of
loan prepayments could require a write down of the fair value of the related
interest-only strips and servicing rights, adversely impacting earnings during
the period of adjustment which would result in a reduction in our profitability.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations."
A decline in real estate values could result in a reduction in originations
which could reduce our revenues.
Our business may be adversely affected by declining real estate values.
Any significant decline in real estate values reduces the ability of borrowers
to use home equity as collateral for borrowings. This reduction in real estate
values may reduce the number of loans we are able to make, which will reduce the
gain on sale of loans and servicing and origination fees we will collect which
could reduce our revenues. See "-- Lending and Leasing Activities" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
A decline in value of the collateral securing our loans could result in an
increase in losses on foreclosure which could reduce our profitability.
Declining real estate values will also increase the loan-to-value
ratios of loans we previously made, which in turn, increases the probability of
a loss in the event the borrower defaults and we have to sell the mortgaged
property. In addition, delinquencies and foreclosures generally increase during
economic slowdowns or recessions. As a result, the market value of the real
estate or other collateral underlying our loans may not, at any given time, be
sufficient to satisfy the outstanding principal amount of the loans. See
"--Lending and Leasing Activities" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
If we experience losses in the value of our leased equipment securing the leases
we hold, our revenues may be reduced.
The equipment which secures the leases we hold is subject to the risk
of damage, destruction or obsolescence prior to the termination of the lease. In
the case of our fair market value leases, lessees may choose not to exercise
their option to purchase the equipment for its fair market value at the
termination of the lease. When this happens, we may have to sell the equipment
to third party buyers at a discount which may result in reduced revenues.
See "--Lending and Leasing Activities."
If we are unable to implement an effective hedging strategy, our net income may
be reduced.
We have implemented a hedging strategy in an attempt to mitigate the
effect of changes in interest rates on our fixed rate mortgage loans prior to
securitization that involves the use of derivative financial instruments such as
futures, interest rate swaps and forward pricing of securitizations. An
effective hedging strategy is complex and no strategy can completely insulate us
from interest rate risk. In fact, poorly designed strategies or improperly
executed transactions may increase rather than mitigate interest rate risk.
Hedging involves transaction and other costs, and these costs could increase as
the period covered by the hedging protection increases or in periods of rising
and fluctuating interest rates. In addition, this interest rate hedging strategy
may not be effective against the risk that the difference between the treasury
rate and the rate needed to attract potential buyers of asset backed securities
may widen. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Interest Rate Risk Management."
22
<PAGE>
Competition from other lenders could adversely affect our profitability.
The lending markets that we compete in are highly competitive. Some
competing lenders have substantially greater resources, greater experience,
lower cost of funds, and a more established market presence than we have. If our
competitors increase their marketing efforts to include our market niche of
borrowers, we may be forced to reduce the rates and fees we currently charge in
order to maintain and expand our market share. Any reduction in our rates or
fees could have an adverse impact on our profitability. Our profitability and
the profitability of other similar lenders may attract additional competitors
into this market. See "Competition."
An economic downturn in the eastern half of the United States could result in
reduced revenues.
We currently originate loans primarily in the eastern half of the
United States. The concentration of loans in a specific geographic region
subjects us to the risk that a downturn in the economy in the eastern half of
the country would more greatly affect us than if our lending business were more
geographically diversified. As a result, an economic downturn in this region
could result in reduced revenues. See "-- Lending and Leasing Activities" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Our securitization agreements require us to retain some risk on loans that do
not meet the requirements in these agreements which could result in a reduction
in revenues.
Although we sell substantially all of the loans we originate through
securitizations, all of the securitization agreements require that we replace or
repurchase loans which do not conform to the representations and warranties made
by us at the time of sale. Additionally, when borrowers are delinquent in making
monthly payments on loans included in a securitization trust, we are required to
advance interest payments for the delinquent loans if we deem that the advances
will be ultimately recoverable. These advances require funding from our capital
resources but have priority of repayment from the succeeding month's
collections. See "-- Securitizations."
23
<PAGE>
Our residential lending business is subject to government regulation and
licensing requirements which may hinder our ability to operate profitably.
Our residential lending business is subject to extensive regulation,
supervision and licensing by various state departments of banking or financial
services. Our lending business is also subject to various laws and judicial and
administrative decisions imposing requirements and restrictions on all or part
of our home equity and conventional first mortgage lending activities. We are
also subject to examinations by state departments of banking or financial
services in the 47 states where we are licensed with respect to originating,
processing, underwriting, selling and servicing home equity loans and
conventional first mortgage loans. We are also subject to Federal Reserve Board
regulations related to residential mortgage lending and servicing and the
Department of Housing and Urban Development regulation and reporting
requirements. Failure to comply with these requirements can lead to, among other
remedies, termination or suspension of licenses, rights of rescission for
mortgage loans, class action lawsuits and administrative enforcement actions.
Federal and state government agencies have recently begun to consider,
and in some instances have adopted, legislation to restrict lenders' ability to
charge rates and fees in connection with subprime residential mortgage loans and
loans to borrowers with problem credit. This legislation also imposes various
loan term restrictions, e.g., limits on balloon loan features. Frequently
referred to generally as "predatory lending" legislation, such legislation may
limit our ability to impose certain fees, charge certain interest rates on
certain consumer loans and may impose additional regulatory restrictions on our
business.
Although we believe that we have implemented systems and procedures to
facilitate compliance with these requirements, more restrictive laws, rules and
regulations may be adopted in the future that could make compliance more
difficult or expensive and hinder our ability to operate profitably. See "--
Regulation."
Claims by borrowers or investors could result in reduced revenues.
In the ordinary course of our business, we are subject to claims made
against us by borrowers and private investors arising from, among other things:
o losses that are claimed to have been incurred as a result of
alleged breaches of fiduciary obligations, misrepresentation, error
and omission by our employees, officers and agents (including our
appraisers);
o incomplete documentation; and
o failure to comply with various laws and regulations applicable to
our business.
Although no material claims or legal actions are currently assessed
against us, any claims asserted in the future may result in legal expenses,
liability and reduced revenues.
24
<PAGE>
We depend on the services of key people, and the loss of any of these people
could disrupt our operations and result in reduced revenues.
The success of our operations depends on the continued employment of
our senior level management. If key members of the senior level management were
for some reason unable to perform their duties or were to leave us for any
reason, we may not be able to find capable replacements which could disrupt
operations and result in reduced revenues. See "Employees."
Environmental laws and regulations may restrict our ability to foreclose on
loans secured by real estate or increase costs associated with those loans which
could reduce our revenues.
Our ability to foreclose on the real estate collateralizing our loans
may be limited by environmental laws which pertain primarily to commercial
properties that require a current or previous owner or operator of real property
to investigate and clean up hazardous or toxic substances or chemical releases
on the property. In addition, the owner or operator may be held liable to a
governmental entity or to third parties for property damage, personal injury,
investigation and cleanup costs relating to the contaminated property. While we
would not knowingly make a loan collateralized by real property that was
contaminated, it is possible that the environmental contamination would not be
discovered until after we had made the loan.
To date, there have been two instances where we have determined not to
foreclose on the real estate collateralizing a delinquent loan because of
environmental considerations. Any losses we may sustain on these three loans
will not have a material adverse effect on our profitability.
In addition to federal or state regulations, the owner or former owners
of a contaminated site may be subject to common law claims by third parties
based on damages and costs resulting from environmental contamination emanating
from the property. See "--Loan and Lease Servicing."
Regulation
General. Our business is regulated by both federal and state laws. All
home equity and conventional first mortgage loans must meet the requirements of,
among other statutes and regulations, the Truth in Lending Act, the Real Estate
Settlement Procedures Act, the Equal Credit Opportunity Act of 1974, Federal
Reserve Board Regulations Z and B and Department of Housing and Urban
Development Regulation X.
Truth in Lending. The Truth in Lending Act and Regulation Z contain
disclosure requirements designed to provide consumers with uniform,
understandable information about the terms and conditions of loans and credit
transactions so that consumers may compare credit terms. The Truth in Lending
Act also guarantees consumers a three-day right to cancel transactions described
in the act and imposes specific loan feature restrictions on some loans
including the same type originated by us. We believe that we are in compliance
with the Truth in Lending Act in all material respects. If we were found not to
be in compliance with the Truth in Lending Act, some aggrieved borrowers could
have the right to rescind their loans and/or to demand, among other things, the
return of finance charges and fees paid to us. Other fines and penalties can
also be imposed under the Truth in Lending Act and Regulation Z.
25
<PAGE>
Equal Credit Opportunity and Other Laws. We are also required to comply
with the Equal Credit Opportunity Act and Regulation B, which prohibit creditors
from discriminating against applicants on the basis of race, color, religion,
national origin, sex, age or marital status. Regulation B also restricts
creditors from obtaining specific types of information from loan applicants.
Among other things, it also requires disclosures by the lender regarding
consumer rights and requires lenders to advise applicants of the reasons for any
credit denial. We are also required to report statistical information on loan
applicants to the Department of Housing and Urban Development which monitors
compliance with fair lending laws.
In instances where the applicant is denied credit or the rate of
interest for a loan increases as a result of information obtained from a
consumer credit reporting agency, the Fair Credit Reporting Act of 1970, as
amended, requires lenders to supply the applicant with the name and address of
the reporting agency whose credit report was used in determining to reject a
loan application. It also requires that lenders provide other information and
disclosures about the loan application rejection. In addition, we are subject to
the Fair Housing Act and regulations under the Fair Housing Act, which broadly
prohibit specific discriminatory practices in connection with our home equity
lending business.
We are also subject to the Real Estate Settlement Procedures Act and
Regulation X. These laws and regulations, which are administered by the
Department of Housing and Urban Development, impose limits on the amount of
funds a borrower can be required to deposit with us in any escrow account for
the payment of taxes, insurance premiums or other charges; limits the fees which
may be paid to third parties; and imposes various disclosure requirements.
We are subject to various other federal and state laws, rules and
regulations governing the licensing of mortgage lenders and servicers,
procedures that must be followed by mortgage lenders and servicers, and
disclosures that must be made to consumer borrowers. Failure to comply with
these laws, as well as with the laws described above, may result in civil and
criminal liability.
Several of our subsidiaries are licensed and regulated by the
departments of banking or similar entities in the various states in which they
are licensed. The rules and regulations of the various states impose licensing
and other restrictions on lending activities such as prohibiting discrimination
and regulating collection, foreclosure procedures and claims handling, payment
features, and, in some cases, these laws fix maximum interest rates and fees.
Failure to comply with these requirements can lead to termination or suspension
of licenses, rights of rescission for mortgage loans, individual and class
action lawsuits and administrative enforcement actions. Upland Mortgage and New
Jersey Mortgage maintain compliance with the various federal and state laws
through its in-house counsel and outside counsel which review their
documentation and procedures and monitor and inform them of various changes in
the laws.
26
<PAGE>
The previously described laws and regulations are subject to
legislative, administrative and judicial interpretation. Some of these laws and
regulations have recently been enacted. Some of these laws and regulations are
rarely challenged in or interpreted by the courts. Infrequent interpretations of
these laws and regulations or an insignificant number of interpretations of
recently enacted regulations can make it difficult for us to know what is
permitted conduct under these laws and regulations. Any ambiguity under the laws
and regulations to which we are subject may lead to regulatory investigations or
enforcement actions and private causes of action, such as class action lawsuits,
with respect to our compliance with the applicable laws and regulations. See
"Risk Factors - Our lending business is subject to government regulation and
licensing requirements which may hinder our ability to operate profitably."
Federal and state government agencies have recently begun to consider,
and in some instances have adopted, legislation to restrict lenders' ability to
charge rates and fees in connection with subprime residential mortgage loans and
loans to borrowers with problem credit. Such legislation also imposes various
loan term restrictions, e.g., limits on balloon loan features. Frequently
referred to generally as "predatory lending" legislation, such legislation may
limit our ability to impose fees, charge interest rates on consumer loans to
those borrowers with problem credit and may impose additional regulatory
restrictions on our business.
Although we believe that we have implemented systems and procedures to
make sure that we comply with regulatory requirements, if more restrictive laws,
rules and regulations are enacted or more restrictive judicial and
administrative interpretations of those laws are issued, compliance with the
laws could become more expensive or difficult.
Employees
At June 30, 1999, we employed 858 people on a full-time basis and 36
people on a part-time basis. None of our employees are covered by a collective
bargaining agreement. We consider our employee relations to be good.
Executive Officers Who Are Not Also Directors
The following is a description of the business experience of each
executive officer who is not also a director.
Beverly Santilli, age 40, is First Executive Vice President, a position
she has held since September 1998 and Secretary, a position she has held since
our inception. Mrs. Santilli has held a variety of positions including Executive
Vice President and Vice President. Mrs. Santilli is also the President of
American Business Credit. Mrs. Santilli is responsible for all sales, marketing
and day-to-day operation of American Business Credit. Mrs. Santilli is also
responsible for human resources of ABFS. Prior to joining American Business
Credit and from September 1984 to November 1987, Mrs. Santilli was affiliated
with PSFS initially as an Account Executive and later as a Commercial Lending
Officer with that bank's Private Banking Group. Mrs. Santilli is the wife of
Anthony J. Santilli.
27
<PAGE>
Jeffrey M. Ruben, age 36, is Executive Vice President and General
Counsel, positions he has held since September 1998. He is also Executive Vice
President and General Counsel of some of our subsidiaries, positions he has held
since April 1992. Mr. Ruben is responsible for the loan and the lease
collections departments, the asset allocation unit and the legal department. Mr.
Ruben served as Senior Vice President from April 1992 to September 1999. From
June 1990 until he joined us in April 1992, Mr. Ruben was an attorney with the
law firm of Klehr, Harrison, Harvey, Branzburg & Ellers in Philadelphia,
Pennsylvania. From December 1987 until June 1990, Mr. Ruben was employed as a
credit analyst with the CIT Group Equipment Financing, Inc. Mr. Ruben is a
member of the Pennsylvania and New Jersey Bar Associations. Mr. Ruben holds both
a New Jersey Mortgage Banker License and a New Jersey Secondary Mortgage Banker
License.
Albert W. Mandia, age 51, is our Executive Vice President and Chief
Financial Officer of ABFS, positions he has held since June 1998 and October
1998, respectively. Mr. Mandia is responsible for all financial, information
systems and investor relations functions. From 1974 to 1998, Mr. Mandia was
associated with CoreStates Financial Corp. where he last held the position of
Chief Financial Officer from February 1997 to April 1998.
Item 2. Properties
Except for real estate acquired in foreclosure in the normal course of
our business, we do not presently hold title to any real estate for operating
purposes. The interests which we presently hold in real estate are in the form
of mortgages against parcels of real estate owned by our borrowers or their
affiliates and real estate acquired through foreclosure.
We presently lease office space at 111 Presidential Boulevard, Bala
Cynwyd, Pennsylvania, just outside the city limits of Philadelphia. We are
currently leasing this office space under lease with an annual rental cost of
approximately $2.2 million. The current lease term expires in July 31, 2003. We
also lease the Roseland, New Jersey office which functions as the headquarters
for New Jersey Mortgage and its subsidiaries. The Roseland office lease term
expires in July 2003 and contains a renewal option for an additional term of
five years. The Roseland office facility has a current annual rental cost of
approximately $766,000. In addition, we lease branch offices on a short term
basis in various cities throughout the United States. We do not believe that the
leases for the branch offices are material to our operations.
Item 3. Legal Proceedings
On October 23, 1997, a class action suit was filed in the Superior
Court of New Jersey at Docket No. L-12066-97 against New Jersey Mortgage by
Alfred G. Roscoe on behalf of himself and others similarly situated. Mr. Roscoe
sought certification that the action could be maintained as a class action. He
also sought unspecified compensatory damages and injunctive relief. In his
complaint, Mr. Roscoe alleged that New Jersey Mortgage violated New Jersey's
Mortgage Financing on Real Estate Law, N.J. Stat. Ann. 46:10A-1 et seq., by
requiring him and other borrowers to pay or reimburse New Jersey Mortgage for
attorneys' fees and costs in connection with loans made to them by New Jersey
Mortgage. Mr. Roscoe further asserted that New Jersey Mortgage's alleged actions
violated New Jersey's Consumer Fraud Act, N.J. Stat. Ann. 56:8-1, et seq. and
constituted common law fraud and deceit
28
<PAGE>
On February 24,1998, after oral argument before the Superior Court, an
order was entered in favor of New Jersey Mortgage and against Mr. Roscoe
granting New Jersey Mortgage Motion for Summary Judgment. Mr. Roscoe appealed to
the Superior Court of New Jersey - Appellate Division. Oral argument on the
appeal was heard on January 20, 1999 before a two-judge panel of the Appellate
Division. On February 3, 1999, the panel filed a per curiam opinion affirming
the Superior Court's ruling in favor of New Jersey Mortgage.
On March 4, 1999, a Petition for Certification for review of the final
judgment of the Superior Court was filed with the Supreme Court of New Jersey.
New Jersey Mortgage filed its Brief in Opposition to the Petition for
Certification on March 16, 1999, and Mr. Roscoe filed a reply brief. As of
December 31, 1999, no decision has been rendered by the New Jersey Supreme Court
on this matter.
Pursuant to the terms of the Agreement for Purchase and Sale of Stock
of New Jersey Mortgage between us and the former shareholders of New Jersey
Mortgage, the former shareholders are required to indemnify us up to $16.0
million to the extent of any losses over $100,000 related to, caused by or
arising from New Jersey Mortgage's failure to comply with applicable law. The
former New Jersey Mortgage shareholders have agreed to defend ABFS in this suit.
Additionally, from time to time, we are involved as plaintiff or
defendant in various other legal proceedings arising in the normal course of our
business. While we cannot predict the ultimate outcome of these various legal
proceedings, it is management's opinion that the resolution of these legal
actions should not have a material effect on our financial position, results of
operations or liquidity.
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted to a vote of security holders, through the
solicitation of proxies or otherwise, during the quarter ended June 30, 1999.
29
<PAGE>
PART II
Item 5. Market for the Registrant's Common Stock and Related Stockholder Matters
Our common stock is currently traded on the NASDAQ National Market
System under the symbol "ABFI." Our common stock began trading on the NASDAQ
National Market System on February 14, 1997. Prior to February 14, 1997, our
common stock had been traded on the Philadelphia Stock Exchange under the symbol
"AFX" since May 13, 1996. Prior to the commencement of trading on the PHLX,
there was no active trading market for our common stock.
The following table sets forth the high and low sales prices of our
common stock for the periods indicated. The stock price information appearing
below has been retroactively adjusted to reflect the effect of a 5% stock
dividend declared subsequent to June 30, 1999. On September 9, 1999, the closing
price of the common stock on the NASDAQ National Market System was $12.875.
Quarter Ended High Low
------------------------------------ ------- ------
June 30, 1997 $21.42 $17.62
September 30, 1997 22.86 18.57
December 31, 1997 26.67 19.64
March 31, 1998 26.19 19.52
June 30, 1998 24.29 20.95
September 30, 1998 20.71 11.19
December 31, 1998 13.70 5.48
March 31, 1999 14.29 11.67
June 30, 1999 18.93 10.23
As of September 9, 1999, there were 115 record holders and
approximately 1,000 beneficial holders of our common stock.
During fiscal 1999, we paid $0.165 per share in dividends on common
stock, for an aggregate dividend payment of $575,000. During fiscal 1998, we
paid dividends of $211,000. The payment of dividends in the future is in the
sole discretion of our Board of Directors and will depend, among other things,
upon earnings, capital requirements and financial condition, as well as other
relevant factors.
On August 18, 1999, our Board of Directors declared a 5% stock dividend
payable on September 27, 1999, to stockholders of record as of September 3,
1999.
As a Delaware corporation, we may not declare and pay dividends on
capital stock if the amount paid exceeds an amount equal to the excess of our
net assets over paid-in-capital or, if there is no excess, our net profits for
the current and/or immediately preceding fiscal year.
On October 27, 1997, we issued 20,240 shares of common stock to Stanley
L. Furst and Joel E. Furst as partial consideration for their 100% interest in
New Jersey Mortgage.
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<PAGE>
This issuance was exempt from registration in accordance with Section
4(2) of the Securities Act of 1933, as amended, because the issuance did not
involve a public offering. Therefore, the shares issued are subject to certain
transfer restrictions.
Item 6. Selected Consolidated Financial Data
Our selected consolidated financial information set forth below should
be read in conjunction with the more detailed consolidated financial statements,
the notes to the consolidated financial statements, and "Management's Discussion
and Analysis of Financial Condition and Results of Operations" included
elsewhere herein (dollars in thousands except per share data):
<TABLE>
<CAPTION>
Year Ended June 30,
----------------------------------------------------
1999 1998 1997 1996 1995
---------- ------- -------- ------- --------
Statement of Income Data:
Revenues:
<S> <C> <C> <C> <C> <C>
Gain on sale of loans and leases....................... $ 64,490 $40,778 $ 19,942 $ 8,721 $ 1,350
Interest and fees...................................... 16,553 17,386 5,584 3,245 4,058
Interest accretion on interest-only strips............. 2,021 538 101 -- --
Other.................................................. 3,360 633 335 129 143
---------- ------- -------- ------- --------
Total revenues............................................ 86,424 59,335 25,962 12,095 5,551
Total expenses............................................ 64,573 41,445 16,960 8,974 4,657
---------- ------- -------- ------- --------
Operating income before income taxes...................... 21,851 17,890 9,002 3,121 894
Income taxes.............................................. 7,763 6,435 3,062 802 313
---------- ------- -------- ------- --------
Net income................................................ $ 14,088 $11,455 $ 5,940 $ 2,319 $ 581
========== ======= ======== ======= ========
Per Common Share Data:
Basic earnings per common share(a)..................... $ 3.83 $ 3.10 $ 2.03 $ 0.96 $ 0.26
Diluted earnings per common share(a)................... $ 3.72 $ 2.98 $ 1.95 $ 0.96 $ 0.26
Cash dividends declared per common share............... 0.165 0.06 0.06 0.03 --
</TABLE>
(a) Amounts have been retroactively adjusted to reflect the effect of a 5%
stock dividend declared August 18, 1999 as if the shares had been
outstanding for each period presented.
<TABLE>
<CAPTION>
June 30,
--------------------------------------------------
1999 1998 1997 1996 1995
-------- -------- ------- -------- -------
Balance Sheet Data:
<S> <C> <C> <C> <C> <C>
Cash and cash equivalents............................... $ 22,395 $ 4,486 $ 5,014 $ 5,345 $ 4,734
Loan and lease receivables, net
Available for sale...................................... 33,776 62,382 35,712 18,003 8,669
Other................................................... 6,863 4,096 1,144 534 328
Interest-only strips.................................... 178,218 95,913 37,507 32,639 13,448
Receivables for sold loans and leases................... 66,086 2,377 960 26 86
Servicing rights........................................ 43,210 18,472 8,083 5,907 1,388
Total assets............................................ 396,301 226,551 103,989 46,894 22,175
Subordinated debt ........................................ 211,652 112,182 56,486 33,620 17,800
Total liabilities......................................... 338,055 183,809 73,077 42,503 20,031
Stockholders' equity...................................... 58,246 42,742 30,912 4,392 2,143
</TABLE>
31
<PAGE>
<TABLE>
<CAPTION>
Year Ended June 30,
----------------------------------------------------
1999 1998 1997 1996 1995
--------- ------- ------- ------ ------
<S> <C> <C> <C> <C> <C>
Other Data:
Originations:
Business Purpose Loans................................ $ 64,818 $ 52,335 $38,712 $28,272 $18,170
Home Equity Loans..................................... 634,820 328,089 91,819 36,479 16,963
Conventional First Mortgage Loans..................... 66,519 33,671 - - -
Equipment Leases ..................................... 96,289 70,480 8,004 5,967 2,220
Loans and Leases sold:
Securitizations....................................... 777,598 384,700 115,000 36,506 9,777
Other................................................. 105,751 51,594 3,817 19,438 31,948
Total managed loan and lease portfolio................... 1,176,918 559,398 176,651 59,891 17,774
Average loan/lease size:
Business Purpose Loans................................ 80 83 78 78 71
Home Equity Loans..................................... 74 62 51 47 46
Conventional First Mortgage Loans..................... 165 154 - - -
Equipment Leases...................................... 23 21 11 11 12
Weighted average interest rate on loans and leases:
Business Purpose Loans ............................... 15.91% 15.96% 15.91% 15.83% 16.05%
Home Equity Loans..................................... 11.05 11.95 11.69 9.94 12.68
Conventional First Mortgage Loans..................... 7.67 8.22 - - -
Equipment Leases...................................... 11.40 12.19 15.48 17.22 15.85
Year Ended June 30,
-----------------------------------------------
1999 1998 1997 1996 1995
----- ----- ----- ----- -----
Financial Ratios:
Return on average assets ................................. 4.56% 6.93% 7.87% 6.71% 3.37%
Return on average equity ................................. 28.10 31.10 33.65 70.96 31.36
Total delinquencies as a percentage of total managed
portfolio serviced, at end of period .................. 3.19 3.01 2.15 2.30 3.84
Real estate owned as a percentage of total managed
portfolio serviced, at end of period................... .85 .16 .34 1.01 4.29
Loan and lease losses as a percentage of the average total
portfolio serviced during the period.................. .12 .12 .07 .33 .66
Pre-tax income as a percentage of total revenues......... 25.28 30.15 33.99 25.81 16.11
Ratio of earnings to fixed charges........................ 1.92 2.23 2.56 1.97 1.54
</TABLE>
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following financial review and analysis of the financial condition
and results of operations, for the years ended June 30, 1999, 1998 and 1997
should be read in conjunction with the consolidated financial statements and the
accompanying notes to the consolidated financial statements, and other detailed
information appearing in this document.
32
<PAGE>
Securitizations
The ongoing securitization of loans and leases is a central part of our
current business strategy. We sell loans, and have in the past sold leases,
through securitizations with servicing retained. This strategy generates the
cash proceeds to repay warehouse and line of credit facilities, to fund
additional loan originations and to provide additional sources of revenue
through retained mortgage and lease servicing rights.
In fiscal 1999, we completed securitizations aggregating $777.5
million, consisting of $71.9 million in business purpose loans, $613.0 million
in home equity loans and $92.6 million in equipment leases. Such securitizations
generated gains on the sale of loans and leases of $64.5 million, $40.8 million
and $19.9 million, respectively, for fiscal years ended June 30, 1999, 1998 and
1997. Gain on sale of loans and leases resulting from securitizations as a
percentage of total revenues was 74.6%, 68.7% and 76.8% for the years ended June
30, 1999, 1998 and 1997, respectively.
Our quarterly revenues and net income may fluctuate in the future
principally as a result of the timing, size and profitability of our
securitizations. The strategy of selling loans and leases through
securitizations requires building an inventory of loans or leases over time,
during which time we incur costs and expenses. Since a gain on sale is not
recognized until a securitization is closed, which may not occur until a
subsequent quarter, operating results for a given quarter can fluctuate
significantly. If securitizations do not close when expected, we could
experience a materially adverse effect on our results of operations for a
quarter. In addition, due to the timing difference between the period when costs
are incurred in connection with the origination of loans and their subsequent
sale through the securitization process, we have operated on a negative cash
flow basis in the past and anticipate that we will continue to do so in the
foreseeable future, which could adversely impact our results of operations and
financial condition. See "Liquidity and Capital Resources" for a discussion of
our liquidity and cash flows.
Several factors affect our ability to complete securitizations on a
profitable basis, including conditions in the securities markets generally, such
as fluctuations in interest rates described below, conditions in the
asset-backed securities markets relating to the types of financial assets we
originate and credit quality of the managed portfolio of loans. Any substantial
reduction in the size or availability of the securitization market for loans
could have a material adverse effect on our results of operations and financial
condition.
Our strategy of securitizing loans could also impact our future
profitability to the extent that the carrying value of our interest-only strips
may require negative adjustments. We generally retain interest-only strips and
servicing rights in the securitization transactions we complete. We estimate the
fair value of the interest-only strips and servicing rights based upon estimated
discount rates and prepayment and default assumptions. Together, these two
assets represent 55.9% of our total assets at June 30, 1999. The value of our
interest-only strips totaled $178.2 million and the value of our servicing
rights totaled $43.2 million at June 30, 1999. Although we believe that these
amounts represent the fair value of these assets, the amounts were estimated
based on discounting the expected cash flows to be received in connection with
our securitizations using estimated discount rates, prepayment rates and default
rate assumptions. Changes in market interest rates may impact our discount rate
assumptions and our actual prepayment and default experience may vary materially
from these estimates. Even a small unfavorable change in these assumptions
utilized could have a significant adverse impact on the value of these assets.
In the event of an unfavorable change in these assumptions, the fair value of
these assets would be overstated, requiring an adjustment which would adversely
affect our income in the period of adjustment.
33
<PAGE>
Our business strategy is dependent upon our ability to identify and
emphasize lending related activities that will provide us with the most economic
value. The implementation of this strategy will depend in large part on a
variety of factors outside of our control, including, but not limited to, our
ability to obtain adequate financing on favorable terms, profitably securitize
our loans on a regular basis and continue to expand in the face of increasing
competition. Our failure with respect to any of these factors could impair our
ability to successfully implement our strategy, which would adversely affect our
results of operations and financial condition.
Whole Loan Sales
We also sell loans with servicing released referred to as whole loan
sales. Gains on whole loan sales equal the difference between the net proceeds
from such sales and the loans' net carrying value. The net carrying value of
loans is equal to their principal balance plus unamortized origination costs and
fees. Gains from these sales are recorded as fee income.
The following table summarizes the volume of loan and lease
securitizations and whole loan sales for the fiscal years ended June 30, 1999,
1998 and 1997 (in millions):
Fiscal Year Ended June 30,
--------------------------------------
Securitizations: 1999 1998 1997
------- ------- -------
Business loans............................ $ 71.9 $ 54.1 $ 38.1
Home equity loans......................... 613.0 270.9 76.9
Equipment leases.......................... 92.6 59.7 --
------- ------- -------
Total.................................. $ 777.5 $ 384.7 $ 115.0
------- ------- -------
Whole loan sales.......................... $ 105.8 $ 51.6 $ 3.8
Subordinated Debt and Other Borrowings
We also rely upon funds generated by the sale of subordinated debt and
other borrowings to fund our operations. At June 30, 1999, $211.7 million of
subordinated debt was outstanding and credit facilities and lines of credit
totaling $432.2 million were available, of which $61.9 million was drawn upon on
such date. We expect to continue to rely on such borrowings to fund loans and
leases prior to securitization.
Securitization Accounting Considerations
When we securitize our loans and leases by selling them to trusts we
receive cash and an interest-only strip, which represents our retained interest
in the securitized loans and leases. The trust issues multi-class securities,
which derive their cash flows from the pool of securitized loans and leases.
These securities, which are senior to our interest-only strips in the trusts,
are sold to public investors. In addition, when we securitize our loans and
leases we retain the right, for a fee paid to us, to service the loans and
leases which creates an asset that we refer to as our servicing rights.
Servicing includes billing and collecting payments from borrowers, transmitting
payments to investors, accounting for principal and interest, collections and
foreclosure activities and disposing of real estate owned.
34
<PAGE>
As the holder of the interest-only strips received in a securitization,
we are entitled to receive excess (or residual) cash flows. These cash flows are
the difference between the payments made by the borrowers on securitized loans
and leases and the sum of the scheduled and prepaid principal and pass-through
interest paid to the investors in the trust, servicing fees, trustee fees and,
if applicable, surety fees. Surety fees are paid to an unrelated insurance
entity to provide protection for the trust investors. Overcollateralization is
the excess of the aggregate principal balances of loans and leases in a
securitized pool over investor interests. Overcollateralization requirements are
established to provide additional protection for the trust investors.
The overcollateralization requirements for a mortgage loan
securitization, which are different for each securitization, include:
(1) The initial requirement, which is a percentage of the original
balance of loans securitized and is paid in cash at the time of
sale;
(2) The final target, which is a percentage of the original balance
of loans securitized and is funded from the monthly excess cash
flow; and
(3) The stepdown overcollateralization requirement, which is a
percentage of the remaining balance of loans securitized. During
the stepdown period, the overcollateralization amount is
gradually reduced through cash payments to us. The stepdown
period begins at the later of 30 months or when the remaining
balance of loans securitized is less than 50% of the original
balance of securitized loans.
At June 30, 1999, investments in interest-only strips in
securitizations totaled $178.2 million including investments in
overcollateralization of $38.6 million.
The following table provides information regarding the nature and
principal balances of mortgage loans securitized in each trust, the securities
issued by each trust, and the overcollateralization requirements of each trust.
35
<PAGE>
Summary of Selected Mortgage Loan Securitization Trust Information
Current Balances as of June 30, 1999
($ in millions)
<TABLE>
<CAPTION>
1999-2 1999-1 1998-4 1998-3 1998-2 1998-1 1997-2 1997-1 1996-2 1996-1
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
Original balance of loans securitized:
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Business loans........................... $ 30 $ 16 $ 9 $ 17 $ 15 $ 16 $ 23 $ 22 $ 16 $ 13
Home equity loans........................ 190 169 71 183 105 89 77 53 24 9
Total.................................... 220 185 80 200 120 105 100 75 40 22
Current balance of loans securitized:
Business loans........................... $ 30 $ 16 $ 9 $ 16 $ 14 $ 13 $ 18 $ 16 $ 9 $ 7
Home equity loans........................ 190 165 68 172 90 66 50 27 9 4
Total.................................... 220 181 77 188 104 79 68 43 18 11
Weighted average coupon on loans
securitized:
Business loans........................... 15.96% 16.01% 16.01% 15.97% 15.95% 15.99% 15.92% 15.91% 15.93% 15.83%
Home equity loans........................ 10.56% 10.75% 10.89% 10.81% 10.80% 11.16% 11.64% 11.45% 11.43% 10.58%
Total.................................... 11.12% 11.23% 11.23% 11.22% 11.50% 11.95% 12.83% 13.08% 13.67% 13.80%
Percentage of first mortgage loans........ 88% 88% 89% 88% 85% 79% 72% 71% 66% 85%
Weighted average loan-to-value............ 76% 76% 76% 77% 77% 74% 72% 70% 67% 65%
Weighted average remaining term (months)
on loans securitized..................... 255 252 251 249 212 211 209 181 150 145
Original balance of Trust Certificates.... $ 219 $ 184 $ 79 $ 198 $ 118 $ 103 $ 98 $ 73 $ 39 $ 22
Current balance of Trust Certificates..... $ 219 $ 179 $ 74 $ 180 $ 91 $ 73 $ 57 $ 37 $ 15 $ 9
Weighted average pass-through interest
rate to Trust Certificate holders........ 7.05% 6.56% 6.61% 6.26% 6.47% 6.68% 6.74% 7.37% 7.53% 7.95%
Highest Trust Certificate pass-through
rate..................................... 7.13% 6.58% 7.08% 6.43% 6.85% 7.15% 7.13% 7.53% 7.53% 7.95%
Overcollateralization requirements:
Required percentages:
Initial.................................. 0.50% 0.50% 1.00% 1.00% 1.50% 1.50% 2.00% 3.00% 3.00% --
Final target............................. 5.00% 5.00% 5.00% 5.00% 5.00% 5.50% 7.00% 8.00% 10.00% 7.00%
Stepdown overcollateralization........... 10.00% 10.00% 10.00% 10.00% 10.00% 11.00% 14.00% 16.00% 20.00% na
Required Amounts:
Initial.................................. $ 1 $ 1 $ 1 $ 2 $ 2 $ 2 $ 2 $ 2 $ 1 $ --
Final target............................. 11 9 4 10 6 6 7 6 4 2
Current Status:
Overcollateralization amount............. $ 2 $ 3 $ 3 $ 8 $ 6 $ 6 $ 7 $ 6 $ 4 $ 2
Final target reached or anticipated date
to reach................................ 12/2000 7/2000 11/1999 10/1999 Yes Yes Yes Yes Yes Yes
Stepdown reached or anticipated date
to reach................................ 12/2002 10/2002 7/2002 3/2002 7/2001 12/2000 9/2000 3/2000 Yes na
Annual surety wrap fee.................... 0.19% 0.19% 0.20% 0.20% 0.22% 0.23% 0.26% 0.26% 0.28% na
Servicing rights:
Original balance......................... $ 10 $ 8 $ 3 $ 7 $ 4 $ 4 $ 4 $ 3 $ 2 $ 2
Current balance.......................... $ 10 $ 8 $ 3 $ 6 $ 4 $ 3 $ 3 $ 3 $ 1 $ 1
</TABLE>
na = not applicable
36
<PAGE>
Gains on sale of loans and leases through securitizations represent the
difference between our net proceeds and the allocated cost of loans and leases
securitized. The allocated cost of the loans and leases securitized is
determined by allocating their net carrying value between the loans and leases
securitized, the interest-only strips and the servicing rights retained, based
upon their relative fair values.
The calculation of the fair value of interest-only strips is based upon
a discounted cash flow analysis which estimates the present value of the future
expected excess cash flows utilizing assumptions made by management at the time
loans are sold. These original assumptions include the rate used to calculate
the present value of expected future cash flows, referred to as the discount
rate, the rates of prepayment and credit loss rates on the pool of loans. The
prepayment rate of loans may be affected by a variety of economic and other
factors, including prevailing interest rates and the availability of alternative
financing to borrowers. The effect of those factors on loan prepayment rates may
vary depending on the type of loan. Estimates of prepayment rates and credit
loss rates are made based on management's expectation of future experience,
which are based, in part, on the historical experience and in the case of
prepayment rate assumptions, consideration of the impact of changes in market
interest rates. Our interest-only strips and servicing rights are periodically
evaluated based upon the present value of the expected future cash flows from
our interest-only strips and servicing rights related to the loans remaining in
the trusts. The current assumptions for prepayment and credit loss rates are
monitored against actual experience and would be adjusted if necessary.
We use a discount rate which we believe is commensurate with the risks
involved in our securitization assets. While quoted market prices on comparable
interest-only strips are not available, we have performed comparisons of our
valuation assumptions and performance experience to others in the
non-conventional mortgage industry. We quantify the risks in our securitization
assets by comparing the asset quality and performance experience of the
underlying securitized mortgage pools to comparable industry performance. We
believe that the practice of many companies in the non-conventional mortgage
industry has been to add a spread for risk to the all-in cost of securitizations
to determine their discount rate. From these experience comparisons, we have
determined a spread, which is added to the all-in cost of our mortgage loan
securitization trusts' investor certificates. The 11% discount rate considers
our higher asset quality and performance of our securitized assets compared to
industry asset quality and performance and the other characteristics of our
securitized loans described below. The discount rate for all periods presented
was consistent at 11% because we did not believe that a sufficient sustained
pattern of movement in interest rates occurred to warrant changing the discount
rate.
Other characteristics that support our 11% discount rate are as
follows:
o Underlying loan collateral with fixed yields which are higher
than others in the non-conventional mortgage industry. Average
coupons of securitized loans exceed the industry average by
100 basis points or more. All of our loans have fixed interest
rates which are more predictable than adjustable rate loans.
37
<PAGE>
o Most of our loans include prepayment fees. Approximately 94%
of our business purpose loans have prepayment fees.
Approximately 80% of our home equity loans have prepayment
fees. Our experience indicates that prepayment fees increase
the prepayment ramp periods and slow annual prepayment spreads
which have the effect of increasing the life of the loans
securitized.
o A portfolio mix of first and second mortgage loans of 80-85%
and 15-20%, respectively. The high proportion of first
mortgages results in lower delinquencies and losses.
o A portfolio credit grade mix comprised of 59% A credits, 24%
B credits, 14% C credits, and 3% D credits. In addition, our
loss experience is below what is experienced by others in the
non-conventional mortgage industry.
The all-in cost of the trusts' investor certificates includes the
highest trust certificate pass through interest rate in each mortgage
securitization, trustee fees, and surety fees. Trustee fees and surety fees are
deal specific and generally range from 19 to 22 basis points combined.
The following table provides information regarding the initial and
current assumptions applied in determining the fair values of mortgage loan
related interest-only strips and servicing rights. The assumptions for
prepayment rates and credit loss rates are compared to actual experience. The
length of time before a pool of mortgage loans reaches its expected constant
prepayment rate is referred to as the "prepayment ramp period." At the time of
the sales, the initial assumptions for prepayment rates and credit loss rates
were representative of expectations for the securitized portfolios' performance.
Through June 30, 1999, there were no adjustments to the initial assumptions,
which continue to be applied in subsequent reviews of the carrying values of the
interest-only strips and servicing rights as our actual prepayment experience
both quantitatively and qualitatively has not been sufficient to conclude that
the final actual experience expected would be materially different than the
original prepayment assumptions used. For each of the quarters of fiscal year
1999, the net effect of the differences between the prepayment assumptions and
the actual experience was not material.
38
<PAGE>
Summary of Material Mortgage Loan Securitization
Asset Valuation Assumptions and Actual Experience
Current Balances as of June 30, 1999
($ in millions)
<TABLE>
<CAPTION>
1999-2 1999-1 1998-4 1998-3 1998-2 1998-1 1997-2 1997-1 1996-2 1996-1
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
Interest-only strip discount rate:
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Initial valuation....................... 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0%
Current valuation....................... 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0%
Servicing rights discount rate:
Initial valuation....................... 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0%
Current valuation....................... 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0% 11.0%
Prepayment rates:
Initial assumption:
Expected Constant Prepayment Rate (CPR):
Business loans........................ 10% 10% 13% 13% 13% 13% 13% 13% 13% 13%
Home equity loans..................... 24% 24% 24% 24% 24% 24% 24% 24% 24% 24%
Ramp period (months) (a):
Business loans........................ 24 24 24 24 24 24 24 24 24 24
Home equity loans..................... 18 18 12 12 12 12 12 12 12 12
Current assumptions:
Expected Constant Prepayment Rate (CPR):
Business loans........................ 10% 10% 13% 13% 13% 13% 13% 13% 13% 13%
Home equity loans..................... 24% 24% 24% 24% 24% 24% 24% 24% 24% 24%
Ramp period (months):
Business loans........................ 24 24 24 24 24 24 24 24 24 24
Home equity loans..................... 18 18 12 12 12 12 12 12 12 12
CPR adjusted to reflect ramp:
Business loans........................ 3.00% 3.61% 5.17% 6.48% 7.78% 9.09% 11.26% 13% 13% 13%
Home equity loans..................... 2.00% 4.58% 12% 18% 24% 24% 24% 24% 24% 24%
Blended rate.......................... 2.10% 4.49% 11.23% 17.04% 21.83% 21.57% 20.66% 19.97% 18.52% 17.25%
Actual CPR experience:
Business loans........................ 0.10% 1.30% 2.27% 5.79% 6.03% 12.36% 12.34% 12.52% 16.33% 15.87%
Home equity loans..................... 2.44% 5.20% 5.91% 6.93% 14.55% 19.64% 23.54% 24.59% 27.19% 19.70%
Blended rate.......................... 2.20% 4.86% 5.60% 6.84% 13.50% 18.55% 20.84% 20.82% 22.48% 17.44%
Credit loss rates:
Annual credit loss rate:
Initial assumption.................... 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25%
Current assumption.................... 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25% 0.25%
Actual experience..................... -- -- -- 0.01% 0.02% 0.08% 0.08% 0.15% 0.23% --
Cumulative credit loss rate:
Initial assumption.................... 1.20% 1.20% 1.20% 1.20% 1.20% 1.20% 1.20% 1.20% 1.20% 1.20%
Current assumption.................... 1.20% 1.20% 1.20% 1.20% 1.20% 1.20% 1.20% 1.20% 1.20% 1.20%
Cumulative experience to date......... -- -- -- 0.01% 0.02% 0.10% 0.13% 0.33% 0.58% --
Servicing fees:
Contractual fees........................ 0.50% 0.50% 0.50% 0.50% 0.50% 0.50% 0.50% 0.50% 0.50% 0.50%
Ancillary fees.......................... 1.25% 1.25% 1.25% 1.25% 0.75% 0.75% 0.75% 0.75% 0.75% 0.75%
</TABLE>
--------------------
(a) The prepayment ramp is the length of time before a pool of mortgage loans
reaches its expected Constant Prepayment Rate. The business loan
prepayment ramp begins at 3% in month one. The home equity loan prepayment
ramp begins at 2% in month one.
39
<PAGE>
Although we believe we have made reasonable estimates of prepayment
rates and credit loss assumptions, the actual prepayment and credit loss
experience may materially vary from our estimates. To the extent that
prepayments or credit losses differ materially from the estimates made,
adjustments of our interest-only strips and servicing rights may be required in
accordance with Statement of Financial Accounting Standards No. 115. Levels of
future prepayments and credit loss assumptions higher than those initially
estimated could result in a reduction in the value of interest-only strips and
servicing rights which would adversely affect income in the period of
adjustment. Additionally, some of our securitization trusts have issued floating
rate certificates supported by fixed rate mortgages. The fair value of the
excess cash flow we will receive may be affected by any changes in the rates
paid on the floating rate certificates.
Lease Securitizations. Information related to our two lease
securitizations is presented in the table below.
Summary of Selected Lease Securitization Information
Current Balances as of June 30, 1999
($ in millions)
<TABLE>
<CAPTION>
1999-a 1998-a
------- -------
<S> <C> <C>
Original balance of leases securitized.................................. $ 82 $ 80
Current balance of leases securitized................................... $ 68 $ 53
Weighted average yield on leases securitized............................ 11.17% 12.09%
Weighted average remaining term (months) on leases securitized.......... 45 32
Original balance of Trust Certificates.................................. $ 78 $ 76
Current balance of Trust Certificates................................... $ 77 $ 50
Weighted average pass-through interest rate to Trust Certificate Holders 6.55% 6.15%
Overcollateralization requirements...................................... 3% 3%
Annual surety wrap fee.................................................. 0.29% 0.29%
Valuation Assumptions
Residual interests discount rate:
Initial valuation.................................................... 11.0% 11.0%
Current valuation.................................................... 11.0% 11.0%
Servicing rights discount rate:
Initial valuation.................................................... 11.0% 11.0%
Current valuation.................................................... 11.0% 11.0%
Prepayment rates..................................................... (a) (a)
Credit loss rates:
Annual credit loss rate:
Initial assumption................................................. 0.50% 0.50%
Current assumption................................................. 0.50% 0.50%
Actual experience.................................................. -- 0.35%
Servicing Fees:
Contractual fees..................................................... 0.50% 0.50%
Ancillary fees....................................................... 0.30% 0.30%
</TABLE>
-----------------
(a) The equipment leasing portfolio has experienced insignificant
prepayments, less than 1.5% annualized. Should a lease terminate early,
any impact on the valuation of lease securitization assets would be
recorded upon termination of the lease.
40
<PAGE>
Servicing Rights. When loans or leases are sold through a
securitization, the servicing on the loans or leases is retained and we
capitalize the benefit associated with the rights to service securitized loans
and leases based on those servicing rights relative fair value to other
consideration received in the securitization. We receive annual contractual
servicing fees of 50 basis points which is paid out of accumulated mortgage loan
payments before payments of principal and interest are made to trust certificate
holders, prepayment fees, late charges, nonsufficient fund fees and other which
are retained directly by us as servicer as payments are collected from the
borrowers. Fair value of servicing rights is determined by computing the present
value of projected net cash flows from contractual servicing fees and ancillary
servicing fees, as described above, net of costs to service expected to be
received over the life of the loans or leases securitized. These projections
incorporate assumptions, including prepayment rates, credit loss rates and
discount rates. These assumptions are similar to those used to value the
interest-only strips retained in a securitization. Periodically, capitalized
servicing rights are evaluated for impairment, which is measured as the excess
of unamortized cost over fair value. Interest rates are not considered as a
predominant risk characteristic for purposes of evaluating impairment. We have
generally found that the non-conforming mortgage market is less sensitive to
changes in interest rates than the conventional mortgage market where borrowers
have more favorable credit history for the following reasons. First, there are
relatively few lenders willing to supply credit to non-conforming borrowers
which limits those borrowers' opportunity to refinance. Second, interest rates
available to non-conforming borrowers tend to adjust much slower than
conventional mortgage rates which reduces the non-conforming borrowers'
opportunity to capture economic value from refinancing. Also, a majority of
loans to our borrowers require prepayment fees. As a result, the prepayment
experience on our managed portfolio is more stable than the mortgage market in
general. This stability favorably impacts our ability to value the future cash
flows from our servicing rights and interest-only strips because it increases
the predictability of future cash flows. At June 30, 1999, servicing rights
totaled $43.2 million, compared to $18.5 million at June 30, 1998.
Results of Operations
Overview
For fiscal 1999, net income increased $2.6 million, or 23.0%, to $14.1
million from $11.5 million for fiscal 1998. Basic earnings per common share
increased 23.5% to $3.83 on average common shares of 3,682,070, compared to
$3.10 per share on average common shares of 3,692,492 for fiscal 1998. Diluted
earnings per common share increased 24.8% to $3.72 on average common shares of
3,791,204, compared to $2.98 per share on average common shares of 3,847,428 for
fiscal 1998.
Average common share and earnings per common share amounts have been
retroactively adjusted to reflect the effect of a 5% stock dividend declared
August 18, 1999. See note 10 in the Consolidated Financial Statements for
further description.
The increases in net income and earnings per share primarily resulted
from the impact of increases in the volume of loans and leases securitized
during the periods and increases in the
41
<PAGE>
collection of fee income due to the increase in loans and leases available for
sale and securitized loans and leases for which servicing was retained, referred
to as the total managed portfolio.
In the second quarter of fiscal 1999, we increased our quarterly
dividend by 233% to $0.05 per share. Dividends of $0.165 were paid in fiscal
1999 compared to dividends of $0.06 in fiscal 1998. The common dividend payout
ratio based on diluted earnings per share was 4.2% for fiscal 1999, compared to
1.9% for fiscal 1998.
In July 1998, the Company's Board of Directors authorized the
repurchase of up to 10% of the outstanding shares of its common stock over a
one-year period. In May 1999, the repurchase period was extended for an
additional one year to July 2000. As of June 30, 1999, 111,000 shares or 3% of
the Company's outstanding shares were repurchased under July 1998 authorization
at a cost of $1.4 million. The Company's Board of Directors initiated the stock
repurchase program in view of the price level at that time of the Company's
common stock which was trading at below book value and its consistent earnings
growth over fiscal 1998 and 1999 which did not result in a corresponding
increase in the market value of our common stock.
Our growth strategy is dependent upon our ability to increase loan and
lease origination volume through both geographic expansion and growth in current
markets. The implementation of this strategy will depend in large part on a
variety of factors outside of our control, including, but not limited to, the
ability to obtain adequate financing on favorable terms and profitably
securitize loans and leases on a regular basis and continue to expand in the
face of increasing competition. Our failure with respect to any of these factors
could impair our ability to successfully implement our growth strategy, which
could adversely affect our results of operations and financial condition.
42
<PAGE>
Year Ended June 30, 1999 Compared to Year Ended June 30, 1998
Summary Financial Results
(in thousands, except per share data)
<TABLE>
<CAPTION>
Year ended June 30, Percentage Change
--------------------------------------- ---------------------------
1999 1998 1997 '99/'98 '98/'97
--------- --------- ------ ------ ------
<S> <C> <C> <C> <C> <C>
Total revenues...................... $86,424 $59,335 $25,962 45.7% 128.5%
Total expenses...................... $64,573 $41,445 $16,960 55.8% 144.4%
Net income.......................... $14,088 $11,455 $ 5,940 23.0% 92.8%
Return on average equity............ 28.10% 31.10% 33.65%
Return on average assets............ 4.56% 6.93% 7.87%
Earnings per share:
Basic............................. $ 3.83 $ 3.10 $ 2.03 23.5% 52.7%
Diluted........................... $ 3.72 $ 2.98 $ 1.95 24.8% 52.8%
Dividends declared per share.. $ 0.165 $ 0.06 $ 0.06
</TABLE>
Total Revenues. Total revenues increased $27.1 million, or 45.7%, to
$86.4 million for the year ended June 30, 1999 from $59.3 million for the year
ended June 30, 1998. The increase was primarily attributable to increases in
gains on sale of loans and leases through securitizations and servicing income.
Gain on Sale of Loans and Leases. For the year ended June 30, 1999,
gains of $64.5 million were recorded on the securitization of $777.5 million of
loans and leases. This is an increase of $23.7 million, or 58.1%, over gains of
$40.8 million recorded on securitizations of $384.7 million of loans and leases
for the year ended June 30, 1999.
The following table summarizes the volume of loan and lease
securitizations by type of loan securitized for the years ended June 30, 1999,
1998 and 1997 (in millions):
Year Ended June 30,
--------------------------------------
1999 1998 1997
----------- ----------- ----------
Business loans.......................... $ 71.9 $ 54.1 $ 38.1
Home equity loans....................... 613.0 270.9 76.9
Equipment leases........................ 92.6 59.7 --
----------- ----------- ----------
Total............................... $ 777.5 $ 384.7 $ 115.0
=========== ============ ==========
The increase in securitization gains for fiscal 1999 was primarily due
to the higher volume of loans securitized as reflected in the table above. The
securitization gain as a percentage of loans securitized, 9.1% for fiscal 1999,
was down from 12.3% on loans securitized for fiscal 1998. Including leases
securitized, the gain percentages on loans and leases securitized for the fiscal
years ended June 30, 1999 and 1998 were 8.3% and 10.6%, respectively. The
decrease in the gain percentage on loans securitized for fiscal 1999 was
primarily due to a reduction in the spread between the average coupon on loans
securitized and the pass-through
43
<PAGE>
rate paid to investors, a lower percentage of business loans securitized for
fiscal 1999, and the impact of the January 1, 1999 adoption of SFAS No. 134. For
fiscal 1999, business loans securitized, which have a higher coupon than home
equity loans, represented 10.5% of total loans securitized, compared to 16.6% of
total loans securitized for fiscal 1998. The lower percentage of business loans
securitized resulted in a reduced value of the interest-only strips generated
from the pool of securitized loans. See "Securitization Accounting
Considerations" for more detail on average coupons on loans securitized and
pass-through rates paid to investors. The impact of SFAS No. 134 is discussed
below.
The unfavorable impacts of the reduction in spread for fiscal 1999, a
lower percentage of business loans securitized for fiscal 1999, and the impact
SFAS No. 134 were partially offset by a reduction in the annual prepayment rate
assumption on business loans and an increase in the length of the prepayment
ramp period for home equity loans. Due to increases in the volume of loans
originated with prepayment fees, we have reduced the annual prepayment rate
assumption on business loans and lengthened the prepayment ramp period for home
equity loans for mortgage loan securitizations beginning with the 1999-1
securitization. Reducing the annual prepayment assumption and lengthening the
prepayment ramp period is supported by our experience with loans having
prepayment fees, as discussed below, that fewer borrowers will prepay, and those
prepaying will do so more slowly. The percentage of home equity loans containing
prepayment fees increased from less than 50% of loans originated to over 85%
over the nine-month period ending October 31, 1998. As a result of this increase
in the percentage of loans originated having prepayment fees, we have lengthened
the prepayment ramp period on home equity loans from 12 to 18 months beginning
with the 1999-1 mortgage loan securitization. This increase in the length of the
prepayment ramp period for home equity loans was supported by actual cumulative
prepayment experience through March 31, 1999, which demonstrated that only 25%
of home equity loans having prepayment fees were actually prepaid by the
borrowers, while 47% of home equity loans without prepayment fees were prepaid.
This cumulative historical performance demonstrates that it is nearly twice as
likely that a loan without a prepayment fee will be prepaid. See "Securitization
Accounting Considerations" for a comparison of the prepayment assumptions used
in our valuation of interest-only strips and servicing rights to actual
historical experience.
SFAS 134 requires that, after the securitization of a mortgage loan
held for sale, an entity classify the resulting mortgage-backed security or
other retained interests based on its ability and intent to hold or sell those
investments. In accordance with the provisions of SFAS No. 134, as of January 1,
1999, we reclassified our interest-only strips from trading securities to
available for sale securities. As available for sale securities, the difference
on the date of securitization between the fair value of an interest-only strip
and its allocated cost is recorded in stockholders' equity and reported as a
component of comprehensive income. Fair value adjustments of $5.8 million
pre-tax were recorded as a component of comprehensive income in the third and
fourth quarters of fiscal 1999. In fiscal 1998, which was prior to the adoption
of SFAS No. 134 and the resulting reclassification from trading securities to
available for sale securities, all differences on the date of securitization
between fair value and allocated cost of interest-only strips were recognized in
securitization gains. The adoption of SFAS No. 134 did not have a material
effect on our financial condition.
44
<PAGE>
Gain on sale of loans and leases securitized represents the difference
between the net proceeds received, and the allocated cost of loans and leases
securitized. The allocated cost of the loans and leases securitized is
determined by allocating their net carrying value between the loans and leases
securitized, the retained interest-only strips in the securitization and the
mortgage servicing rights retained, based upon their relative fair values. The
calculation of the fair value of the interest-only strips is based upon the
present value of the future expected excess cash flows and utilizes assumptions
made by management at the time loans and leases are sold. Assumptions used in
the estimation of the fair value of interest-only strips include the discount
rate used to calculate present value and the rates of prepayment and default on
the pool of loans. See "Securitization Accounting Considerations" and "Interest
Rate Risk Management" for more information regarding these assumptions.
The following schedule details loan and lease originations during the
fiscal years ended June 30, 1999, 1998 and 1997 (in thousands):
Year Ended June 30,
---------------------------------------
1999 1998 1997
----------- ----------- -----------
Business Purpose Loans................. $ 64,818 $ 52,335 $ 38,721
Home Equity Loans...................... 701,339 361,760 91,819
Equipment Leases....................... 96,289 70,480 8,004
----------- ----------- -----------
Total.............................. $ 862,446 $ 484,575 $ 138,544
=========== =========== ===========
Interest and Fee Income. Interest and fee income was $16.6 million for
the year ended June 30, 1999, a decrease of $0.8 million, or 4.8% from the year
ended June 30, 1998. Interest and fee income consists primarily of income earned
on available for sale loans and leases, premiums earned on whole loan sales and
other ancillary fees collected in connection with loan and lease originations.
Interest income decreased $3.1 million, or 29.5%, to $7.4 million for
the year ended June 30, 1999 as compared to $10.5 million for the year ended
June 30, 1998. This decrease was primarily attributable to a reduction in the
duration of time available for sale loans accrued interest income prior to
securitization and a reduction in the average coupon earned on loans and leases
originated, from 11.63% in fiscal 1998 to 11.30% in fiscal 1999. The decline in
the average coupon in fiscal 1999 primarily resulted from competitive pricing in
the home equity lending market.
Fee income increased $2.3 million, or 34.2%, to $9.2 million for the
year ended June 30, 1999 from $6.9 million for the year ended June 30, 1998. The
increase in fee income was due to an increase in ancillary fees earned in
connection with increased originations. An increase in loan and lease
origination related fees, which are primarily comprised of application fees and
other fees collected in connection with the loan and lease approval and closing
process, of $2.8 million was partially offset by a decrease in premiums on whole
loan sales.
45
<PAGE>
Premiums on whole loan sales decreased 15.7% to $2.3 million for the
fiscal year ended June 30, 1999 from $2.7 million for fiscal year ended June 30,
1998. The decrease in premiums on whole loan sales for the year ended June 30,
1999 was due to a decrease in the average premium earned on whole loan sales.
For fiscal 1998, the average premium earned on whole loan sales was 5.2%
compared to 2.2% in fiscal 1999. The decrease was due to general market
corrections in the whole loan sale market where purchasers of whole loans were
no longer willing to pay the level of premiums previously earned. The decrease
in the average premium earned was partially offset by a 105.0% increase in the
volume of whole loan sales in fiscal 1999 to $105.8 million from $51.6 million
during fiscal 1998.
Interest Accretion on Interest-Only Strips. Interest accretion
represents the interest component of cash flows received on interest-only
strips. Interest accretion of $2.0 million was recorded for the year ended June
30, 1999 compared to $0.5 for the year ended June 30, 1998.
We currently use a prospective approach to estimate interest accretion.
Periodically, we update estimates of residual cash flow from our
securitizations. When it is probable that there is a favorable change in
estimated residual cash flow from the cash flow previously projected, we
recognize a greater percentage of estimated interest accretion earned by the
securitization. Any change in value of the underlying interest-only strip could
impact our current estimate of residual cash flow earned from the
securitizations. For example, a significant change in market interest rates
could increase or decrease the level of prepayments, thereby changing the size
of the total managed loan portfolio and related projected cash flows. See
"--Securitization Accounting Considerations" for additional discussion.
Our methodology and assumptions for each period since March 31, 1999
are described below.
The increase in interest accretion was affected by two factors. First,
the increase reflects the growth in the average balance of interest-only strips
of 111.4%, or $135.5 million for the year ending June 30, 1999 from $64.1
million for the year ending June 30, 1998 and growth in cash flow received on
interest-only strips. Cash flows received on interest-only strips was $32.9
million for the year ended June 30, 1999, compared to $13.4 million for the year
ended June 30, 1998. As of June 30, 1998, only one of our existing
securitizations had satisfied its final target overcollateralization requirement
and was generating residual cash flow. As of June 30, 1999, five securitizations
had met final overcollateralization requirements. Meeting these final targets as
well as the fact that our more recent securitizations were much larger resulted
in a significant increase in cash flow to us from fiscal 1998 to the present.
Second, prior to the fourth quarter of fiscal 1999, residual cash flows
to us were limited due to the lack of maturity of the securitizations underlying
our interest-only strips. As described above, as the securitizations matured,
meaning that the final overcollateralization requirements were met, we received
cash flow from a greater number of securitizations. During the period prior to
receiving significant cash flow from the securitizations, we recognized only a
portion of the estimated interest accretion earned on our interest-only strips.
This methodology reflected our uncertainty as to the timing and quantity of
future residual cash flow. Our estimate of the
46
<PAGE>
amount of interest accretion to be recognized did not change until we received
expected cash flow for a sustained period of time. By the last quarter of fiscal
1999, more experience with the securitization pools was acquired and on a
gradual basis more securitizations were performing as expected in meeting their
final targets. At that time, we were realizing consistent cash flow and based on
this historical experience, we recognized a greater percentage of the estimated
interest accretion earned by the securitizations. This increase reflects our
increased certainty as to the amount of ongoing residual cash flow to be
received from the securitization trusts.
Servicing Income. Servicing income is comprised of contractual and
ancillary fees collected on securitized loans and leases, less amortization of
the servicing rights recorded at the time the loans and leases are securitized.
Servicing income increased $2.8 million, or 597.7%, to $3.3 million for the year
ended June 30, 1999, from $0.5 million for the year ended June 30, 1998. This
increase resulted from the higher average total managed portfolio, which was
$915.8 million during the year ended June 30, 1999 compared to $368.0 million
during the year ended June 30, 1998, an increase of 148.9%. As a percentage of
the average managed portfolio, servicing income increased to 0.36% for the year
ended June 30, 1999, from 0.13% for the year ended June 30, 1998, as a result of
the increase in the origination of loans with prepayment fees and the collection
of other ancillary fees. The origination of loans with prepayment fees increases
our servicing income in two ways. Prepayment fees reduce the likelihood of
borrowers prepaying their loans. This results in prolonging the period these
loans are outstanding which increases the contractual servicing fees collected
over the life of the loans. Additionally, the terms of our servicing agreements
with securitization trusts allow us to retain prepayment fees collected from
borrowers as part of our compensation for servicing loans. As a result, if a
borrower does prepay a loan, we are compensated for the loss of the remaining
contractual servicing fees that would have been collected over the remaining
term of the loan by receiving a lump sum fee at the time the prepayment occurs.
The following table summarizes the components of servicing income for
the years ended June 30, 1999, 1998 and 1997 (in millions):
Year Ended June 30,
-----------------------------------------
1999 1998 1997
------- -------- ------
Contractual and ancillary fees....... $ 8.9 $ 2.2 $ 0.8
Amortization of servicing rights..... (5.6) (1.7) (0.5)
------- -------- ------
Net servicing income................. $ 3.3 $ 0.5 $ 0.3
======= ======== ======
Total Expenses. Total expenses increased $23.1 million, or 55.8%, to
$64.6 million for the year ended June 30, 1999, from $41.4 million for the year
ended June 30, 1998. As described in more detail below, this increase was
primarily a result of higher interest expense attributable to sales of
subordinated debt securities and borrowings used to fund loan and lease
originations and increases in sales and marketing, and general and
administrative expenses. These increases related to the growth in loan and lease
originations, the growth in the total managed portfolio and the continued
building of support area infrastructure to support the increases in originated
and managed portfolios.
47
<PAGE>
Interest Expense. Interest expense increased $9.2 million, or 70.0%, to
$22.4 million for the year ended June 30, 1999 from $13.2 million for the year
ended June 30, 1998. The increase was attributable to an increase in the amount
of subordinated debt outstanding during fiscal 1999, the proceeds of which were
used to fund loan and lease originations and investments in operations required
to position us for future growth, and the costs related to greater utilization
of warehouse and credit line facilities to fund loan and lease originations.
Average subordinated debt outstanding during the year ended June 30, 1999 was
$156.6 million compared to $85.8 million during the year ended June 30, 1998.
Average interest rates paid on outstanding subordinated debt increased to 9.32%
for the year ended June 30, 1999 from 9.23% for the year ended June 30, 1998 due
to increases in the rates offered on subordinated debt in order to respond to
general increases in market rates and to attract additional funds. The average
outstanding balances under warehouse and other credit lines were $102.6 million
during the year ended June 30, 1999, compared to $57.6 million during the year
ended June 30, 1998. Borrowings under warehouse lines of credit are secured by
mortgage loans and represent advances of cash to us, usually at 98% of the
principal amount of the mortgage loan used as collateral. These borrowings are
for a limited duration, generally no more than 270 days, pending the ultimate
sale of the mortgage loans through securitization or whole loan sale, either of
which will generate the proceeds necessary to retire the borrowing.
Provision for Credit Losses. The provision for credit losses for fiscal
1999 was $0.9 million, compared to $0.5 million for fiscal 1998. An allowance
for credit losses for portfolio loans and leases and other receivables is
maintained primarily to account for loans and leases that are delinquent and are
expected to be ineligible for sale into a future securitization. The allowance
is calculated based upon management's estimate of the expected collectibility of
loans and leases outstanding based upon a variety of factors, including but not
limited to, periodic analysis of the available for sale loans and leases,
economic conditions and trends, historical credit loss experience, borrowers
ability to repay, and collateral considerations. Although we maintain an
allowance for credit losses at the level we consider adequate to provide for
potential losses, there can be no assurances that actual losses will not exceed
the estimated amounts or that an additional provision will not be required. The
allowance for credit losses was $0.7 million at June 30, 1999 as compared to
$0.9 million at June 30, 1998.
The following table summarizes changes in the allowance for credit
losses for the fiscal years ended June 30, 1999, 1998 and 1997 (in thousands):
Year Ended June 30,
-----------------------------------
1999 1998 1997
-------- ------ ------
Balance at beginning of period.......... $ 881 $ 338 $ 330
Acquired through acquisition............. -- 719 --
Provision for credit losses.............. 928 491 106
Charge offs, net of recoveries........... (1,107) (667) (98)
-------- ------ ------
Balance at end of period................. $ 702 $ 881 $ 338
======== ====== ======
48
<PAGE>
The following table summarizes the changes in the allowance for credit
losses by loan and lease type for the fiscal year ended June 30, 1999 (in
thousands).
Business Home
Purpose Equity Equipment
Loans Loans Leases Total
------- ----- ------ -------
Balance at beginning of period.... $ 49 $ 433 $ 399 $ 881
Provision for credit losses........ 278 296 354 928
(Charge offs) recoveries, net...... (301) (486) (320) (1,107)
------- ----- ------ -------
Balance at end of period........... $ 26 $ 243 $ 433 $ 702
======= ===== ====== =======
Net charge-offs increased $0.4 million in fiscal 1999 primarily due to
the growth in the total managed portfolio which increased 110.4% from $559.4
million as of June 30, 1998 to $1.2 billion as of June 30, 1999. Net charge-offs
as a percentage of the total managed portfolio were 0.12% in fiscal 1999, equal
to the percentage in fiscal 1998. The increase in losses recorded on our books
related to loans repurchased from our securitization trusts.
While we are under no obligation to do so, at times we elect to
repurchase some foreclosed and delinquent loans from the securitization trusts.
Under the terms of the securitization agreements, repurchases are permitted only
for foreclosed and delinquent loans and the purchase prices are at the loans'
outstanding contractual balance. Under the terms of the trust agreements, a
foreclosed loan is one where we as servicer have initiated formal foreclosure
proceedings against the borrower and a delinquent loan is one that is 30 days or
more past due. The foreclosed and delinquent loans we typically elect to
repurchase must be 90 days or more delinquent and are the subject of completed
foreclosure proceedings, or where a completed foreclosure is imminent. We elect
to repurchase loans in situations requiring more flexibility for the
administration and collection of these loans in order to maximize their economic
recovery and to avoid temporary discontinuations of residual or stepdown
overcollateralization cash flow from securitization trusts. The related
charge-offs on these repurchased loans are included in our provision for credit
losses in the period of charge-off. Our ability to repurchase these loans does
not disqualify us for sales accounting under SFAS No. 125 and other relevant
accounting literature because we are not required to repurchase any loan and our
ability to repurchase a loan is limited.
49
<PAGE>
The following table summarizes the principal balances of loans we have
repurchased from the mortgage loan securitization trusts for the three years
ended June 30, 1999, 1998 and 1997. All loans were repurchased at the
contractual outstanding balances at the time of repurchase. Mortgage loan
securitization trusts are listed only if loan repurchases occurred.
Summary of Loans Repurchased from Mortgage Loan Securitization Trusts
($ in thousands)
<TABLE>
<CAPTION>
1999-1 1998-4 1998-3 1998-1 1997-2 1997-1 1996-2 1996-1 Total
------ ------ ------ ------ ------ ------ ------ ------ -----
Year ended June 30, 1999:
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Business loans.................................. $ -- $ -- $ -- $ 23 $ -- $ 51 $ -- $ -- $ 74
Home equity loans............................... 35 15 311 277 265 344 -- 25 1,272
------- ------- ------- ------- ------- ------- ----- ------- -------
Total......................................... $ 35 $ 15 $ 311 $ 300 $ 265 $ 395 $ -- $ 25 $ 1,346
======= ======= ======= ======= ======= ======= ===== ======= =======
Number of loans repurchased..................... 1 1 2 4 4 6 -- 1 19
Year ended June 30, 1998:
Business loans.................................. $ -- $ -- $ -- $ -- $ -- $ 33 $ 264 $ -- $ 297
Home equity loans............................... -- -- -- -- -- 57 144 -- 201
------- ------- ------- ------- ------- ------- ----- ------- -------
Total......................................... $ -- $ -- $ -- $ -- $ -- $ 90 $ 408 $ -- $ 498
======= ======= ======= ======= ======= ======= ===== ======= =======
Number of loans repurchased..................... -- -- -- -- -- 2 2 -- 4
Year ended June 30, 1997:
Business loans.................................. $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ 74 $ 74
Home equity loans............................... -- -- -- -- -- -- -- 94 94
------- ------- ------- ------- ------- ------- ----- ------- -------
Total......................................... $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ 168 $ 168
======= ======= ======= ======= ======= ======= ===== ======= =======
Number of loans repurchased..................... -- -- -- -- -- -- -- 2 2
</TABLE>
50
<PAGE>
Employee Related Costs. Employee related costs increased $0.3 million,
or 5.7% to $5.3 million for the year ended June 30, 1999 from $5.0 million for
the year ended June 30, 1998. The increase was primarily the result of additions
to staff in support of the increased marketing efforts, loan and lease
originations and servicing activities. The number of employees at June 30, 1999,
1998 and 1997 were 894, 638 and 250, respectively. Management anticipates that
these expenses will continue to increase in the future as our expansion
continues and loan and lease originations continue to increase.
Sales and Marketing Expenses. Sales and marketing expenses increased
$7.7 million, or 54.2%, to $21.9 million for the year ended June 30, 1999 from
$14.2 million for the year-end June 30, 1998. The increases were primarily
attributable to targeted television and radio advertising related to home equity
loans and advertising costs resulting from increased newspaper and direct mail
advertising related to sales of subordinated debt and loan products. During
fiscal 1999, targeted television advertising was intensified in Chicago, Florida
and Georgia. Subject to market conditions, we plan to continue to expand our
service area throughout the United States. As a result, it is anticipated that
sales and marketing expenses will continue to increase in the future.
General and Administrative Expenses. General and administrative
expenses increased $5.5 million, or 64.7%, to $14.0 million for the year ended
June 30, 1999 from $8.5 million for the year ended June 30, 1998. The increase
was primarily attributable to increases in rent, telephone, office expenses,
professional fees and other expenses incurred as a result of previously
discussed increases in loan and lease originations and in the volume of total
loans and leases managed during fiscal 1999 and the continued building of
support area infrastructure to support the increases in originations and the
managed portfolio.
Income Taxes. Income taxes increased $1.4 million, or 20.6%, to $7.8
million for the year ended June 30, 1999 from $6.4 million for the year ended
June 30, 1998 due to an increase in income before income taxes. The effective
tax rate for the year ended June 30, 1999 was 35.5%, compared to 36% for the
year ended June 30, 1998.
Year Ended June 30, 1998 Compared to Year Ended June 30, 1997
Total Revenues. Total revenues increased $33.4 million, or 128.5%, to
$59.3 million for the year ended June 30, 1998 from $26.0 million for the year
ended June 30, 1997. The increase was attributable to increases in gain on sale
of loans and leases through securitizations and interest and fee income and
servicing income.
Gain on Sale of Loans and Leases. Gain on sale of loans and leases
increased $20.8 million, or 104.5%, to $40.8 million for the year ended June 30,
1998 from $19.9 million for the year ended June 30, 1997. The increase was the
result of selling $384.7 million of loans and leases through securitizations,
including sales of $54.1 million of business purpose loans, $270.9 million of
home equity loans and $59.7 million of equipment leases in fiscal 1998, compared
to the sale of $38.1 million of business purpose loans and $76.9 million of home
equity loans in fiscal 1997. There were no sales of leases through
securitization during the year ended June 30, 1997.
51
<PAGE>
Interest and Fee Income. Interest and fee income increased $11.8
million, or 210.7%, to $17.4 million for the year ended June 30, 1998, from $5.6
million for the year ended June 30, 1997. The increase was primarily due to
increases in the volume of loans and leases originated and held as available for
sale prior to securitization and an increase in fee income as a result of an
increase in premiums on whole loan sales and other fees earned in connection
with loan and lease originations. The volume of whole loan sales was $51.6
million for fiscal 1998, compared to $3.8 million in fiscal 1997.
Servicing Income. Servicing income increased $0.2 million, or 68.2%, to
$0.5 million for the year ended June 30, 1998 from $0.3 million for the year
ended June 30, 1997 as a result of an increase in the average managed portfolio
to $368.0 million during the year ended June 30, 1998 from $118.3 million during
the year ended June 30, 1997.
Total Expenses. Total expenses increased $24.5 million, or 144.4%, to
$41.4 million for the year ended June 30, 1998 from $17.0 million for the year
ended June 30, 1997. This increase was related to the increase in loan and lease
originations, costs associated with a larger managed portfolio of loans and
leases, geographic expansion of our market and the October 1, 1997 acquisition
and operation of New Jersey Mortgage and Investment Corp. and subsidiaries.
Interest Expense. Interest expense increased $8.0 million, or 153.8%,
to $13.2 million for the year ended June 30, 1998 from $5.2 million for the year
ended June 30, 1997. The increase was attributable to increases in the amount of
subordinated debt outstanding, greater utilization of warehouse lines of credit
to fund loans and leases and debt assumed and incurred in connection with the
acquisition of New Jersey Mortgage. Average subordinated debt outstanding was
$85.8 million during the year ended June 30, 1998 compared to $44.4 million
during the year ended June 30, 1997.
Average interest rates paid on the subordinated debt increased to 9.23%
for the year ended June 30, 1998 from 8.99% for the year ended June 30, 1997 due
to increases in the rates offered on subordinated debt in order to attract
additional funds and higher rates paid on subordinated debt assumed in the
acquisition of New Jersey Mortgage. Interest expense on lines of credit was $4.2
million for the year ended June 30, 1998 compared to $0.5 million for the year
ended June 30, 1997 due to the increase in warehouse lines to fund loan and
lease originations. In addition, approximately $14.5 million of debt was assumed
in the acquisition of New Jersey Mortgage resulting in approximately $1.1
million of additional interest expense for the year ended June 30, 1998.
Provision for Credit Losses. The provision for credit losses increased
by $0.4 million to $0.5 million for the year ended June 30, 1998 from $0.1
million for the year ended June 30, 1997. The increase was primarily due to a
$0.4 million increase in charge-offs on equipment leases.
52
<PAGE>
Employee Related Costs. Employee related costs increased $3.4 million,
or 212.5% to $5.0 million for the year ended June 30, 1998 from $1.6 million for
the year ended June 30, 1997. The increase was primarily the result of
additional staff needed to support the increased marketing efforts, loan and
lease originations and servicing activities and the addition of personnel added
upon the acquisition of New Jersey Mortgage.
Sales and Marketing Expenses. Sales and marketing expenses increased
$7.2 million, or 102.9%, to $14.2 million for the year ended June 30, 1998 from
$7.0 million for the year-end June 30, 1997. The increase was attributable to
greater usage of newspaper, direct mail and television advertising relating to
originations of home equity loans and sales of subordinated debt securities.
General and Administrative Expenses. General and administrative
expenses increased $5.4 million, or 174.4%, to $8.5 million for the year ended
June 30, 1998 from $3.1 million for the year ended June 30, 1997. The increase
was attributable to increases in rent, telephone, office expenses, professional
fees and other expenses incurred as a result of previously discussed increases
in loan and lease originations, servicing and branch operations experienced
during the year ended June 30, 1998. In addition, goodwill recorded from the
acquisition of New Jersey Mortgage was amortized on the straight-line method
over fifteen years resulting in a charge of $0.8 million for the year ended June
30, 1998.
Income Taxes. Income taxes increased $3.3 million, or 106.5%, to $6.4
million for the year ended June 30, 1998 from $3.1 million for the year ended
June 30, 1997 due to an increase in income before income taxes and an increase
in the effective tax rate from 34% for the year ended June 30, 1997 to 36% for
the year ended June 30, 1998.
53
<PAGE>
Financial Condition
Balance Sheet Information
(in thousands, except per share data)
June 30,
-------------------------------
1999 1998 1997
---- ---- ----
Cash and cash equivalents.................... $22,395 $ 4,486 $ 5,014
Loan and lease receivables, net:
Available for sale......................... 33,776 62,382 35,712
Other...................................... 6,863 4,096 1,144
Interest-only strips......................... 178,218 95,913 37,507
Receivables for sold loans and leases........ 66,086 2,377 960
Servicing rights............................. 43,210 18,472 8,083
Total assets................................. 396,301 226,551 103,989
Subordinated debt............................ 211,652 112,182 56,486
Warehouse lines and other notes payable...... 58,691 32,403 --
Total liabilities............................ 338,055 183,809 73,077
Total stockholders' equity................... 58,246 42,742 30,912
Book value per common share.................. $ 16.24 $ 11.55 $ 8.40
------------------------
(a) Total liabilities to tangible equity.
(b) Total liabilities less cash and secured borrowings to tangible equity.
(c) Interest-only strips less overcollateralization interests to tangible
equity plus subordinated debt with a remaining maturity greater than 5
years.
(d) Tangible equity is calculated as total stockholders' equity less goodwill.
June 30, 1999 Compared to June 30, 1998
Total assets increased $169.7 million, or 74.9%, to $396.3 million at
June 30, 1999 from $226.6 million at June 30, 1998 due primarily to increases in
interest-only strips and other receivables, cash and cash equivalents and
servicing rights.
Cash and cash equivalents increased $17.9 million, or 399.2% to $22.4
million at June 30, 1999 from $4.5 million at June 30, 1998 primarily due to
receipts from sales of subordinated debt securities.
54
<PAGE>
Interest-only strips increased $82.3 million, or 85.8%, to $178.2
million at June 30, 1999 from $95.9 million at June 30, 1998. During fiscal
1999, $777.6 million in loan and lease securitizations were completed resulting
in the recognition of $93.2 million of interest-only strips. During fiscal 1999,
$2.0 million of interest accretion and increases in the fair value of
interest-only strips of $3.4 million were recorded. These increases were
partially offset by cash flow of $32.9 million received during fiscal 1999 from
securitization trusts. Cash receipts on interest-only strips include required
purchases of overcollateralization of $21.5 million. Purchases of additional
overcollateralization include $4.8 million paid to meet the initial
overcollateralization requirements of securitizations closed during fiscal 1999
and $16.7 million withheld from excess cash flows by securitization trusts to
fund final target overcollateralization levels. See "Securitization Accounting
Considerations" for more information regarding overcollateralization
requirements.
55
<PAGE>
The following table summarizes the purchases of overcollateralization
by trust for the years ended June 30, 1999 and 1998. See "Securitization
Accounting Considerations" for a discussion of overcollateralization
requirements in thousands.
<TABLE>
<CAPTION>
1999-2 1999-1 1998-4 1998-3 1998-2 1998-1 1997-2 1997-1 1996-2 1996-1 Total
------ ------ ------ ------ ------ ------ ------ ------ ------ ------ -----
Year ended June 30, 1999:
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Initial overcollateralization......$1,100 $ 925 $ 800 $2,000 -- -- -- -- -- -- $ 4,825
Required purchases of additional
overcollateralization............. -- 1,724 1,852 5,076 4,307 2,267 1,456 -- -- -- $16,682
------ ------ ------ ------- ------- ------ ------ ------ ------ ----- -------
Total...........................$1,000 $2,649 $2,652 $7,076 $4,307 $2,267 $1,456 -- -- -- $21,507
====== ====== ====== ====== ====== ====== ====== ====== ====== ===== =======
Year ended June 30, 1998:..........
Initial overcollateralization -- -- -- -- $1,801 $1,575 $2,000 -- -- -- $ 5,376
Required purchases of additional
overcollateralization............. -- -- -- -- 3 1,938 3,544 2,972 1,334 170 $ 9.961
------ ------ ------ ------- ------- ------ ------ ------ ------ ----- -------
Total........................... -- -- -- -- $1,804 $3,513 $5,544 $2,972 $1,334 $ 170 $15,337
====== ====== ====== ====== ====== ====== ====== ====== ====== ===== =======
</TABLE>
56
<PAGE>
Servicing rights increased $24.7 million, or 133.9%, to $43.2 million
at June 30, 1999 from $18.5 million at June 30, 1998 due primarily to the
recording of $30.3 million of servicing rights obtained in connection with loan
and lease securitizations, partially offset by amortization of servicing rights.
Loan and lease receivables - available for sale decreased $28.6
million, or 45.9%, at June 30, 1999, primarily due to the timing and size of
fourth quarter fiscal 1999 securitizations. Mortgage loans securitized in the
fourth quarter of fiscal 1999 were $220.0 million compared to $120.0 million in
the fourth quarter of fiscal 1998.
Total liabilities increased $154.3 million, or 83.9%, to $338.1 million
at June 30, 1999 from $183.8 million at June 30, 1998 due primarily to increases
in subordinated debt and notes payable. The increase in subordinated debt and
notes payable of $125.7 million, or 87.0%, was primarily attributable to $101.2
million of net sales of subordinated debt securities. Subordinated debt in the
amount of $211.7 million was outstanding at June 30, 1999. Additional borrowings
of $51.5 million, net of repayments, were obtained under warehouse and line of
credit facilities to fund lending and leasing activities. See "Liquidity and
Capital Resources" for further detail.
Accounts payable and accrued expenses increased $11.3 million, or
72.4%, to $26.8 million at June 30, 1999 from $15.6 million at June 30, 1998 due
to growth in lending and leasing activities resulting in larger accruals for
interest expense and other operating expenses. Deferred income taxes increased
$5.7 million, or 52.8%, to $16.6 million at June 30, 1999 from $10.9 million at
June 30, 1998 due to timing differences in recognition of income from
securitizations.
June 30, 1998 Compared to June 30, 1997
Total assets increased $122.6 million, or 117.9%, to $226.6 million at
June 30, 1998 from $104.0 million at June 30, 1997 due primarily to increases in
loans and leases available for sale, other receivables and other assets.
Loans and leases available for sale increased $26.7 million, or 74.7%,
to $62.4 million at June 30, 1998, from $35.7 million at June 30, 1997. The
increase was the result of increases in originations, net of sales, of $44.2
million during year ended June 30, 1998 as compared to $19.7 million for the
year ended June 30, 1997. Interest-only strips increased $58.4 million, or
155.7%, to $95.9 million at June 30, 1998, from $37.5 million at June 30, 1997
and servicing rights increased $10.4 million, or 128.5%, to $18.5 million at
June 30, 1998 from $8.1 million at June 30, 1997, both due to loan and lease
securitizations during fiscal 1998. Other assets increased $17.1 million, or
150.0%, to $28.5 million at June 30, 1998 from $11.4 million at June 30, 1997
due to the recognition of $16.2 million of goodwill, net of amortization,
resulting from the acquisition of New Jersey Mortgage.
Total liabilities increased $110.7 million, or 151.4%, to $183.8
million at June 30, 1998 from $73.1 million at June 30, 1997 due primarily to
increases in subordinated debt and warehouse lines and other notes payable. The
increase in subordinated debt of $55.7 million, or
57
<PAGE>
98.6%, was attributable to net sales of subordinated debt securities.
Subordinated debt in the amount of $112.2 million was outstanding at June 30,
1998. Additional borrowings of $32.4 million, net of repayments, were obtained
under warehouse and lines of credit and other notes payable to fund lending and
leasing activities. See "Liquidity and Capital Resources" for further detail.
Accounts payable and accrued expenses increased $9.5 million, or
155.7%, to $15.6 million at June 30, 1998 from $6.1 million at June 30, 1997 due
to growth in lending and leasing activities resulting in larger accruals for
interest expense and other operating expenses. Deferred income taxes increased
$6.3 million, or 137.0%, to $10.9 million at June 30, 1998 from $4.6 million at
June 30, 1997 due to timing differences in recognition of income from
securitizations.
58
<PAGE>
Managed Portfolio Quality
The following table provides data concerning delinquency experience,
REO and loss experience for the loan and lease portfolio serviced (dollars in
thousands):
<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------
June 30,
--------------------------------------------------------------
1999 1998 1997
------------------- ------------------- -------------------
Delinquency by Type Amount % Amount % Amount %
------------------------------------------ --------- ----- --------- ----- -------- -----
<S> <C> <C> <C> <C> <C> <C>
Business Purpose Loans
Total managed portfolio................... $ 148,932 $ 101,250 $ 68,979
========== ========= ========
Period of delinquency
31-60 days............................ $ 1,506 1.01% $ 1,236 1.22% $ 1,879 2.72%
61-90 days............................ 475 .32 928 .92 462 .67
Over 90 days.......................... 8,612 5.78 3,562 3.52 718 1.04
---------- ---- --------- ---- -------- ----
Total delinquencies................... $ 10,593 7.11% $ 5,726 5.66% $ 3,059 4.43%
========== ==== ========= ==== ======== ====
REO....................................... $ 2,881 $ 611 $ 605
========== ========= ========
Home Equity Loans
Total managed portfolio................... $ 858,806 $ 349,685 $ 98,211
========== ========= ========
Period of delinquency
31-60 days............................ $ 4,836 .56% $ 3,726 1.08% $ 262 .27%
61-90 days............................ 4,149 .48 1,022 .30 341 .35
Over 90 days.......................... 15,346 1.79 3,541 1.02 115 .12
---------- ---- --------- ---- -------- ----
Total delinquencies................... $ 24,331 2.83% $ 8,289 2.40% $ 718 .73%
========== ==== ========= ==== ======== ====
REO....................................... $ 7,067 $ 311 $ -
========== ========= ========
Equipment Leases
Total managed portfolio................... $ 169,180 $ 108,463 $ 9,461
========== ========= ========
Period of delinquency
31-60 days............................ $ 389 .23% $ 1,000 .92% $ 29 .31%
61-90 days............................ 425 .25 320 .30 - -
Over 90 days.......................... 1,826 1.08 1,478 1.36 4 .04
---------- ---- --------- ---- -------- ----
Total delinquencies................... $ 2,640 1.56% $ 2,798 2.58% $ 33 .35%
========== ==== ========= ==== ======== ====
Combined
----------------------------------------------------------------------------------------------------------
Total managed portfolio................... $1,176,918 $ 559,398 $176,651
========== ========= ========
Period of delinquency
31-60 days............................ $ 6,731 .57% $ 5,962 1.07% $ 2,170 1.23%
61-90 days............................ 5,049 .43 2,270 .41 803 .45
Over 90 days.......................... 25,784 2.19 8,581 1.53 837 .47
---------- ---- --------- ---- -------- ----
Total delinquencies................... $ 37,564 3.19% $ 16,813 3.01% $ 3,810 2.15%
========== ==== ========= ==== ======== ====
REO....................................... $ 9,948 $ 922 $ 605
========== ========= ========
Losses experienced during the period(a)(b) $ 1,137 .12% $ 667 .12% $ 98 .07%
========== ==== ========= ==== ======== ====
</TABLE>
-----------------------
(a) Percentage based on average total managed portfolio.
(b) Losses recorded on our books for loans owned by us including loans
repurchased from securitization trusts were $1.1 million for the year
ended June 30, 1999. Losses absorbed by loan securitization trusts were
$30,000 for the year ended June 30, 1999. All losses recorded in the years
ended June 30, 1998 and 1997 related to loans owned by us including loans
repurchased from securitization trusts.
59
<PAGE>
Delinquent Loans and Leases
Total delinquencies (loans and leases with payments past due more than
30 days) in the total managed portfolio were $37.6 million at June 30, 1999 as
compared to $16.8 million and $3.8 million, respectively, at June 30, 1998 and
1997. Total delinquent loans and leases as a percentage of the total portfolio
serviced (the "delinquency rate") was 3.19% at June 30, 1999 as compared to
3.01% and 2.15%, respectively, at June 30, 1998 and 1997. Increases in the
delinquency rates were attributable to the maturation of the total managed
portfolio, meaning a greater percentage of loans are accumulating in the over 90
day category until the foreclosure process is completed which could take many
months. The total managed portfolio was $1,176.9 million at June 30, 1999,
compared to $559.4 million and $176.7 million, respectively, at June 30, 1998
and 1997. Delinquent loans and leases in the available for sale portfolio were
$1.8 million at June 30, 1999.
Real Estate Owned
Total real estate owned ("REO"), comprising foreclosed properties and
deeds acquired in lieu of foreclosure, increased to $9.9 million, or 0.85% of
the total managed portfolio at June 30, 1999 compared to $0.9 million and $0.6
million, respectively, at June 30, 1998 and 1997. The increase in REO reflects
the seasoning of the portfolio and the results of loss mitigation initiatives of
quick repossession of collateral through accelerated foreclosure processes and
"Cash For Keys" programs. Cash for Keys is a program whereby in certain select
situations, when collateral values of loans support the action, a delinquent
borrower may be offered a monetary payment in exchange for the deed to a
property held as collateral for the loan. This process eliminates the need to
initiate a formal foreclosure process which could take many months. Included in
total REO at June 30, 1999 was $0.7 million carried on our books, and $9.2
million in loan securitization trusts.
60
<PAGE>
Loss Experience
The following table summarizes net charge off experience by loan type
for the fiscal years ended June 30, 1999, 1998 and 1997 (in thousands):
June 30,
---------------------------------------------
1999 1998 1997
------------ ------------ ------------
Business purpose loans........ $ 301 $ 138 $34
Home equity loans............. 486 - -
Equipment Leases.............. 320 529 64
------ ----- ----
Total......................... $1,107 $ 667 $98
====== ===== ====
Interest Rate Risk Management
A primary market risk exposure that we face is interest rate risk.
Profitability and financial performance is sensitive to changes in U.S. Treasury
yields, LIBOR yields and the spread between the effective rate of interest
received on loans and leases available for sale or securitized (generally fixed
interest rates) and the interest rates paid pursuant to credit facilities or the
pass-through rate to investors for interests issued in connection with
securitizations. Also, a substantial and sustained increase in market interest
rates could adversely affect our ability to originate and purchase loans and
leases. The overall objective of our interest rate risk management strategy is
to mitigate the effects of changing interest rates on profitability and the fair
value of interest rate sensitive assets (primarily loans and leases available
for sale, interest-only strips, servicing rights and subordinated debt).
61
<PAGE>
Interest Rate Sensitivity - The following table provides information
about financial instruments that are sensitive to changes in interest rates. For
interest-only strips and servicing rights, the table presents projected
principal cash flows utilizing certain assumptions including prepayment and
default rates. See "Securitization Accounting Considerations" for more
information on these assumptions. For debt obligations, the table presents
principal cash flows and related average interest rates by expected maturity
dates (dollars in thousands):
<TABLE>
<CAPTION>
Amount Maturing in Years Ending June 30,
----------------------------------------------------------------------------------------------------
There- Fair
2000 2001 2002 2003 2004 after Total Value
---- ---- ---- ---- ---- ----- ----- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Rate Sensitive
Assets:
Loans and leases
available for
sale (a) $ 32,512 $ 14 $ 16 $ 18 $ 20 $ 1,196 $ 33,776 $ 35,152
Interest-only strips 29,611 38,091 37,921 34,987 27,900 106,082 274,592 178,217
Servicing rights 15,208 11,829 8,968 6,771 5,101 13,777 61,654 43,210
Investments held to
maturity 126 128 133 143 145 763 1,438 911
Rate Sensitive
Liabilities:
Fixed interest rate
borrowings 119,683 34,923 25,055 9,049 12,315 13,148 214,173 214,745
Average interest rate 8.71% 9.46% 10.22% 10.56% 10.64% 11.36% 9.36%
Variable interest
rate borrowings $ 56,170 $ - $ - $ - $ - $ - $ 56,170 $ 56,170
Average interest rate 6.45% 6.45%
</TABLE>
(a) For purposes of this table, all loans and leases which qualify for
securitization are reflected as maturing within twelve months, since
loans and leases available for sale are generally held for less than
three months prior to securitization.
Loans and Leases Available for Sale. Gain on sale of loans and leases
may be unfavorably impacted to the extent fixed-rate mortgage loans or leases in
the available for sale portfolio are held prior to securitization. A significant
variable affecting the gain on sale of loans and leases in a securitization is
the spread between the average coupon rate on fixed rate loans and leases, and
the weighted average pass-through rate to investors for interests issued in
connection with the securitization. Although the average loan and lease coupon
rate is fixed at the time the loan or lease is originated, the pass-through rate
to investors is not fixed until the pricing of the securitization which occurs
just prior the sale of the loans. Therefore, if market rates required by
investors increase prior to securitization of the loans the spread between the
average coupon rate on the loans and the pass-through rate to investors may be
reduced or eliminated, which could have a material adverse effect on our results
of operations and financial condition. We estimate that each 0.1% reduction in
the spread reduces the gain on sale of loans as a percentage of loans
securitized by approximately 0.25%
62
<PAGE>
Hedging strategies may be utilized in an attempt to mitigate the effect
of changes in interest rates between the date rate commitments on loans are made
and the date the fixed rate pass-through certificates to be issued by a
securitization trust are priced, a period typically less than 90 days. These
strategies include the utilization of derivative financial instruments such as
futures and forward pricing on securitizations. The nature and quality of
hedging transactions are determined based on various factors, including market
conditions and the expected volume of mortgage loan originations and purchases.
At the time the contract is executed, derivative contracts are specifically
designated as hedges of mortgage loans or loan commitments to be included in the
next subsequent securitization. The mortgage loans and loan commitments consist
of essentially similar pools of fixed rate loans and loan commitments,
collateralized by real estate (primarily residential real estate) with similar
maturities and similar credit characteristics. Fixed rate pass-through
certificates issued by securitization trusts are generally priced to yield a
spread above a benchmark rate based on U.S. Treasury securities with a
three-year maturity. We hedge potential rate changes in this security with
futures contracts on a similar underlying security. This provides strong
correlation between our hedge contracts and the ultimate pricing we will receive
on the subsequent securitization. The gain or loss derived from these hedging
transactions is deferred, reported in other assets or other liabilities and
recognized as an adjustment to the gains on sale of loans when the loans are
securitized. Cash flow related to hedging activities is reported as it occurs.
Gains or losses on terminated contracts are recognized in the period the
termination occurs. The effectiveness of our hedges are continuously monitored.
If correlation did not exist, the related gain or loss on the contract would be
recognized as an adjustment to income in the period incurred.
During fiscal 1999, net losses of approximately $2.0 million were
incurred on hedging transactions (futures contracts), which were recognized as
an offset to the gains on sale recorded on securitizations during the year. At
June 30, 1999 no such contracts were outstanding. At June 30, 1999, we were
obligated to satisfy a lease securitization prefund requirement of $9.0 million
of business equipment leases.
While Treasury rates and the pass-through rate of securitizations are
generally strongly correlated, this correlation has not held in periods of
financial market disruptions (e.g. the so-called Russian Crisis in the later
part of 1998).
We may use hedging in an attempt to mitigate the effect of changes in
market value of fixed rate mortgage loans held for sale. However, an effective
interest rate risk management strategy is complex and no such strategy can
completely insulate us from interest rate changes. While Treasury rates and the
pass-through rate of securitizations are generally strongly correlated, this
correlation has not held in periods of financial market disruption.
Additionally, poorly designed strategies or improperly executed transactions may
increase rather than mitigate risk. In addition, hedging involves transaction
and other costs. Such costs could increase as the period covered by the hedging
protection increases. It is expected that such loss would be offset by income
realized from securitizations in that period or in future periods. As a result,
we may be prevented from effectively hedging fixed rate loans held for sale,
without reducing income in current or future periods due to the costs associated
with hedging activities.
63
<PAGE>
Interest-Only Strips and Servicing Rights - A portion of the
certificates issued to investors by securitization trusts are floating interest
rate certificates based on one-month LIBOR plus a spread. The fair value of the
excess cash flow we will receive from these trusts would be affected by any
changes in rates paid on the floating rate certificates. At June 30, 1999, $84.4
million of debt issued by loan securitization trusts was floating rate debt
based on LIBOR, representing 8.6% of total debt issued by mortgage loan
securitization trusts. In accordance with generally accepted accounting
principles, the changes in fair value were recognized as part of net adjustments
to other comprehensive income, which is a component of retained earnings. It is
estimated that a 1.0% increase in one-month LIBOR would decrease the fair value
of interest-only strips by approximately $2.4 million.
A significant change in market interest rates could increase or
decrease the level of loan prepayments, thereby changing the size of the total
managed loan portfolio and the related projected cash flows. Higher than
anticipated rates of loan prepayments could require a write down of the fair
value of related interest-only strips and servicing rights, adversely impacting
earnings during the period of adjustment. Revaluations of our interest-only
strips and servicing rights are periodically performed. As part of the
revaluation process, assumptions used for prepayment rates are monitored against
actual experience and adjusted if warranted. It is estimated that a 100 basis
point increase in prepayment rates (for example, from 24% to 25% on home equity
loans and from 10% to 11% on business loans) would decrease the fair value of
interest-only strips by approximately $4.3 million and the fair value of
servicing assets by approximately $1.0 million. See "Securitization Accounting
Considerations" for further information regarding these assumptions.
We attempt to minimize prepayment risk on interest-only strips and
servicing assets by requiring prepayment fees on business purpose loans and home
equity loans, where permitted by law. Currently, approximately 94% of business
purpose loans and 80% of home equity loans in the managed portfolio are subject
to prepayment fees. In addition, we have found that credit impaired borrowers
are less sensitive to interest rates than monthly payment balances further
reducing prepayment expectations.
Subordinated Debt - We also experience interest rate risk to the extent
that as of June 30, 1999 approximately $93.6 million of our liabilities were
comprised of subordinated debt with scheduled maturities of greater than one
year. To the extent that market interest rates demanded for subordinated debt
increase in the future, the rates paid on replacement debt could exceed rates
currently paid thereby increasing interest expense and reducing net income.
Liquidity and Capital Resources
Because we have historically experienced negative cash flows from
operations, our business requires continual access to short and long-term
sources of debt to generate the cash required to fund our operations. Our cash
requirements include funding loan originations and capital expenditures,
repaying existing subordinated debt, paying interest expense and operating
expenses, and in connection with our securitizations, funding
overcollateralization requirements and servicer obligations. At times, we have
used cash to repurchase our common stock and could in the future use cash for
unspecified acquisitions of related businesses or assets.
64
<PAGE>
Borrowings against warehouse and credit facilities provide the primary
funding source for loan originations. These borrowings represent cash advanced
to us for a limited duration, generally no more than 270 days, and are secured
by the loans. The ultimate sale of the loans through securitization or whole
loan sale generates the cash proceeds necessary to repay the borrowings under
these facilities. See "Credit Facilities" below for a more detailed description
on these facilities.
Cash flow from operations and the issuance of subordinated debt fund
our remaining cash requirements discussed above. We rely significantly on our
ability to issue subordinated debt to meet these requirements since our cash
flow from operations is not sufficient to meet these requirements. Our cash
requirements include the obligation to repay maturing subordinated debt. In the
process of growing our businesses over the last three years, we have issued
subordinated debt to partially fund that growth and to partially fund maturities
of subordinated debt. We expect that our historical levels of negative cash flow
from operations will decline in the future and then become positive as the rate
of increase in our operating cash expenditures begins to level, then decline due
to an expected decrease in the rate of growth in loan production and as we
realize efficiencies in the infrastructure and loan production channels we have
been building and as the cash flows from our interest-only strips increase. The
cash balances that we have built over the last 12 months are sufficient to cover
approximately 19.0% of the $118.1 million of subordinated debt maturities due
within one year. Cash balances have increased from $4.5 million at June 30, 1998
to $22.4 million at June 30, 1999.
We continue to significantly rely on access to the asset-backed
securities market through securitizations to generate cash proceeds for the
repayment of borrowings under warehouse and credit facilities and to create our
interest-only strips and servicing rights which will provide future cash flows.
It is our expectation that future cash flows from our interest-only strips and
servicing rights will generate more of the cash flows required to meet
maturities of our subordinated debt.
65
<PAGE>
A significant portion of loan originations are non-conforming mortgages
to subprime borrowers. Some participants in the non-conforming mortgage industry
have experienced greater than anticipated losses on their securitization
interest-only strips due to the effects of increased credit losses, the effects
of increased delinquencies and increased prepayment rates, resulting in some
competitors exiting the business or recording valuation allowances or write
downs for these conditions in fiscal 1999. As a result, some participants
experienced restricted access to capital required to fund loan originations, and
have been precluded from participation in the asset-backed securitization
market. However, we have maintained our ability to obtain funding and to
securitize loans. Factors that have minimized the effect of adverse market
conditions on ABFS include our ability to originate loans through established
retail channels, focus on credit underwriting, assessment of prepayment fees on
loans, diversification of lending in the home equity, business loan and
equipment lease markets and the ability to raise capital through sales of
subordinated debt securities pursuant to a registered public offering. Subject
to economic, market and interest rate conditions, we intend to continue to
implement additional securitizations of our loan and lease portfolios. Any delay
or impairment in our ability to securitize loans and leases, as a result of
market conditions or otherwise, could adversely affect the results of
operations.
Additionally, we act as the servicer of the loans and leases
securitized and in that capacity will be obligated to advance funds in some
circumstances which may create greater demands on our cash flow than either
selling loans with servicing released or maintaining a portfolio of loans and
leases. When borrowers are delinquent in making monthly payments on mortgage
loans included in a securitization trust, we are required to advance interest
for the delinquent loans if we deem that the advances will be ultimately
recoverable. These advances require funding from our capital resources, but have
priority of repayment from the succeeding month's mortgage loan payments.
To a limited extent, we intend to continue to augment the interest and
fee income earned on loan and lease portfolios by selling loans and leases in
whole loan sales to unrelated third parties. These transactions also create
additional liquid funds available for lending activities.
At June 30, 1999, a total of $211.7 million of subordinated debt was
outstanding, and credit facilities totaling $432.2 million were available, of
which $61.9 million was drawn upon.
Subordinated Debt Securities. During fiscal 1999, we sold $101.3
million in principal amount of subordinated debt securities, net of redemptions,
with maturities ranging between one day and ten years. As of June 30, 1999,
approximately $211.7 million of subordinated debt was outstanding. Under a shelf
registration statement declared effective by the Securities and Exchange
Commission on October 20, 1998, we registered $250.0 million of subordinated
debt of which $122.0 million was available for issuance at June 30, 1999. The
proceeds from sales of subordinated debt securities will be used to fund general
operating and lending activities. We intend to meet our obligation to repay such
debt as it matures with income from operations, including securitization or sale
of loans or leases, working capital and cash generated from additional debt
financing. The utilization of funds for the repayment of such obligations should
not adversely affect operations.
66
<PAGE>
Credit Facilities. The following is a description of the warehouse and
line of credit facilities that are utilized to fund origination of loans and
leases prior to securitization. All of our on balance sheet facilities are
senior in right of payment to the subordinated debt. The warehouse revolving
lines of credit are secured by loan and lease receivables. The other credit
facilities are secured with interest-only strips or other assets. The warehouse
credit agreements require that we maintain specific covenants regarding net
worth, leverage and other standards. At June 30, 1999, we were in compliance
with the terms of all loan covenants.
<TABLE>
<CAPTION>
Amount Amount
Amount Utilized-on Utilized-off
Committed Balance Sheet Balance Sheet
------------- ------------- -------------
(in thousands)
<S> <C> <C> <C>
Revolving credit facilities:
Warehouse revolving line of credit, expiring August 2000.... $ 150,000 $ 102 $ --
Warehouse revolving line of credit, expiring October 2000... 150,000 42,627 --
Warehouse revolving line of credit, expiring September 2000. 20,000 3,764 --
------------- ------------- -------------
Total warehouse facilities.................................. 320,000 46,493 --
Revolving line of credit, expiring December 2000............ 5,000 5,000 --
Repurchase agreement........................................ 4,677 4,677 --
------------- ------------- -------------
Total revolving credit facilities........................... 329,677 56,170 --
Other credit facilities and notes payable:
Commercial paper conduit for lease production, expires
October 1999.............................................. 100,000 -- 3,193
Other debt.................................................. 2,521 2,521 --
------------- ------------- -------------
Total credit facilities..................................... $ 432,198 $ 58,691 $ 3,193
============= ============= =============
</TABLE>
Our subsidiaries had an aggregate $100.0 million Interim Warehouse and
Security Agreements with Prudential Securities Credit Corporation expiring
August 31, 1999 to fund loan originations. The agreement was subsequently
increased to $150.0 million and extended to August 31, 2000. The obligations
under these agreements are guaranteed by the Company. Under these agreements,
the subsidiaries may obtain advances subject to certain conditions, which
extensions of credit bear interest at a specified margin over the LIBOR rate.
The obligations under these agreements are collateralized by pledged loans. At
June 30, 1999, $0.1 million of this facility was drawn upon.
We, along with certain of our subsidiaries, obtained a $150.0 million
warehouse credit facility from a syndicate of banks led by Chase Bank of Texas
N.A. expiring October 1, 2000. Under this warehouse facility, advances may be
obtained, subject to certain conditions, including sublimits based upon the type
of collateral securing the advance. Interest rates on the advances are based
upon 30-day LIBOR plus a margin. Obligations under the facility are
collateralized by certain pledged loans and other collateral related thereto.
The facility also requires the obligation to meet certain financial ratios and
contains restrictive covenants, including covenants limiting loans to and
transaction with affiliates, the issuance of additional debt, and the types of
investments that can be purchased. At June 30, 1999, $42.6 million of this
facility was drawn upon.
67
<PAGE>
In September 1998 our subsidiaries, American Business Leasing, Inc. and
Federal Leasing Corp, entered into a credit agreement with First Union National
Bank pursuant to which First Union committed to extend $20.0 million of credit
in the form of a warehouse line of credit to such entities to enable them to
fund eligible lease receivables. The agreement terminates in September 2000.
Under the First Union line of credit, American Business Leasing and Federal
Leasing may obtain advances in increments of $500,000 or greater, subject to
certain conditions, which extensions of credit shall bear interest at either the
LIBOR rate plus a margin or the prime rate set by First Union less a margin at
the borrower's option. This agreement has a term of two years unless accelerated
upon an event of default as described in the agreement. The obligation under the
First Union line of credit is collateralized by pledged leases and other
collateral related thereto. This obligation is guaranteed by us and certain of
our subsidiaries. At June 30, 1999, $3.8 million of this line of credit was
being utilized.
In October 1998, American Business Leasing and American Business Lease
Funding Corporation, a wholly-owned subsidiary of American Business Leasing,
entered into a $100.0 million commercial paper conduit underwritten by First
Union Capital Markets to finance equipment lease production. The agreement
allows for up to two sales of equipment leases per month into the conduit. The
agreement terminates on October 14, 1999 unless terminated earlier in the event
of default described therein. The cost of financing is the average interest rate
on commercial paper plus a margin. At June 30, 1999, $3.2 million of this
facility was being utilized. If we do not extend the term of this agreement, we
will utilize other lines of credit currently available to us to fund lease
production or may explore other financing arrangements.
The commercial paper conduit for lease production provided for sale of
equipment leases using a pooled securitization. The facility permits us to sell
leases in a two-step transfer that qualifies for sale accounting under SFAS No.
125. First, we sell the leases to a special purpose entity which has been
established for the limited purpose of buying and reselling the leases. Next,
the special purpose entity sells the leases to a qualified special purpose
entity (the "facility") for cash. The facility is sponsored by a major financial
institution which has the option to re-securitize the leases, ordinarily using
longer-term certificates. Should a longer term securitization not occur, the
leases would remain in the commercial paper conduit until their contractual
termination. We have no obligation to repurchase the leases and neither the
facility nor the sponsor has a right to require such repurchase. Under this
arrangement the leases have been isolated from the Company; the transfer of
these leases to the conduit facility is treated as a sale for financial
reporting purposes.
In December 1998, we and our subsidiaries, American Business Credit,
Home American Credit and New Jersey Mortgage entered into an agreement with
Chase Bank pursuant to which Chase Bank committed to extend $5.0 million of
credit in the form of a Security Agreement against the Class R Certificate of
the ABFS Mortgage Loan Trust 1998-2. Under the Chase Bank line of credit
American Business Credit, Home American Credit and New Jersey Mortgage may
borrow up to $5.0 million, subject to certain conditions, which extensions of
credit shall bear interest at the LIBOR rate plus a margin. Such agreement has a
term of one year unless accelerated upon an event of default as described in
such agreement. At June 30, 1999, $5.0 million of this line of credit was being
utilized.
As of June 30, 1999, $175.9 million of debt was scheduled to mature
during the twelve months ending June 30, 2000 which was mainly comprised of
maturing subordinated debt, warehouse lines of credit and other debt incurred in
connection with the acquisition of New Jersey Mortgage. We currently expect to
refinance the maturing debt through extensions of maturing debt or new debt
financing and, if necessary, may retire the debt through cash flow from
operations and loan sales or securitizations. Despite the current use of
securitizations to fund loan growth, we are also dependent upon other borrowings
to fund a portion of our operations. We intend to continue to utilize debt
financing to fund operations in the future.
68
<PAGE>
Any failure to renew or obtain adequate funding under a warehouse
credit facility, or other borrowings, or any substantial reduction in the size
or pricing in the markets for loans and leases, could have a material adverse
effect on our results of operations and financial condition. To the extent we
are not successful in maintaining or replacing existing financing, we may have
to curtail loan and lease production activities or sell loans and leases rather
than securitize them, thereby having a material adverse effect on our results of
operations and financial condition.
We lease our corporate headquarters facilities under a five-year
operating lease expiring in January 2003 at a minimum annual rental of
approximately $2.2 million. The lease contains a renewal option for an
additional period at increased annual rental. We also leases a facility in
Roseland, New Jersey which functions as the loan production headquarters for New
Jersey Mortgage and its subsidiaries at an annual rental cost of approximately
$0.8 million. The current lease term expires on July 31, 2003 and contains a
renewal option for an additional term of five years at an increased annual
rental. In addition, branch offices are leased on a short-term basis in various
cities throughout the United States. The leases for the branch offices are not
material to operations. See Note 14 of the Notes to Consolidated Financial
Statements for information regarding lease payments.
Year 2000 Update
A Year 2000 ("Y2K") Task Force was established to assess Y2K issues and
to implement a Y2K compliance program. The Task Force, which meets weekly,
includes members of the Information Technology Department, Finance Department,
Legal Department, representatives from all business units, and an independent
consultant with Y2K expertise. The Task Force reports monthly to executive
management. The Task Force has completed an assessment of the core information
technology (IT) systems and is continuing the process of evaluating the
remainder of the non-core IT systems as well as non-IT systems. The non-IT
systems include the telecommunications systems, business machines and building
and premises systems.
The Task Force has adopted a five-phase approach to assess Y2K issues
and to address those issues that are reasonably within its control:
Phase 1 - Awareness: One of the first tasks performed by the Task Force
was to generate greater awareness of Y2K issues. The awareness process included
contacting all business units to educate management regarding the Y2K program
and to discern any potential issues. Each business unit has assigned a point of
contact to assist the Task Force in the assessment and compliance process.
Awareness efforts will continue throughout the span of the project.
69
<PAGE>
Phase 2 - Assessment: An inventory has been conducted of all IT
hardware and software, including business applications, operating systems,
third-party products, and internal and external interfaces that may be at risk.
Each critical system was reviewed, rated for importance to business operations
and identified as "retain" or "retire." This process has been completed for all
core and non-core IT systems. We are in the process of replacing most core IT
systems due to strategic and growth reasons unrelated to the Y2K issue. The
process began in 1996 and completion is anticipated by September 30, 1999. All
systems acquired as part of this enhancement project must be certified by their
vendors as Y2K compliant. Non-IT systems have been evaluated, which include the
telecommunications systems, business machines, building and premises systems and
key suppliers, whose Y2K failures could have a material impact on our operation.
This part of the assessment, which was dependent on obtaining specific responses
from third parties, was completed as of June 30, 1999. The assessment phase also
includes the development of appropriate response plans, which may include
repair, conversion, replacement or elimination of affected systems.
Phase 3 - Renovation: This phase involves the remediation of Y2K issues
identified as a result of the assessment. With the exception of a single,
vendor-provided application, all core IT system remediation efforts were
completed on schedule (June 30, 1999). The vendor of the non-compliant
application has committed to remediate and successfully test the system,
achieving Y2K compliance by September 30, 1999 (See Phase 4 - Validation).
Phase 4 - Validation: This phase involves establishing a test
environment, performing systems tests and validating the results. The systems to
be used for testing have been acquired, and the validation process has begun.
Y2K testing and verification of all new "replacement" systems will be done as
part of their implementation process. Test plans have been written, with
verification testing projected to be completed by September 30, 1999. We have
successfully completed Y2K testing of a suite of applications currently
providing service to many of the key business units. In addition, the data
processing infrastructure which includes mainframe, network and server related
equipment, has been tested and validated as compliant.
Phase 5 - Implementation: This phase involves the deployment of the
appropriate Y2K compliant strategy based on the results of the Assessment,
Renovation and Validation phases.
Year 2000 Risks and Contingency Plans
The majority of the IT hardware and infrastructure is less than 2 years
old, minimizing exposure to Y2K issues. This inventory is being checked against
vendor provided Y2K information for validation. Also, we intend that all new
hardware and software acquisitions are represented and warranted by the vendors
as Y2K compliant and that any systems developed by in-house programmers will
continue to be created using Y2K compliant tools, platforms, and procedures.
70
<PAGE>
We have contacted suppliers who provide necessary goods and services,
including banking institutions who provide financial services, to evaluate their
Y2K compliance plans. As responses are received, their responses are reviewed
and evaluated to ensure that no Y2K related event will materially impede the
ability of our suppliers to continue to provide needed goods and services as the
Year 2000 is approached and reached. We believe all responses received indicate
that these goods and services are, or will be, Year 2000 compliant. The failure
of our suppliers to address their Y2K issues on a timely basis may have a
material adverse effect on our operations.
Based upon the current status, we have targeted the end of September
1999 for completion of our Y2K compliance program. However, no assurance can be
given that we will meet this time frame. We currently estimate that the costs
directly associated with the Y2K compliance program will be approximately $0.5
million. This budgeted amount does not include the costs associated with the
"replacement" systems as referenced in Phase 2. The funds necessary to complete
the systems replacement project and the Y2K compliance program are included in
the Information Technology operating budget. Approximately $0.1 million of the
amount budgeted for costs directly associated with the Y2K compliance program
have been expended as of June 30, 1999.
We are in the process of developing a contingency plan that will be
used in the event that any hardware, software or other computer systems, or
those of our vendors are not Y2K compliant, based on risks identified as a
result of the assessment and testing phase of our Year 2000 compliance program.
While we fully expect that the precautions being taken will prepare us
for entering Year 2000, there is always the potential for risk. Our failure or
any of our material suppliers' failure to bring their systems into Year 2000
compliance on a timely basis may have a material adverse effect on our
operations.
Fourth Quarter Results
For the fourth quarter of fiscal 1999, net income increased $0.3
million, or 6.5%, to $3.7 million from $3.4 million for the comparable period of
fiscal 1998. Basic earnings per common share increased 8.6% to $1.01 on average
common shares of 3,626,072, compared to $0.93 per share on average common shares
of 3,699,576 for the comparable period of fiscal 1998. Diluted earnings per
common share increased 11.2% to $0.99 on average common shares of 3,730,236,
compared to $0.89 per share on average common shares of 3,905,831 for the
comparable period of fiscal 1998.
The increases in net income and earnings per share primarily resulted
from the impact of increases in the volume of loans and leases securitized
during the periods and increases in the collection of fee income due to the
increase in the total managed portfolio.
71
<PAGE>
Recent Accounting Pronouncements
Set forth below are recent accounting pronouncements which may have a
future effect on operations. These pronouncements should be read in conjunction
with the significant accounting policies, which have been adopted, that are set
forth in Note 1 of the Notes to the Consolidated Financial Statements.
In June 1998, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 133 "Accounting for Derivative Instruments and Hedging Activities."
("SFAS No. 133"). SFAS No. 133 establishes accounting and reporting standards
for derivative instruments, including certain derivative instruments embedded in
other contracts (collectively referred to as derivatives), and for hedging
activities. It requires that an entity recognize all derivatives as either
assets or liabilities in the statement of financial position and measure those
instruments at fair value. If certain conditions are met, a derivative may be
specifically designated as (a) a hedge of the exposure to changes in the fair
value of a recognized asset or liability or an unrecognized firm commitment
(fair value hedge), (b) a hedge of the exposure to variable cash flows of a
forecasted transaction (cash flow hedge), or (c) a hedge of the foreign currency
exposure of a net investment in a foreign operation, an unrecognized firm
commitment, an available-for-sale security, or a foreign-currency-denominated
forecasted transaction. At the time of issuance SFAS No. 133 was to be effective
on a prospective basis for all fiscal quarters of fiscal years beginning after
June 15, 1999. Subsequently, the effective date of the standard was delayed
until years beginning after June 15, 2000. The adoption of this standard is not
expected to have a material effect on our financial condition or results of
operations.
Financial Statements
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
The information required to be included in this Item 7A regarding
Quantitative and Qualitative Disclosures about Market Risk is incorporated by
reference from "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Interest Rate Risk Management."
Item 8.
Page
----
Report of Independent Certified Public Accountants [82]
Consolidated Balance Sheets [83]
Consolidated Statements of Income [84]
Consolidated Statements of Stockholders' Equity [85]
Consolidated Statements of Cash Flow [86]
Notes to Consolidated Financial Statements [89]
72
<PAGE>
AMERICAN BUSINESS FINANCIAL SERVICES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
----
Audited Annual Financial Information:
Report of Independent Certified Public Accountants ......................F-2
Consolidated Balance Sheets as of June 30, 1999 and 1998.................F-3
Consolidated Statements of Income for the years ended
June 30, 1999, 1998 and 1997.......................................F-4
Consolidated Statements of Stockholders' Equity for the years ended
June 30, 1999, 1998 and 1997.......................................F-5
Consolidated Statements of Cash Flow for the years ended
June 30, 1999, 1998 and 1997.......................................F-6
Notes to Consolidated Financial Statements...............................F-9
<PAGE>
Report of Independent Certified Public Accountants
American Business Financial Services, Inc.
Bala Cynwyd, Pennsylvania
We have audited the accompanying consolidated balance sheets of American
Business Financial Services, Inc. and subsidiaries as of June 30, 1999 and 1998,
and the related consolidated statements of income and stockholders' equity, and
cash flow for each of the years in the three-year period ended June 30, 1999.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these consolidated 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 audit 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 American Business
Financial Services, Inc. and subsidiaries as of June 30, 1999 and 1998, and the
consolidated results of their operations and their cash flow for each of the
years in the three-year period ended June 30, 1999 in conformity with generally
accepted accounting principles.
In January 1999, the Company adopted Financial Accounting Standards Board
Statement No. 134, "Accounting for Mortgage-Backed Securities Retained after the
Securitization of Mortgage Loans Held for Sale by a Mortgage Banking
Enterprise." This change is discussed in Note 1 of the Notes to the Consolidated
Financial Statements.
/s/ BDO Seidman LLP
Philadelphia, Pennsylvania
September 9, 1999
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Consolidated Balance Sheets
================================================================================
<TABLE>
<CAPTION>
June 30, 1999 1998
--------------------------------------------------------------------------------------------------------------------
(dollar amounts in thousands)
<S> <C> <C>
Assets
Cash and cash equivalents $ 22,395 $ 4,486
Loan and lease receivables, net
Available for sale 33,776 62,382
Other 6,863 4,096
Interest-only strips 178,218 95,913
Receivable for sold loans and leases 66,086 2,377
Prepaid expenses 1,671 2,572
Property and equipment, net 10,671 7,785
Servicing rights 43,210 18,472
Other assets 33,411 28,468
--------------------------------------------------------------------------------------------------------------------
Total assets $ 396,301 $ 226,551
====================================================================================================================
Liabilities and Stockholders' Equity
Liabilities
Subordinated debt $ 211,652 $ 112,182
Warehouse lines and other notes payable 58,691 32,403
Accounts payable and accrued expenses 26,826 15,563
Deferred income taxes 16,604 10,864
Other liabilities 24,282 12,797
--------------------------------------------------------------------------------------------------------------------
Total liabilities 338,055 183,809
--------------------------------------------------------------------------------------------------------------------
Stockholders' equity
Preferred stock, par value $.001 authorized, 1,000,000 shares
Issued and outstanding, none -- --
Common stock, par value $.001 authorized, 9,000,000 shares
Issue: 3,703,514 shares in 1999 (including treasury
shares of 116,550 in 1999), and 3,699,576 shares in 3 3
1998
Additional paid-in capital 23,339 23,256
Accumulated other comprehensive income 3,354 --
Retained earnings 33,596 20,083
Treasury stock, 116,550 shares (1,446) --
--------------------------------------------------------------------------------------------------------------------
58,846 43,342
Note receivable (600) (600)
--------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 58,246 42,742
--------------------------------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $ 396,301 $ 226,551
====================================================================================================================
</TABLE>
See accompanying notes to consolidated financial statements.
F-3
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Consolidated Statements of Income
================================================================================
<TABLE>
<CAPTION>
Year ended June 30, 1999 1998 1997
--------------------------------------------------------------------------------------------------------------------
(dollar amounts in thousands, except per share data)
<S> <C> <C> <C>
Revenues
Gain on sale of loans and leases $ 64,490 $ 40,778 $ 19,942
Interest and fees 16,553 17,386 5,584
Interest accretion on interest - only strips 2,021 538 101
Servicing income 3,321 476 283
Other income 39 157 52
--------------------------------------------------------------------------------------------------------------------
Total revenues 86,424 59,335 25,962
--------------------------------------------------------------------------------------------------------------------
Expenses
Interest 22,427 13,190 5,175
Provision for credit losses 928 491 106
Employee related costs 5,318 5,030 1,618
Sales and marketing 21,859 14,237 6,964
General and administrative 14,041 8,497 3,097
--------------------------------------------------------------------------------------------------------------------
Total expenses 64,573 41,445 16,960
--------------------------------------------------------------------------------------------------------------------
Income before provision for income taxes 21,851 17,890 9,002
Provision for income taxes 7,763 6,435 3,062
--------------------------------------------------------------------------------------------------------------------
Net income $ 14,088 $ 11,455 $ 5,940
====================================================================================================================
Earnings per common share
Basic $ 3.83 $ 3.10 $ 2.03
Diluted $ 3.72 $ 2.98 $ 1.95
====================================================================================================================
Average common shares (in thousands)
Basic 3,682 3,692 2,921
Diluted 3,791 3,847 3,049
====================================================================================================================
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity
================================================================================
<TABLE>
<CAPTION>
Year ended June 30, 1999, 1998 and 1997
-----------------------------------------------------------------------------------------------------------------------------
Common Stock
----------------------- Accumulated
Number Additional Other
Of Shares Paid-In Comprehensive Retained
Outstanding Amount Capital Income Earnings
-----------------------------------------------------------------------------------------------------------------------------
(amounts in thousands)
<S> <C> <C> <C> <C> <C>
Balance, June 30, 1996 2,471 $ 2 $ 1,932 $ -- $ 3,057
Sale of common stock, --
net of offering expenses of $2,261 1,208 1 20,737 --
Cash dividends ($.06 per share) -- -- -- -- (158)
Net income -- -- -- -- 5,940
-----------------------------------------------------------------------------------------------------------------------------
Balance, June 30, 1997 3,679 3 22,669 -- 8,839
Common stock issued for acquisition 21 -- 500 -- --
Issuance of non-employee stock options -- -- 87 -- --
Cash dividends ($.06 per share) -- -- -- -- (211)
Net income -- -- -- -- 11,455
-----------------------------------------------------------------------------------------------------------------------------
Balance, June 30, 1998 3,700 3 23,256 -- 20,083
Comprehensive income:
Net income -- -- -- -- 14,088
Unrealized gains on investment securities -- -- -- 3,354 --
-----------------------------------------------------------------------------------------------------------------------------
Total comprehensive income -- -- -- 3,354 14,088
Issuance of non-employee stock options -- -- 73 -- --
Exercise of stock options 4 -- 10 -- --
Cash dividends ($0.165 per share) -- -- -- -- (575)
Repurchase of treasury shares (117) -- -- -- --
-----------------------------------------------------------------------------------------------------------------------------
Balance, June 30, 1999 3,587 $ 3 $ 23,339 $ 3,354 $ 33,596
=============================================================================================================================
</TABLE>
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity
(Continued)
================================================================================
<TABLE>
<CAPTION>
Year ended June 30, 1999, 1998 and 1997
----------------------------------------------------------------------------------------------
Total
Treasury Note Stockholders'
Stock Receivable Equity
-------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Balance, June 30, 1996 $ -- $ (600) $ 4,391
Sale of common stock,
net of offering expenses of $2,261 -- -- 20,738
Cash dividends ($.06 per share) -- -- (158)
Net income -- -- 5,940
-------------------------------------------------------------------------------------------
Balance, June 30, 1997 -- (600) 30,911
Common stock issued for acquisition -- -- 500
Issuance of non-employee stock options -- -- 87
Cash dividends ($.06 per share) -- -- (211)
Net income -- -- 11,455
-------------------------------------------------------------------------------------------
Balance, June 30, 1998 -- (600) 42,742
Comprehensive income:
Net income -- -- 14,088
Unrealized gains on investment securities -- -- 3,354
-------------------------------------------------------------------------------------------
Total comprehensive income -- -- 17,442
Issuance of non-employee stock options -- -- 73
Exercise of stock options -- -- 10
Cash dividends ($0.165 per share) -- -- (575)
Repurchase of treasury shares (1,446) -- (1,446)
-------------------------------------------------------------------------------------------
Balance, June 30, 1999 $ (1,446) $ (600) $ 58,246
===========================================================================================
</TABLE>
See accompanying notes to consolidated financial statements
F-5
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Consolidated Statements of Cash Flow
================================================================================
<TABLE>
<CAPTION>
Year ended June 30, 1999 1998 1997
-------------------------------------------------------------------------------------------------------------------
(dollar amounts in thousands)
<S> <C> <C> <C>
Cash flows from operating activities
Net income $ 14,088 $ 11,455 $ 5,940
Adjustments to reconcile net income to
net cash used in operating activities
Gain on sales of loans and leases (64,490) (40,778) (19,942)
Depreciation and amortization 10,826 5,340 1,992
Interest accretion on interest-only strips (2,021) (538) (101)
Provision for credit losses 928 491 106
Accounts written off, net (1,107) (667) (98)
Loans and leases originated for sale (918,477) (510,783) (147,521)
Principal payments on loans and leases 9,200 19,003 4,555
Proceeds from sale of loans and leases 883,349 436,294 118,817
(Increase) decrease in accrued interest
and fees on loan and lease receivables (2,767) 6,164 (1,288)
Purchase of initial overcollateralization on
securitized loans and leases (4,825) (5,376) (3,453)
Required purchases of additional
overcollateralization on securitized
loans and leases (16,682) (9,961) (4,655)
Cash flow from interest-only strips 32,927 13,382 4,643
(Increase) decrease in receivable for loans
and leases sold (70,895) (2,687) 204
Decrease (increase) in prepaid expenses 901 (1,391) (1,266)
Increase in accounts payable and
accrued expenses 11,465 9,199 2,949
Increase in deferred income taxes 5,539 5,333 3,125
Increase in loans in process 11,484 6,455 4,001
Other, net (976) 3,393 (1,709)
-------------------------------------------------------------------------------------------------------------------
Net cash used in operating activities (101,533) (55,672) (33,701)
-------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Consolidated Statements of Cash Flow
(Continued)
================================================================================
<TABLE>
<CAPTION>
Year ended June 30, 1999 1998 1997
----------------------------------------------------------------------------------------------------------------------
(dollar amounts in thousands)
<S> <C> <C> <C>
Cash flows from investing activities
Purchase of property and equipment $ (5,819) $ (4,085) $ (1,738)
Proceeds from sale of property and equipment 684 -- --
Purchase of investments -- (2,986) (5,000)
Principal receipts and maturity of investments 3,428 5,101 81
Purchase of subsidiary, net -- (8,866) --
------------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (1,707) (10,836) (6,657)
------------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities
Proceeds from issuance of subordinated
debentures $ 168,357 $ 73,884 $ 33,991
Principal payments on subordinated debentures (70,636) (25,044) (11,125)
Net borrowings on revolving lines of credit 25,241 19,750 (2,348)
Proceeds from repurchase agreement 4,677 -- --
Principal payments on debt, other (1,566) (445) (18)
Financing costs incurred (2,986) (2,041) (1,053)
Dividends paid (575) (211) (158)
Issuance of non-employee stock options 73 87 --
Exercise of employee stock options 10 -- --
Repurchase of treasury stock (1,446) -- --
Proceeds from public offering, net of related
costs -- -- 20,738
------------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 121,149 65,980 40,027
------------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in
cash and cash equivalents $ 17,909 $ (528) $ (331)
Cash and cash equivalents at beginning of year 4,486 5,014 5,345
------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 22,395 $ 4,486 $ 5,014
========================================================================================================================
</TABLE>
See accompanying notes to consolidated financial statements.
F-7
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Consolidated Statements of Cash Flow
(Continued)
================================================================================
<TABLE>
<CAPTION>
Year ended June 30, 1999 1998 1997
----------------------------------------------------------------------------------------------------------------------
(dollar amounts in thousands)
<S> <C> <C> <C>
Supplemental disclosures of cash flow information
Cash paid during the year for:
Interest $ 18,900 $ 10,647 $ 2,877
=======================================================================================================================
Income taxes $ 3,750 $ 50 $ --
=======================================================================================================================
Supplemental disclosure of noncash financing activity
Noncash transaction recorded in connection with acquisition of subsidiary
Decrease in acquisition debt $ (1,001) $ (3,418) $ --
Decrease in loan and lease receivables 1,001 3,418 --
=======================================================================================================================
</TABLE>
See accompanying notes to consolidated financial statements.
F-8
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
1. Summary of Business
Significant
Accounting American Business Financial Services, Inc. ("ABFS"),
Policies together with its subsidiaries (the "Company"), is a
diversified retail financial service organization operating
throughout the United States. The Company originates, sells
and services loans to businesses secured by real estate and
other business assets, mortgage and home equity loans,
typically to credit impaired borrowers secured by first and
second mortgages and business equipment leases. In addition
the Company sells subordinated debt securities to the
public, the proceeds of which are used to fund loan and
lease originations and the Company's operations.
Basis of Financial Statement Presentation
The consolidated financial statements include the accounts
of ABFS and its subsidiaries (all of which are wholly
owned). The consolidated financial statements have been
prepared in accordance with generally accepted accounting
principles. All significant intercompany balances and
transactions have been eliminated. In preparing the
consolidated financial statements, management is required to
make estimates and assumptions which affect the reported
amounts of assets and liabilities as of the date of the
consolidated financial statements and the reported amounts
of revenues and expenses during the reporting period. Actual
results could differ from those estimates. These estimates
include, among other things, estimated prepayment, credit
loss and discount rates on loans and leases sold with
servicing retained, estimated servicing revenues and costs,
valuation of collateral owned and determination of the
allowance for credit losses.
Certain prior period financial statement balances have been
reclassified to conform to current period presentation. All
outstanding share, average common share, earnings per common
share and stock option amounts have been retroactively
adjusted to reflect the effect of a 5% stock dividend
declared August 18, 1999. See note 10 for further
description.
F-9
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
1. Summary of Cash and Cash Equivalents
Significant
Accounting Cash equivalents consist of short-term investments with an
Policies - initial maturity of three months or less.
(Continued)
Loan and Lease Receivables
Loan and lease receivables -available for sale are loans and
leases the Company plans to sell or securitize and are
carried at the lower of aggregate cost (principal balance,
including unamortized origination costs and fees) or market
value. Market value is determined by quality of credit risk,
types of loans originated, current interest rates, economic
conditions, and other relevant factors.
Loan and lease receivables -other is comprised mainly of
accrued interest and fees on loans and leases and lease
equipment residuals receivable from a third party. These
amounts are carried at their estimated net recoverable
value.
Allowance for Credit Losses
The Company's allowance for credit losses on available for
sale loans and leases is maintained to account for loans and
leases that are delinquent and are expected to be ineligible
for sale into a securitization. The allowance is calculated
based upon management's estimate of the expected
collectibility of loans and leases outstanding based upon a
variety of factors, including but not limited to, periodic
analysis of the available for sale loans and leases,
economic conditions and trends, historical credit loss
experience, borrowers ability to repay, and collateral
considerations.
Additions to the allowance arise from the provision for
credit losses charged to operations or from the recovery of
amounts previously charged-off. Loan and lease charge offs
reduce the allowance.
Loan and Lease Origination Costs and Fees
Direct loan and lease origination costs and loan fees such
as points and other closing fees are recorded as an
adjustment to the cost basis of the related loan and lease
receivable and are recognized in the Statement of Income as
an adjustment to the gain on sale recorded at the time the
loans and leases are securitized.
F-10
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
1. Summary of Interest-only Strips
Significant
Accounting The Company sells a majority of its originated loans and
Policies - leases through securitizations. In connection with these
(Continued) securitizations, the Company receives cash and an
interest-only strip which represents our retained interest
in the securitized loans and leases. As a holder of the
interest-only strips, the Company is entitled to receive
certain excess (or residual) cash flows which are derived
from payments made to the trust from the securitized loans
and leases after deducting payments to investors in the
securitization trust and other miscellaneous fees. These
cash flows are projected over the life of the loans and
leases using certain prepayment and default assumptions.
Excess cash flows are retained by the trust until certain
overcollateralization levels are established. The
overcollateralization causes the aggregate principal amount
of the related securitization pool to exceed the aggregate
balance of the investor notes. The overcollateralization
serves as credit enhancement for the investors. The
securitization trusts and its investors have no recourse to
other assets of the Company for failure of the securitized
loans and leases to pay when due.
The fair values of the excess cash flows are estimated based
on a discounted cash flow analysis, and are recorded by the
Company at the time loans and leases are securitized. Cash
flows are discounted from the date the cash is expected to
be available to the Company (the "cash-out method"). Cash
flows are discounted using an interest rate management
believes an unrelated purchaser would require.
Interest-only strips are periodically revalued by the
Company based on a discounted cash flow analysis of loans
and leases remaining in the trusts. The assumptions for
prepayment and default rates are monitored against actual
experience and adjusted if warranted. See "Management's
Discussion and Analysis of Financial Condition and Results
of Operations - Securitization Accounting Considerations"
for more information regarding these assumptions and actual
experience.
In October 1998, the Financial Accounting Standards Board
("FASB") issued Statement of Financial Accounting Standards
("SFAS") No. 134, "Accounting for Mortgage-Backed Securities
Retained after the Securitization of Mortgage Loans Held for
Sale by a Mortgage Banking Enterprise". SFAS No. 134
requires that after the securitization of a mortgage loan
held for sale, an entity classify the resulting
mortgage-backed security or other retained interests based
on its ability and intent to hold or sell those investments.
SFAS No. 134 became effective for fiscal quarters beginning
after December 15, 1998. In accordance with the provisions
of SFAS No. 134, the Company has reclassified its retained
interests from trading securities to available for sale
securities. As available for sale securities, subsequent
adjustments to the fair value of retained interests are
recorded in stockholders' equity and reported as a component
of comprehensive income.
F-11
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
1. Summary of Servicing Rights
Significant
Accounting Upon the securitization of loans and leases, the Company
Policies - retains servicing rights. Because the benefits of servicing
(Continued) are expected to be more than adequate compensation to the
Company for performing the servicing, the Company
capitalizes the benefits associated with the rights to
service securitized loans and leases based on the servicing
rights' relative fair value to other consideration received
in a securitization. The fair value of servicing rights is
estimated based on a discounted cash flow analysis which
considers contractual fees for servicing (generally 0.5% of
outstanding loans and leases serviced) and the rights to
collect ancillary servicing related fees, which include
prepayment fees, late charges, nonsufficient fund fees and
other miscellaneous fees, from the loans and leases, net of
costs to service the loans and leases. Assumptions for
prepayments and credit losses used to value servicing rights
are consistent with assumptions used to value interest-only
strips in securitizations. Servicing rights are amortized
based on the ratio of net servicing income received in the
current period to total net servicing income projected to be
realized from the servicing rights. Projected net servicing
income is in turn determined by the estimated future balance
of the underlying mortgage loan portfolio, which declines
over time from prepayments and scheduled loan amortization.
Capitalized servicing rights are evaluated for impairment.
The servicing rights are stratified by loan type (business
or home equity loan) which is the predominant risk
characteristic of the underlying financial asset.
Impairment, if any, is measured (by strata) as the excess of
unamortized cost over fair value as measured by discounted
cash flows. See "Management's Discussion and Analysis -
Securitization Accounting Considerations" for more
information regarding these assumptions and actual
experience.
Property and Equipment
Property and equipment are stated at cost less accumulated
depreciation and amortization. Depreciation and amortization
is computed using the straight-line method over the
estimated useful life of the assets ranging from 3 to 15
years.
Financing Costs and Amortization
Financing costs incurred in obtaining revolving lines of
credit are recorded in other assets and are amortized using
the straight-line method over the terms of the agreements.
Financing costs incurred in connection with public offerings
of subordinated debt securities are also recorded in other
assets and are amortized over the term of the related debt.
Investments Held to Maturity
Investments classified as held to maturity recorded in other
assets consist of asset-backed securities that the Company
has the positive intent and ability to hold to maturity.
These investments are stated at amortized cost.
F-12
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
1. Summary of Real Estate Owned
Significant
Accounting Property acquired by foreclosure or in settlement of loan
Policies - and lease receivables is recorded in other assets, and is
(Continued) carried at the lower of the cost basis in the loan or fair
value of the property less estimated costs to sell.
Revenue Recognition
The Company derives its revenue principally from gain on
sale of loans and leases, interest and fees on loans and
leases, and servicing income.
Gains on sales of loans and leases through securitizations
represent the difference between the net proceeds to the
Company, including retained interests in the securitization,
and the allocated cost of loans and leases securitized. The
allocated cost of loans and leases securitized is determined
by allocating their net carrying value between the loans and
leases, the interest-only strips and the servicing rights
retained by the Company based upon their relative fair
values.
Interest and fee income consists of interest earned on
available for sale loans and leases, premiums earned on
loans sold with servicing released and other ancillary fees
collected in connection with loan and lease origination.
Interest income is recognized based on the interest method.
Accrual of interest income is suspended when the receivable
is contractually delinquent for 90 days or more. The accrual
is resumed when the receivable becomes contractually
current, and past-due interest income is recognized at that
time. In addition, a detailed review will cause earlier
suspension if collection is doubtful. Premiums earned on
loans sold with servicing released, referred to as whole
loan sales, are the difference between the net proceeds from
the sale and the loans net carrying value. The net carrying
value of loans is equal to their principal balance plus
unamortized origination costs and fees.
Interest accretion on interest-only strips represents the
yield component of cash flows received on interest-only
strips. The basis for recognizing interest accretion on
interest-only strips is the prospective approach.
Periodically, the Company updates estimates of residual cash
flow from its securitizations. When it is probable that
there is a favorable change in estimated residual cash flow
from the cash flow previously projected, the Company
recognizes a greater percentage of interest accretion earned
by the securitization. Any probable unfavorable change in
estimated residual cash flow would likewise decrease the
percentage of estimated interest accretion earned by the
securitization. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Year ended
June 30, 1999 Compared to Year Ended June 30, 1998" for
additional discussion of interest accretion.
F-13
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
Servicing income is recognized as contractual fees and other
fees for servicing loans and leases are collected, net of
amortization of servicing rights assets.
1. Summary of Derivative Financial Instruments
Significant
Accounting The primary market risk exposure that the Company faces is
Policies - interest rate risk. Interest rate risk occurs due to
(Continued) potential changes in interest rates between the date fixed
rate loans and leases are originated and the date of
securitization. The Company utilizes hedging strategies to
mitigate the effect of changes in interest between the date
rate commitments on loans are made and the date the fixed
rate pass-through certificates to be issued by a
securitization trust are priced, a period typically less
than 90 days.
These strategies include the utilization of derivative
financial instruments such as futures and forward pricing on
securitizations. The nature and quality of hedging
transactions are determined by the Company's management
based on various factors, including market conditions and
the expected volume of mortgage loan and lease originations
and purchases. At the time the contract is executed,
derivative contracts are specifically designated as hedges
of mortgage loans or loan commitments. The mortgage loans
and loan commitments consist of essentially similar pools or
fixed rate loans and loan commitments, collateralized by
real estate (primarily residential real estate) with similar
maturities and credit characteristics. Fixed rate
pass-through certificates issued by securitization trusts
are generally priced to yield a spread above a benchmark
rate based on U.S. Treasury securities with a three-year
maturity. The Company hedges potential rate changes in these
securities with futures contracts on a similar underlying
security. This has provided strong correlation between our
hedge contracts and the ultimate pricing we have received on
the subsequent securitizations. The gain or loss derived
from these hedging transactions is deferred, reported in
other assets or other liabilities and recognized as an
adjustment to the gains on sale of loans when the loans are
securitized. The cash flow related to hedging activities is
reported as it occurs. Gains and losses on terminated
contracts are recognized when the termination occurs. The
effectiveness of our hedges are continuously monitored. If
correlation did not exist, the related gain or loss on the
contract would be recognized as an adjustment to income in
the period incurred. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -
Interest Rate Management" for further discussion of the
Company's use of derivative financial instruments.
During fiscal 1999, net losses of approximately $2.0 million
were incurred on hedging transactions (futures contracts),
which were recognized as reductions to the gains on sale for
the securitizations they were designated as hedges against.
The Company had no hedge contracts in fiscal 1998.
The Company had no contracts open at June 30, 1999 or 1998,
other than an obligation to satisfy a lease securitization
prefund requirement of $9.0 million and $14.0 million,
respectively, at June 30, 1999 and 1998.
F-14
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
1. Summary of Income Taxes
Significant
Accounting The Company and its subsidiaries file a consolidated federal
Policies - income tax return.
(Continued)
Under the asset and liability method used by the Company to
provide for income taxes, deferred tax assets and
liabilities are recognized for the expected future tax
consequences of temporary differences between the financial
statement and tax basis carrying amounts of existing assets
and liabilities.
Acquisition
Effective October 1, 1997, the Company acquired all of the
issued and outstanding stock of New Jersey Mortgage and
Investment Corp. ("NJMIC"), a mortgage and leasing company
based in Roseland, New Jersey. The purchase price for the
stock consisted of $11.0 million in cash, a note payable of
$5.0 million and the issuance of 20,240 shares of the
Company's common stock. The purchase agreement included a
provision for a series of contingent payments to the former
stockholders of NJMIC totaling $4.0 million based on NJMIC's
attainment of certain performance targets over a three year
period. To date the Company has paid $1.3 million of the
total amount of potential contingent payments. Pursuant to
the terms of the acquisition agreement, the Company is
permitted to reduce the amount payable to the former owners
of NJMIC under the $5.0 million note payable described
above, in an amount equal to the losses sustained from
October 1997 to October 2000 on any loans or leases acquired
in the NJMIC acquisition.
The transaction was accounted for under the purchase method
and accordingly the results of NJMIC have been included with
the Company's since the date of acquisition. As a result of
the transaction the Company recorded approximately $16.9
million of goodwill, which is being amortized using the
straight-line method over 15 years. Any contingent payments
made will be recorded as additional goodwill.
Recent Accounting Pronouncements
In June 1998, the FASB issued SFAS No. 133 "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS No.
133"). SFAS No. 133 establishes accounting and reporting
standards for derivative instruments, including certain
derivative instruments embedded in other contracts
(collectively referred to as derivatives), and for hedging
activities. It requires that an entity recognize all
derivatives as either assets or liabilities in the statement
of financial position and measure those instruments at fair
value. If certain conditions are met, a derivative may be
specifically designated as (a) a hedge of the exposure to
changes in the fair value of a recognized asset or liability
or an unrecognized firm commitment (fair value hedge), (b) a
hedge of the exposure to variable cash flows of a forecasted
transaction (cash flow hedge), or (c) a hedge of the foreign
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
1. Summary of currency exposure of a net investment in a foreign
Significant operation, an unrecognized firm commitment, an available for
Accounting sale security, or a foreign- currency-denominated forecasted
Policies - transaction. At the time of issuance, SFAS No. 133 was to be
(Continued) effective on a prospective basis for all fiscal quarters of
fiscal years beginning after June 15, 1999. Subsequently the
effective date of the standard was delayed until years
beginning after June 15, 2000. The adoption of this standard
is not expected to have a material effect on the Company's
financial condition or results of operations.
2. Loan and Lease June 30, 1999 1998
Receivables ------------------------------------------------------------
(in thousands)
Real estate secured loans $ 21,027 $ 51,196
Leases (net of unearned income
of $1,543 and $1,845) 13,451 12,067
------------------------------------------------------------
34,478 63,263
Less allowance for credit
losses on loan and
lease receivables available for
sale 702 881
------------------------------------------------------------
$ 33,776 $ 62,382
============================================================
Real estate secured loans have contractual maturities of up
to 30 years.
At June 30, 1999 and 1998, the accrual of interest income
was suspended on real estate secured loans of $85 thousand
and $718 thousand, respectively. Based on its evaluation of
the collateral related to these loans, the Company expects
to collect all contractual interest and principal.
Substantially all leases originated by the Company are
direct finance-type leases whereby the lessee has the right
to purchase the leased equipment at the lease expiration for
a nominal amount.
F-16
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
3. Allowance for
Credit Losses
<TABLE>
<CAPTION>
Year ended June 30 1999 1998 1997
--------------------------------------------------------------------------------
(in thousands)
<S> <C> <C> <C>
Balance at beginning of year $ 881 $ 338 $ 330
Provision for credit losses:
Home equity loans 296 - -
Business purpose loans 278 128 91
Equipment leases 354 363 15
--------------------------------------------------------------------------------
Total provision 928 491 106
--------------------------------------------------------------------------------
Acquired through acquisition - 719 -
--------------------------------------------------------------------------------
Charge-offs, net of recoveries:
Home equity loans (486) - -
Business purpose loans (301) (138) (34)
Equipment leases (320) (529) (64)
--------------------------------------------------------------------------------
Total charge-offs (1,107) (667) (98)
--------------------------------------------------------------------------------
Balance at end of year $ 702 $ 881 $ 338
================================================================================
Ratio of net charge-offs during
the period to average
total managed portfolio 0.12% 0.12% 0.07%
Ratio of allowance to
gross receivables 2.04% 1.39% 0.94%
</TABLE>
Recoveries of loans previously charged off were $3 thousand
during fiscal 1999. No recoveries were recorded in fiscal
1998 and 1997.
While we are under no obligations to do so, at times we
elect to repurchase some foreclosed and delinquent loans
from the securitization trusts. Under the terms of the
securitization agreements, repurchases are permitted only
for foreclosed and delinquent loans. The purchase prices are
at the loans' outstanding contractual balance. We elect to
repurchase loans requiring more flexibility for the
administration and collection of these loans in order to
maximize their economic recovery and to avoid temporary
discontinuations of residual or stepdown
overcollateralization cash flows from securitization trusts.
The related charge-offs on these repurchased loans are
included in our provision for credit losses in the period of
charge-off.
F-17
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
3. Allowance for The following table summarizes the principal balances of
Credit Losses loans repurchased from securitization trusts (in thousands):
(continued)
Year ended June 30, 1999 1998 1997
------------------------------------------------------------
Business loans $ 74 $ 297 $ 74
Home equity loans 1,272 201 94
------------------------------------------------------------
Total $ 1,346 $ 498 $ 168
------------------------------------------------------------
Number of loans repurchased 19 4 2
============================================================
4. Securitizations During fiscal 1999, the Company sold $71.9 million of
business purpose loans and $613.0 million of home equity
loans in four securitizations and $92.6 million of equipment
leases in numerous sales to a commercial paper conduit and
two securitizations. During fiscal 1998 the Company sold
$54.1 million of business purpose loans and $270.9 million
of home equity loans in three securitizations and $59.7
million of equipment leases in one securitization.
The Company's securitizations involve a two-step transfer
that meets the requirements of SFAS 125. First, the Company
sells the loans and leases to a special purpose entity
("SPE") which has been established for the limited purpose
of buying and reselling the loans and leases. Next, the SPE
then sells the loans and leases to a qualified special
purpose entity ("the Trust"), transferring title to the
loans and leases and isolating those assets from the
Company. Finally, the Trust issues certificates to investors
to raise the cash purchase price, collects proceeds on
behalf of the certificate holders, distributes proceeds and
has a distinct legal standing from the Company.
The commercial paper conduit arrangement provided for sale
of the equipment leases using a pooled securitization. The
facility is sponsored by a major financial institution which
has the option to re-securitize the leases, ordinarily using
longer-term certificates. Should a longer-term
securitization not occur, the leases would remain in the
commercial paper conduit until their contractual
termination. The Company has no obligation to repurchase the
leases and neither the facility nor the sponsor has a right
to require such repurchase. Under this arrangement the
leases have been isolated from the Company; and as a result,
the transfer of these leases to the conduit facility is
treated as a sale for financial reporting purposes.
In fiscal 1999, cash proceeds from the securitizations of
business purpose loans and home equity loans were $685.0
million, with pretax gains of $61.9 million. Cash proceeds
from the securitization of equipment leases were $91.1
million with pretax gains of $2.6 million. In fiscal 1998,
cash proceeds from the securitization of business purpose
F-18
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
4. Securitizations loans and home equity loans were $325.0 million, with pretax
(Continued) gains of $40.5 million. Cash proceeds from the
securitization of equipment leases were $13.7 million with
pretax gains of $0.3 million.
Information regarding the initial and current assumptions
applied in determining the fair values of our mortgage and
lease related interest-only strips and servicing rights are
detailed in Management's Discussion and Analysis -
Securitization Accounting Considerations.
5. Interest-Only
Strips June 30, 1999 1998
------------------------------------------------------------
(in thousands)
Interest-only strips:
Available for sale $ 172,411 $ -
Trading assets 5,807 95,913
------------------------------------------------------------
$ 178,218 $ 95,913
============================================================
F-19
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
5. Interest-Only SFAS No. 134, which became effective January 1, 1999,
Strips - requires that after the securitization of a mortgage loan
(Continued) held for sale, the resulting mortgage-backed security or
other retained interests be classified based on the
Company's ability and intent to hold or sell the
investments. As a result, retained interests previously
classified as trading assets, as required by prior
accounting principles, have been reclassified to available
for sale. The effect of SFAS No. 134 on net income and net
income per share was $3.3 million and $0.88, respectively.
Interest-only strips include overcollateralized balances
that represent undivided interests in the securitizations
maintained to provide credit enhancements to the investors.
At June 30, 1999 and 1998, overcollateralized principal
balances were $38.6 million and $25.3 million,
respectively.
The activity for interest-only strip receivables is
summarized as follows (in thousands):
<TABLE>
<CAPTION>
Year ended June 30, 1999 1998
-------------------------------------------------------------
<S> <C> <C>
Balance at beginning of year $ 95,913 $ 37,507
Initial recognition of
interest-only strips including
initial overcollateralization of
$4,825 and $5,376, respectively 93,175 61,289
Interest accretion 2,021 538
Required purchases of additional
overcollateralization 16,682 9,961
Cash flow from interest-only strips (32,927) (13,382)
Net adjustments to fair value 3,354 --
-------------------------------------------------------------
Balance at end of year $178,218 $ 95,913
=============================================================
</TABLE>
F-20
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
6. Servicing Rights The total managed and lease portfolio, which includes loans
and leases sold to investors and those held as available
for sale by the Company, is as follows (in thousands):
<TABLE>
<CAPTION>
June 30, 1999 1998
----------------------------------------------------------------------
<S> <C> <C>
Home equity loans $ 858,806 $ 349,685
Business purpose loans 148,932 101,250
Equipment leases 169,180 108,463
----------------------------------------------------------------------
$ 1,176,918 $ 559,398
======================================================================
</TABLE>
The activity for the loan and lease servicing rights asset
is summarized as follows (in thousands):
<TABLE>
<CAPTION>
Year ended June 30, 1999 1998
----------------------------------------------------------------------
<S> <C> <C>
Balance at beginning of year $ 18,472 $ 8,083
Initial recognition of
servicing rights 30,289 12,041
Amortization (5,551) (1,652)
----------------------------------------------------------------------
Balance at end of year $ 43,210 $ 18,472
======================================================================
</TABLE>
Servicing rights are periodically valued by the Company
based on the current estimated fair value of the mortgage
servicing asset. A review for impairment is performed by
stratifying the serviced loans and leases based on the
predominant risk characteristic, which consists of loan
type. Key assumptions used in the periodic valuation of the
servicing rights are described in "Management's Discussion
and Analysis of Financial Condition and Results of
Operations - Securitization Accounting Considerations."
Impairments, if they occurred, would be recognized in a
valuation allowance for each impaired stratum in the period
of impairment. To date, no adjustment for impairment has
been recorded. At June 30, 1999 and 1998, the periodic
valuations supported the carrying value of servicing
rights.
F-21
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
7. Property and
Equipment
<TABLE>
<CAPTION>
June 30, 1999 1998
-----------------------------------------------------------------------
(in thousands)
<S> <C> <C>
Computer equipment and software $ 7,548 $ 5,383
Office furniture and equipment 8,271 5,527
Leasehold improvements 1,756 1,102
Transportation equipment 260 217
-----------------------------------------------------------------------
17,835 12,229
Less accumulated depreciation
and amortization 7,164 4,444
-----------------------------------------------------------------------
$ 10,671 $ 7,785
=======================================================================
</TABLE>
Depreciation and amortization expense for property and
equipment was $2.9 million, $1.7 million and $0.5 million
for the years ended June 30, 1999, 1998 and 1997,
respectively.
8. Other Assets
<TABLE>
<CAPTION>
June 30, 1999 1998
---------------------------------------------------------------------
(in thousands)
<S> <C> <C> <C>
Deposits $ 198 $ 146
Financing costs, debt offerings, net
of accumulated amortization of $3,903
and $2,891 4,487 2,525
Investments held to maturity
(mature July 1999 through April 2011) 1,014 5,639
Due from securitization trusts for
servicing related activities 7,131 738
Real estate owned 843 716
Goodwill, net of accumulated
amortization of $1,913 and $780 15,018 16,151
Other 4,720 2,553
---------------------------------------------------------------------
$ 33,411 $ 28,468
=====================================================================
</TABLE>
F-22
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
9. Subordinated Debt
and Notes Payable
<TABLE>
<CAPTION>
Subordinated debt was comprised of the following (in thousands):
June 30, 1999 1998
--------------------------------------------------------------------------
<S> <C> <C>
Subordinated debentures(a) $ 206,918 $ 105,652
Subsidiary subordinated
debentures(b) 4,734 6,530
--------------------------------------------------------------------------
Total subordinated debentures $ 211,652 $ 112,182
==========================================================================
Warehouse lines and other notes payable were
comprised of the following (in thousands):
Warehouse revolving line of
credit (c) $ 42,627 $ 25,720
Warehouse revolving line of
credit(d) 3,764 --
Warehouse revolving line of
credit(e) 102 531
Revolving line of credit(f) 5,000 --
Repurchase agreement(g) 4,677 --
Senior subordinated debt (h) 1,250 3,000
Other debt 1,271 3,152
--------------------------------------------------------------------------
Total warehouse lines and
other notes payable $ 58,691 $ 32,403
==========================================================================
</TABLE>
(a) Subordinated debentures due July 1999 through June
2009, interest rates ranging from 6.15% to 11.50%;
subordinated to all of the Company's indebtedness.
(b) Subsidiary subordinated debentures due July 1999
through May 2003, interest rates ranging from 9.00% to
11.99%; subordinated to all of the Company's
indebtedness.
(c) $150 million warehouse revolving line of credit
expiring October 2000, interest rates ranging from
LIBOR plus 1.375% to LIBOR plus 2.0%, collateralized by
certain loan receivables.
(d) $20 million warehouse revolving line of credit expired
September 2000, interest rates at prime less 1.0% or
LIBOR at the Company's option, collateralized by lease
receivables.
(e) $100 million warehouse line of credit expiring August
2000, interest rate of LIBOR plus 1.25%, collateralized
by certain loan receivables.
(f) $5 million revolving line of credit expiring December
1999, interest rate of LIBOR plus 2.0%, collateralized
by certain interest-only strips.
(g) Repurchase agreement due July 1999, interest rate of
LIBOR plus 0.5%, collateralized by certain lease backed
securities.
(h) Senior subordinated debt due July 1999 through December
1999, interest rate of 12.0%, subordinated to certain
subsidiary's senior indebtedness.
F-23
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
9. Subordinated Principal payments on debt for the next five years are as
Debt and Notes follows: year ending June 30, 2000 - $176.0 million; 2001 -
Payable - $35.0 million; 2002 - $25.0 million; 2003 - $9.0 million;
(Continued) and 2004 - $12.0 million.
The Company's subordinated debt securities are subordinated
in right of payment to, or subordinate to, the prior
payment in full of all senior debt as defined in the
indentures related to such debt, whether outstanding on the
date of the applicable indenture or incurred following the
date of the indenture. There is no limit on the amount of
senior debt the Company may incur. The Company's assets,
including the stock it holds in its subsidiaries, are
available to repay the subordinated debt in the event of
default following payment to holders of the senior debt. In
the event of the Company's default and liquidation of its
subsidiaries to repay the debt holders, creditors of the
subsidiaries must be paid or provision made for their
payment from the assets of the subsidiaries before the
remaining assets of the assets of the subsidiaries can be
used to repay the holders of the subordinated debt
securities.
The loan agreements provide for certain covenants regarding
net worth and financial matters. At June 30, 1999, the
Company is in compliance with the terms of the loan
covenants.
10. Stockholders' On August 18, 1999, the Company's Board of Directors
Equity declared a 5% stock dividend to be paid on September 27,
1999 to shareholders of record on September 3, 1999. In
addition the Board resolved that all outstanding stock
options would be adjusted for the dividend. Accordingly,
all outstanding shares, earnings per common share, average
common share and stock option amounts have been
retroactively adjusted to reflect the effect of the stock
dividend.
In July 1998, the Company's Board of Directors authorized
the repurchase of up to 10% of the outstanding shares of
its common stock over a one-year period. In May 1999, the
repurchase period was extended for an additional one year
to July 2000. As of June 30, 1999, 111,000 shares or 3% of
the Company's outstanding shares were repurchased under the
July 1998 authorization at a cost of $1.4 million. The
Company's Board of Directors initiated the stock repurchase
program in view of the current price level of the Company's
common stock which was trading at below book value and its
consistent earnings growth over the past two fiscal years
which did not result in a corresponding increase in the
market value of our common stock.
In the second quarter of fiscal 1999, the Company increased
its quarterly dividend by 233% to $0.05 per share.
Dividends of $0.165 were paid in the year ended June 30,
1999 compared to $0.06 in each of the years ended June 30,
1998 and 1997.
F-24
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
10. Stockholders' The Company has a loan receivable from an officer of the
Equity - Company for $600 thousand, which was an advance for the
(Continued) exercise of stock options to purchase 225,012 shares of the
Company's common stock. The loan is due in September 2005
(earlier if the stock is disposed of). Interest at 6.46% is
payable annually. The loan is secured by 225,012 shares of
the Company's stock, and is shown as a reduction of
stockholders' equity on the accompanying balance sheet.
In February 1997, the Company sold 1,150,000 shares of
common stock through a public offering, resulting in net
proceeds of $20.7 million.
11. Employee The Company has a 401(k) defined contribution plan, which
Benefit Plan was established in 1995, available to all employees who
have been with the Company for six months and have reached
the age of 21. Employees may generally contribute up to 15%
of their salary each year, subject to IRS imposed
limitations. The Company, effective October 1, 1997, at its
discretion, may match up to 25% of the first 5% of salary
contributed by the employee. The Company's contribution
expense was $263 thousand and $108 thousand for the years
ended June 30, 1999 and 1998 respectively.
12. Stock Option The Company has a stock option plan that provides for the
Plans periodic granting of options to key employees ("the
Employee Plan"). The options are generally granted at the
market price of the Company's stock on the date of grant
and expire five to ten years from date of grant. Options
either fully vest when granted or over periods of up to
five years. At June 30, 1999, substantially no shares were
available for future grant under this plan.
F-25
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
12. Stock Option A summary of stock option activity under the Employee Plan
Plans for the years ended June 30, 1999, 1998 and 1997,
(Continued) retroactively adjusted for the effect of the 5% stock
dividend described in note 10, follows:
<TABLE>
<CAPTION>
Number of Weighted-Average
Shares Exercise Price
-------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Options outstanding, June 30, 1996 69,300 $ 3.30
Options granted 169,575 18.98
-------------------------------------------------------------------------------
Options outstanding, June 30, 1997 238,875 14.43
Options granted 106,575 22.95
Options canceled (9,450) 19.51
-------------------------------------------------------------------------------
Options outstanding, June 30, 1998 336,000 18.10
Options granted 14,175 17.86
Options exercised (3,937) 2.54
Options canceled (41,475) 20.48
-------------------------------------------------------------------------------
Options outstanding, June 30, 1999 304,763 $ 16.74
===============================================================================
</TABLE>
The following tables summarize information about stock
options outstanding under the Employee Plan at June 30,
1999:
<TABLE>
<CAPTION>
Options Outstanding
--------------------------------------------------------------------------
Weighted
Remaining
Range of Exercise Number Contractual Weighted-Average
Prices of Options of Shares Life in Years Exercise Price
--------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$2.54-$4.76 65,363 1.0 $ 3.34
14.29-16.90 10,500 3.3 15.75
19.05 131,250 7.2 19.05
19.52-24.76 97,650 8.5 22.72
-----------------------------------------------------------------------
304,763 6.1 $ 16.74
=======================================================================
</TABLE>
F-26
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
12. Stock Option
Plans - (Continued)
<TABLE>
<CAPTION>
Options Exercisable
-------------------------------------------------------------------------
Weighted
Remaining
Range of Exercise Number Contractual Weighted-Average
Prices of Options of Shares Life in Years Exercise Price
-------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$2.54-$4.76 65,625 1.0 $ 3.34
14.29-16.90 10,500 3.3 15.75
19.05 59,325 6.5 19.05
19.52-24.76 23,730 8.4 22.72
-------------------------------------------------------------------------
159,180 4.3 $ 12.92
=========================================================================
</TABLE>
The Company accounts for stock options issued under the
Employee Plan using the intrinsic value method, and,
accordingly, no expense is recognized where the exercise
price equals or exceeds the fair value of the shares at the
date of grant. Had the Company accounted for stock options
granted under the Employee Plan using the fair value
method, pro forma net income and earnings per share would
have been as follows (in thousands except per share
amounts):
<TABLE>
<CAPTION>
June 30, 1999 1998 1997
-------------------------------------------------------------------------------
<S> <C> <C> <C>
Net income
As reported $ 14,088 $ 11,455 $ 5,940
Pro forma 13,811 10,956 5,361
Earnings per share -basic
As reported $ 3.83 $ 3.10 $ 2.03
Pro forma 3.75 2.97 1.84
Earnings per share -diluted
As reported $ 3.72 $ 2.98 $ 1.95
Pro forma 3.64 2.85 1.76
===============================================================================
</TABLE>
F-27
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
12. Stock Option The fair value of options granted was estimated on the date
Plans - of grant using the Black-Scholes option-pricing model with
(Continued) the following assumptions:
<TABLE>
<CAPTION>
June 30, 1999 1998 1997
--------------------------------------------------------------------------------
<S> <C> <C> <C>
Expected volatility 30% 30% 25%
Expected life 5-10 yrs. 5-10 yrs. 5 yrs.
Risk-free interest rate 4.50%-5.68% 5.39%-6.17% 6.31%-6.90%
</TABLE>
The Company also has a non-employee director stock option
plan ("the Director Plan") that provides for the granting
of options to non-employee directors. Options are generally
granted at the market price of the stock on the date of
grant, fully vest when granted and expire three to ten
years after the date of grant.
A summary of activity under the Director Plan for the three
years ended June 30, 1999, 1998 and 1997, retroactively
adjusted for the effect of the 5% stock dividend described
in note 10, follows:
<TABLE>
<CAPTION>
Number of Weighted-Average
Shares Exercise Price
--------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Options outstanding, June 30, 1996 94,500 $ 4.76
Options granted 21,000 16.90
--------------------------------------------------------------------------------
Options outstanding, June 30, 1997 115,500 6.97
Options granted 21,000 22.14
--------------------------------------------------------------------------------
Options outstanding, June 30, 1998 136,500 9.30
Options granted 21,000 14.29
--------------------------------------------------------------------------------
Options outstanding, June 30, 1999 157,500 $ 9.97
================================================================================
</TABLE>
The fair value of options granted under the Director Plan
is expensed on the date of grant. The Company recognized
expense of $73 thousand and $87 thousand for the years
ended June 30, 1999 and 1998, respectively.
F-28
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
13. Income Taxes The provision for income taxes consists of the following
(in thousands):
<TABLE>
<CAPTION>
Year ended June 30, 1999 1998 1997
-------------------------------------------------------------
<S> <C> <C> <C>
Current
Federal $ 1,268 $ 1,087 $ --
-------------------------------------------------------------
Deferred
Federal 6,495 5,348 3,062
State -- -- --
-------------------------------------------------------------
6,495 5,348 3,062
-------------------------------------------------------------
Total provision for
income taxes $ 7,763 $ 6,435 $ 3,062
=============================================================
</TABLE>
The current provision for federal income taxes for the year
ended June 30, 1997 is net of the tax benefit of
approximately $0.5 million from the utilization of net
operating loss carryforwards. There were no tax benefits
from the utilization of net operating loss carryforwards in
the years ended June 30, 1999 or 1998.
F-29
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
13. Income Taxes - The cumulative temporary differences resulted in net
(Continued) deferred income tax assets or liabilities consisting
primarily of the following (in thousands):
<TABLE>
<CAPTION>
Year ended June 30, 1999 1998
-----------------------------------------------------------------------
<S> <C> <C>
Deferred income tax assets
Allowance for credit losses $ 4,039 $ 1,212
Net operating loss carryforwards 11,262 5,777
Loan and lease receivables -- 659
-----------------------------------------------------------------------
15,301 7,648
Less valuation allowance 6,845 5,777
-----------------------------------------------------------------------
8,456 1,871
-----------------------------------------------------------------------
Deferred income tax liabilities
Loan and lease origination
costs/fees, net 1,123 1,253
Book over tax basis of property
and equipment 47 741
Interest-only strips and other
receivables 19,886 8,396
Servicing rights 4,004 2,345
-----------------------------------------------------------------------
25,060 12,735
-----------------------------------------------------------------------
Net deferred income taxes $16,604 $ 10,864
=======================================================================
</TABLE>
The valuation allowance represents the income tax effect of
state net operating loss carryforwards of the Company,
which are not presently expected to be utilized.
F-30
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
13. Incomes Taxes - A reconciliation of income taxes at federal statutory rates
(Continued) to the Company's tax provision is as follows (in
thousands):
<TABLE>
<CAPTION>
Year ended June 30, 1999 1998 1997
--------------------------------------------------------------
<S> <C> <C> <C>
Federal income tax at
statutory rates $7,429 $ 6,083 $3,062
Nondeductible items 528 349 --
Other, net (194) 3 --
--------------------------------------------------------------
$7,763 $ 6,435 $3,062
==============================================================
</TABLE>
For income tax reporting, the Company has net operating
loss carryforwards aggregating approximately $85.5 million
available to reduce future state income taxes for various
states as of June 30, 1999. If not used, substantially all
of the carryforwards will expire at various dates from June
30, 2000 to June 30, 2002.
14. Commitments As of June 30, 1999, the Company leases property under
and noncancelable operating leases requiring minimum annual
Contingencies rentals as follows (in thousands):
<TABLE>
<CAPTION>
Year ending June 30, Amount
----------------------------------------------
<S> <C> <C>
2000 $ 3,598
2001 3,347
2002 3,024
2003 2,041
2004 48
Thereafter --
----------------------------------------------
$ 12,058
==============================================
</TABLE>
Rent expense for leased property was $2.9 million, $1.7
million and $0.5 million respectively, for the years ended
June 30, 1999, 1998 and 1997.
F-31
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
14. Commitments Employment Agreements
and
Contingencies - The Company entered into employment agreements, as
(Continued) amended, with three executives under which they are
entitled to annual base compensation of $800,000,
collectively, adjusted for increases in the Consumer
Price Index and merit increases for one executive. The
agreements terminate upon: (a) the earlier of the
executive's death, permanent disability, termination of
employment for cause, voluntary resignation (except that
no voluntary resignation may occur prior to February
2000) or 70th birthday; or (b) the later of the fifth
anniversary of the agreement or from three to five years
from the date of notice to the executive of the
Company's intention to terminate the agreement.
In addition, the executives are entitled to a cash
payment equal to 299% of the last five years average
annual compensation in the event of a "change in
control," as defined in the agreement, and two of the
executives are entitled to all of the compensation
discussed above.
The Company has entered into employment agreements with
two other officers under which they are entitled to
minimum annual base compensation of $350,000,
collectively. These agreements terminate upon the
earlier of the executive's death, permanent disability,
termination for cause, voluntary resignation or three
years.
F-32
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
15. Legal On October 23, 1997, a class action suit was filed in
Proceedings the Superior Court of New Jersey at Docket No.
L-12066-97 against NJMIC by Alfred G. Roscoe on behalf
of himself and others similarly situated. Mr. Roscoe
sought certification that the action could be maintained
as a class action. He also sought unspecified
compensatory damages and injunctive relief. In his
complaint, Mr. Roscoe alleged that NJMIC violated New
Jersey's Mortgage Financing on Real Estate Law, N.J.
Stat. Ann. 46:10A-1 et seq., by requiring him and other
borrowers to pay or reimburse NJMIC for attorneys' fees
and costs in connection with loans made to them by
NJMIC. Mr. Roscoe further asserted that NJMIC's alleged
actions violated New Jersey's Consumer Fraud Act, N.J.
Stat. Ann. 56:8-1, et seq. and constituted common law
fraud and deceit.
On February 24, 1998, after oral argument before the
Superior Court, an order was entered in favor of NJMIC
and against Mr. Roscoe granting NJMIC a Motion for
Summary Judgment. Mr. Roscoe appealed to the Superior
Court of New Jersey - Appellate Division. Oral argument
on the appeal was heard on January 20, 1999 before a
two-judge panel of the Appellate Division. On February
3, 1999, the panel filed a per curiam opinion affirming
the Superior Court's ruling in favor of NJMIC.
On March 4, 1999, a Petition for Certification for
review of the final judgment of the Superior Court was
filed with the Supreme Court of New Jersey. NJMIC filed
its Brief in Opposition to the Petition for
Certification on March 16, 1999, and Mr. Roscoe filed a
reply brief. To date, no decision has been rendered by
New Jersey Supreme Court on this matter.
Pursuant to the terms of the Agreement for Purchase and
Sale of Stock of NJMIC between the Company and the
former shareholders of NJMIC, the former shareholders
are required to indemnify the Company up to $16.0
million to the extent of any losses over $100,000
related to, caused by or arising from NJMIC's failure to
comply with applicable law. The former NJMIC
shareholders have agreed to defend the Company in this
suit.
Additionally, from time to time, the Company is involved
as plaintiff or defendant in various other legal
proceedings arising in the normal course of our
business. While the Company cannot predict the ultimate
outcome of these various legal proceedings, it is
management's opinion that the resolution of these legal
actions should not have a material effect on the
Company's financial position, results of operations or
liquidity.
F-33
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
16. Fair Value of No market exists for certain of the Company's assets and
Financial liabilities. Therefore, fair value estimates are based
Instruments on judgments regarding credit risk, investor expectation
of future economic conditions, normal cost of
administration and other risk characteristics, including
interest rates and prepayment risk. These estimates are
subjective in nature and involve uncertainties and
matters of judgment and, therefore, cannot be determined
with precision. Changes in assumptions could
significantly affect the estimates.
The following table summarizes the carrying amounts and
fair value estimates of financial instruments recorded
on the Company's financial statements at June 30, 1999
and 1998 (in thousands):
June 30, 1999
--------------------------------------------------------
Carrying Fair
Value Value
--------------------------------------------------------
Assets
Cash and cash equivalents $ 22,395 $ 22,395
Loan and leases available
for sale 33,776 35,152
Interest-only strips 178,218 178,217
Servicing rights 43,210 43,210
Investments held to maturity 1,014 911
Liabilities
Subordinated debt and
notes payable $270,343 $270,915
========================================================
F-34
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
16. Fair Value of
Financial Instruments -
(Continued)
June 30, 1998
--------------------------------------------------------
Carrying Fair
Value Value
--------------------------------------------------------
Assets
Cash and cash equivalents $ 4,486 $ 4,486
Loan and leases available
for sale 62,382 63,685
Interest-only strips 95,913 95,913
Servicing rights 18,472 19,310
Investments held to
maturity 5,639 5,639
Liabilities
Subordinated debt and
notes payable $144,585 $144,585
========================================================
The methodology and assumptions utilized to estimate the
fair value of the Company's financial instruments are as
follows:
Cash and cash equivalents - For these short-term
instruments, the carrying amount approximates fair
value.
Loans and leases available for sale - Fair value is
determined by recent sales and securitizations.
Interest-only strips - Fair value is determined using
estimated discounted future cash flows taking into
consideration anticipated prepayment rates and credit
loss rates of the underlying loans and leases.
F-35
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
16. Fair Value of Servicing rights - Fair value is determined using
Financial estimated discounted future cash flows taking into
Instruments - consideration anticipated prepayment rates and credit
(Continued) loss rates of the underlying loans and leases.
Investments held to maturity - Represent mortgage loan
backed securities retained in securitizations. Fair
value is determined using estimated discounted future
cash flows taking into consideration anticipated
prepayment rates and credit loss rates of the underlying
loans and leases.
Subordinated debt and notes payable - The fair value of
fixed debt is estimated using the rates currently
available to the Company for debt of similar terms.
The carrying value of investment securities at June 30,
1999 were as follows (in thousands):
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
------------------------------------------------------------------------
Held-to-Maturity:
Mortgage backed
securities retained in
securitizations $1,014 $ -- $(103) $ 911
Available for sale:
Lease backed securities
retained in
securitizations. 4,818 253 -- 5,071
------------------------------------------------------------------------
Total $5,832 $253 $(103) $5,982
========================================================================
F-36
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
17. Reconciliation of Year ended June 30, 1999 1998 1997
Basic and Diluted --------------------------------------------------------
Earnings Per (in thousands except per share data)
Common Share
(Numerator)
Net income $ 14,088 $ 11,455 $ 5,940
--------------------------------------------------------
(Denominator)
Average Common Shares
Average common
shares outstanding 3,682 3,692 2,921
Average potentially
dilutive shares 109 155 128
Average common and
potentially dilutive
shares 3,791 3,847 3,049
--------------------------------------------------------
Earnings per common
share
Basic $ 3.83 $ 3.10 $ 2.03
Diluted 3.72 2.98 1.95
========================================================
F-37
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
18. Segment The Company adopted the Statement of Financial
Information Accounting Standard No. 131, "Disclosures about Segments
of an Enterprise and Related Information" as of July 1,
1998 ("SFAS No. 131"). SFAS No. 131 establishes
standards for the way companies report information about
operating segments in annual financial statements and in
interim financial reports. The adoption of SFAS No. 131
did not affect the Company's results of operations or
financial position.
The Company has divided its operations into three
reportable segments: Loan and Lease Origination,
Servicing, and Investment Note Services.
The Loan and Lease Origination segment originates
business purpose loans secured by real estate and other
business assets, home equity loans typically to
credit-impaired borrowers, conventional first mortgage
loans secured by one to four family residential real
estate and small ticket and middle market business
equipment leases.
The Servicing segment services the loans and leases the
Company originates both while held as available for sale
and subsequent to securitization. Servicing activities
include billing and collecting payments from borrowers,
transmitting payments to investors, accounting for
principal and interest, collections and foreclosure
activities and disposing of real estate owned.
The Investment Note Services segment markets the
Company's subordinated debt securities pursuant to a
registered public offering. The proceeds from the sale
of subordinated debt are used to fund the Company's
general operating and lending activities.
All Other mainly represents segments that do not meet
the SFAS No. 131 quantitative or defined thresholds for
determining reportable segments, financial assets not
related to operating segments, unallocated overhead and
other expenses of the Company unrelated to the
reportable segments identified. Transactions between
reportable segments have been reported at cost.
F-38
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
18. Segment The reporting segments follow the same accounting
Information - policies used for the Company's consolidated financial
(Continued) statements as described in the summary of significant
accounting policies. Management evaluates a segment's
performance based upon profit or loss from operations
before income taxes.
Reconciling items represent elimination of inter-segment
income and expense items, and are included to reconcile
segment data to the consolidated financial statements.
<TABLE>
<CAPTION>
Loan and Investment
Year ended June 30, 1999 Lease Note Reconciling
(in thousands) Origination Services Servicing All Other Items Consolidated
-------------------------------------------------------------------------------------------------------------------------------
External revenues:
<S> <C> <C> <C> <C> <C> <C>
Gain on sale of loans and
Leases $64,490 $ -- $ -- $ -- $ -- $ 64,490
Interest income 6,883 321 -- 2,120 -- 9,324
Non-interest income 5,225 88 7,265 4 -- 12,582
Inter-segment revenues -- 23,630 -- 25,080 (48,710) --
Operating expenses: --
Interest expense 14,313 14,995 415 16,333 (23,630) 22,426
Non-interest expense 21,885 4,730 2,274 9,058 -- 37,947
Depreciation and amortization 1,385 1,614 300 873 -- 4,172
Inter-segment expense 24,490 590 -- -- (25,080) --
Income tax expense 5,161 750 1,519 333 -- 7,763
-------------------------------------------------------------------------------------------------------------------------------
Net income 9,364 1,360 2,757 607 -- 14,088
===============================================================================================================================
Segment assets $66,969 $28,131 $44,921 $256,280 $ -- $396,301
===============================================================================================================================
</TABLE>
*Prior to fiscal 1999 the Company was managed by legal entity, not by functional
division as is the current practice. Due to this organizational structure
change, comparative information is not presented for the year ended June
30, 1998.
F-39
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
19. Quarterly Data The following table is a summary of financial
Statement (Unaudited) data by quarters for the years ended
June 30, 1999 and 1998:
<TABLE>
<CAPTION>
For the Quarters Ended Fiscal Year 1999
(in thousands, except per share data) June 30, March 31, December 31, September 30,
-----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Revenues
Gain on sale of loans and leases $ 18,701 $17,417 $ 14,775 $ 13,597
Interest and fees 3,836 4,271 3,907 4,539
Interest accretion on interest-only strips 1,322 307 208 184
Servicing income 1,354 952 525 490
Other income 2 22 1 14
-----------------------------------------------------------------------------------------------------------------------
Total revenues 25,215 22,969 19,416 18,824
Total expenses 19,495 17,487 13,949 13,642
-----------------------------------------------------------------------------------------------------------------------
Income before provision for income taxes 5,720 5,482 5,467 5,182
Provision for income taxes 2,059 1,973 1,969 1,762
-----------------------------------------------------------------------------------------------------------------------
Net income $ 3,661 $ 3,509 $ 3,498 $ 3,420
=======================================================================================================================
Earnings per common share
Basic $ 1.01 $ 0.95 $ 0.95 $ 0.92
Diluted $ 0.98 $ 0.92 $ 0.92 $ 0.90
=======================================================================================================================
</TABLE>
F-40
<PAGE>
American Business Financial
Services, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
================================================================================
<TABLE>
<CAPTION>
For the Quarters Ended Fiscal Year 1998
<S> <C> <C> <C> <C>
(in thousands, except per share data) June 30, March 31, December 31, September 30,
--------------------------------------------------------------------------------------------------------------------
Revenues
Gain on sale of loans and leases $15,553 $10,292 $ 6,476 $ 8,457
Interest and fees 5,782 4,225 5,075 2,304
Interest accretion on interest-only loan strips 231 135 108 64
Servicing income 60 163 84 169
Other income 2 37 118 --
--------------------------------------------------------------------------------------------------------------------
Total revenues 21,628 14,852 11,861 10,994
Total expenses 16,073 9,647 9,506 6,219
--------------------------------------------------------------------------------------------------------------------
Income before provision for income taxes 5,555 5,205 2,355 4,775
Provision for income taxes 2,118 1,893 801 1,623
--------------------------------------------------------------------------------------------------------------------
Net income $ 3,437 $ 3,312 $ 1,554 $ 3,152
====================================================================================================================
Earnings per common share
Basic $ 0.93 $ 0.89 $ 0.42 $ 0.86
Diluted $ 0.89 $ 0.86 $ 0.40 $ 0.83
====================================================================================================================
</TABLE>
F-41
<PAGE>
Directors and Executive Officers of the Registrant
Item 9. Changes In and Disagreements With Accountants on Accounting and
Financial Disclosure
None.
PART III
Item 10.
The information required to be included in Item 10 of Part III of this
Form 10-K incorporates by reference certain information from our definitive
proxy statement, for our 1999 annual meeting of stockholders to be filed with
the SEC not later than 120 days after the end of our fiscal year covered by this
report.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Exchange Act ("Section 16(a)") requires our
directors, executive officers, and persons who own more than 10% of a registered
class of our equity securities, to file with the SEC initial reports of
ownership and reports of changes in ownership of our common stock and other
equity securities. Officers, directors and greater than 10% stockholders are
required by SEC regulation to furnish us with copies of all Section 16(a) forms
they file.
Our knowledge, based solely on a review of the copies of such reports
furnished to us and written representations that no other reports were required,
during the fiscal year ended June 30, 1999, was that its officers, directors and
greater than 10% beneficial owners had complied with all Section 16(a) filing
requirements.
Item 11. Executive Compensation
The information required to be included in Item 11 of Part II of this
Form 10-K incorporates by reference certain information from our definitive
proxy statement, for our 1999 annual meeting of stockholders to be filed with
the SEC not later than 120 days after the end of our fiscal year covered by this
report.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information required to be included in Item 12 of Part II of this
Form 10-K incorporates by reference certain information from our definitive
proxy statement, for our 1999 annual meeting of stockholders to be filed with
the SEC not later than 120 days after the end of our fiscal year covered by this
report.
73
<PAGE>
Item 13. Certain Relationships and Related Transactions
The information required to be included in Item 13 of Part III of this
Form 10-K incorporates by reference certain information from our definitive
proxy statement, for our 1999 annual meeting of stockholders to be filed with
the SEC not later than 120 days after the end of our fiscal year covered by this
report.
PART IV
Item 14. Exhibits and Reports on Form 8-K
(a) Exhibits:
Exhibit Number Description
-------------- -----------
3.1 Amended and Restated Certificate of Incorporation
(Incorporated by reference from Exhibit 3.1 of the ABFS
Annual Report on Form 10-KSB for the fiscal year ended
June 30, 1996 filed on September 27, 1996, File No.
0-22472 (the "1996 Form 10-KSB")).
3.2 Bylaws of ABFS (Incorporated by reference from Exhibit
3.2 of the Registration Statement on Form SB-2 filed
December 27, 1996, Registration Number 333-18919 (the
"1996 Form SB-2")).
4.1 Form of unsecured Investment Note (Incorporated by
reference from Exhibit 4.1 of Amendment No. 1 to the
Registration Statement on Form SB-2 filed April 29,
1994, Registration Number 33-76390)).
4.2 Form of unsecured Investment Note issued pursuant to
Indenture with First Trust, National Association, a
national banking association (Incorporated by reference
from Exhibit 4.5 of Amendment No. One to the
Registration Statement on Form SB-2 filed on December
14, 1995, Registration Number 33-98636 (the "1995 Form
SB-2")).
4.3 Form of Indenture by and between ABFS and First Trust,
National Association, a national banking association
(Incorporated by reference from Exhibit 4.6 of the
Registration Statement on Form SB-2 filed on October
26, 1995, Registration Number 33-98636).
74
<PAGE>
Exhibit Number Description
-------------- -----------
4.4 Form of Indenture by and between ABFS and First Trust,
National Association, a national banking association
(Incorporated by reference from Exhibit 4.4 of the
Registration Statement on Form SB-2 filed March 28,
1997, Registration Number 333-24115 (the "1997 Form
SB-2")).
75
<PAGE>
Exhibit Number Description
-------------- -----------
4.5 Form of unsecured Investment Note (Incorporated by
reference from Exhibit 4.5 of the 1997 Form SB-2).
4.6 Form of Indenture by and between ABFS and First Trust
National Association, a national banking association
(Incorporated by reference from Exhibit 4.4 of the
Registration Statement on Form SB-2 filed May 23, 1997,
Registration Number 333-24115).
4.7 Form of Unsecured Investment Note (Incorporated by
reference from Exhibit 4.5 of the Registration
Statement on Form SB-2 filed May 23, 1997, Registration
Number 333-24115).
4.8 Form of Indenture by and between ABFS and U.S. Bank
Trust, National Association, a national banking
association (Incorporated by reference from Exhibit 4.8
of the Registration Statement on Form S-2 filed on
September 21, 1998 (the "Form S-2")).
4.9 Form of Unsecured Investment Note (Incorporated by
reference from Exhibit 4.9 of the Form S-2).
10.1 Loan and Security Agreement between Upland Mortgage and
BankAmerica Business Credit, Inc. dated May 23, 1996
(Incorporated by reference from the 1996 Form 10-KSB).
10.2 Amended and Restated Stock Option Plan (Incorporated by
reference from Exhibit 10.2 of the ABFS Quarterly
Report on Form 10-QSB from the quarter ended September
30, 1997, File No. 0-22474).*
10.3 Stock Option Award Agreement (Incorporated by reference
from Exhibit 10.1 of the Registration Statement on Form
S-11 filed on February 26, 1993, Registration No.
33-59042 (the "Form S-11")).*
10.4 Line of Credit Agreement by and between American
Business Credit, Inc. and Eagle National Bank
(Incorporated by reference from Exhibit 10.4 of
Amendment No. 1 to the Registration Statement on Form
SB-2 filed on April 29, 1993, Registration No. 33-59042
(the A1993 Form SB-2")).
76
<PAGE>
Exhibit Number Description
-------------- -----------
10.5 Agreement dated April 12, 1993 between American
Business Credit, Inc. and Eagle National Bank
(Incorporated by reference from Exhibit 10.5 of the
1993 Form SB-2).
10.6 1995 Stock Option Plan for Non-Employee Directors
(Incorporated by reference from Exhibit 10.6 of the
Amendment No. 1 to the 1996 Form SB-2 filed on February
4, 1996 Registration No. 333-18919 (the "Amendment No.
1 to the 1997 Form SB-2")).*
10.7 Form of Option Award Agreement for Non-Employee
Directors Plan for Formula Awards (Incorporated by
reference from Exhibit 10.13 of the 1996 Form 10-KSB).*
10.8 1997 Non-Employee Director Stock Option Plan (including
form of Option Agreement) (Incorporated by reference
from Exhibit 10.1 of the September 30, 1997 Form
10-QSB).*
10.9 Interim Warehouse and Security Agreement between Upland
Mortgage and Prudential Securities Realty Funding
Corporation dated April 25, 1996 (Incorporated by
reference from Exhibit 10.14 of the 1996 Form 10-KSB).
10.10 Lease dated January 7, 1994 by and between TCW Realty
Fund IV Pennsylvania Trust and ABFS (Incorporated by
reference from Exhibit 10.9 of the Registration
Statement on Form SB-2 filed March 15, 1994, File No.
33-76390).
10.11 First Amendment to Agreement of Lease by and between
TCW Realty Fund IV Pennsylvania Trust and ABFS dated
October 24, 1994. (Incorporated by reference from
Exhibit 10.9 of ABFS' Annual Report on Form 10-KSB for
the fiscal year ended June 30, 1995 (the "1995 Form
10-KSB")).
10.12 Third Amendment to Lease between TCW Realty Fund IV
Pennsylvania Trust and ABFS dated July 25, 1995
(Incorporated by reference from Exhibit 10.11 of the
1995 Form 10-KSB).
77
<PAGE>
Exhibit Number Description
-------------- -----------
10.13 Form of Employment Agreement with Anthony J. Santilli,
Beverly Santilli and Jeffrey M. Ruben (Incorporated by
reference from Exhibit 10.15 of the Amendment No. 1 to
the 1996 Form SB-2).*
10.14 Promissory Note of Anthony J. Santilli and Stock Pledge
Agreement dated September 29, 1995 (Incorporated by
reference from Exhibit 10.11 of the 1995 Form 10-KSB).*
10.15 Amendment One to Anthony J. Santilli's Employment
Agreement (Incorporated by reference from Exhibit 10.3
of the September 30, 1997 Form 10-QSB).*
10.16 Amendment One to Beverly Santilli's Employment
Agreement (Incorporated by reference from Exhibit 10.4
of the September 30, 1997 Form 10-QSB).*
10.17 Management Incentive Plan (Incorporated by reference
from Exhibit 10.16 of the 1996 Form SB-2).*
10.18 Loan and Security Agreement dated December 12, 1996
between American Business Credit, Inc. and Finova
Capital Corporation (Incorporated by reference from
Exhibit 10.17 of the 1996 Form SB-2).
10.19 Form of Option Award Agreement for Non-Employee
Directors Plan for Non-Formula Awards (Incorporated by
reference from Exhibit 10.18 of the Amendment No. 1 to
the 1996 Form SB-2).*
10.20 Form of Pooling and Servicing Agreement related to ABFS
loan securitizations dated March 31, 1995, October 1,
1995, May 1, 1996, August 31, 1996, February 28, 1997,
September 1, 1997, February 1, 1998 and June 1, 1998
(Incorporated by reference from Exhibit 4.1 of the ABFS
Quarterly Report on Form 10-QSB for the quarter ended
March 31, 1995 (the "March 31, 1995 Form 10-QSB")).
10.21 Form of Sales and Contribution Agreement related to
ABFS loan securitizations dated March 31, 1995, October
1, 1995, May 1, 1996 and September 27, 1996
(Incorporated by reference from Exhibit 4.1 of the
March 31, 1995 Form 10-QSB).
78
<PAGE>
Exhibit Number Description
-------------- -----------
10.22 Fourth Amendment to Lease between TCW Realty Fund IV
Pennsylvania Trust and ABFS dated April 9, 1996
(Incorporated by reference from Exhibit 10.22 to the
Amendment No. 1 to the 1997 SB-2).
10.23 Fifth Amendment to Lease between TCW Realty Fund IV
Pennsylvania Trust and ABFS dated October 8, 1996
(Incorporated by reference from Exhibit 10.23 to the
Amendment No. 1 to the 1997 SB-2).
10.24 Sixth Amendment to Lease between TCW Realty Fund IV
Pennsylvania Trust and ABFS dated March 31, 1997
(Incorporated by reference from Exhibit 10.24 to the
Amendment No. 1 to the 1997 SB-2).
10.25 Agreement for Purchase and Sale of Stock between
Stanley L. Furst, Joel E. Furst and ABFS dated October
27, 1997 (Incorporated by reference from the ABFS
Current Report on Form 8-K dated October 27, 1997, File
No. 0-22474).
10.26 Credit Agreement between American Business Credit,
Inc., HomeAmerican Credit, Inc., and American
Business Leasing, Inc., as co-borrowers, ABFS as
parent, Chase Bank of Texas, NA, as administrative
agent and certain lenders (Incorporated by reference
from Exhibit 10.24 of ABFS' Annual Report on Form
10-KSB for the fiscal year ended June 30, 1997 filed on
September 29, 1997, File No. 0-22474).
10.27 Standard Form of Office Lease and Rider to Lease dated
April 2, 1993 by and between 5 Becker Associates and
New Jersey Mortgage (Incorporated by reference from
Exhibit 10.29 of Post-Effective Amendment No. 1 to the
Registration Statement on Form SB-2 filed on January
22, 1998, Registration No. 333-2445).
10.28 First Amendment of Lease by and between 5 Becker
Associates and New Jersey Mortgage dated July 27, 1994
(Incorporated by reference from Exhibit 10.30 of
Post-Effective Amendment No. 1 to the Registration
Statement on Form SB-2 filed on January 22, 1998,
Registration No. 333-2445).
79
<PAGE>
10.29 Note Agreement and Promissory Note dated July 15, 1997
issued by New Jersey Mortgage to N.M. Rothschild & Sons
(Incorporated by reference from Exhibit 10.32 of
Post-Effective Amendment No. 1 to the Registration
Statement on Form SB-2 filed on January 22, 1998,
Registration No. 333-2445).
10.30 Form of Standard Terms and Conditions of Lease
Acquisition Agreement related to New Jersey Mortgage's
lease securitizations dated May 1, 1995 and March 1,
1996 (Incorporated by reference from Exhibit 10.34 of
Post-Effective Amendment No. 1 to the Registration
Statement on Form SB-2 filed on January 22, 1998,
Registration No. 333-2445).
10.31 Amended and Restated Specific Terms and Conditions of
Servicing Agreement related to New Jersey Mortgage's
lease securitization dated May 1, 1995 (Incorporated by
reference from Exhibit 10.35 of Post-Effective
Amendment No. 1 to the Registration Statement on Form
SB-2 filed on January 22, 1998, Registration No.
333-2445).
10.32 Amended and Restated Specific Terms and Conditions of
Lease Acquisition Agreement related to New Jersey
Mortgage's lease securitization dated May 1, 1995
(Incorporated by reference from Exhibit 10.36 of
Post-Effective Amendment No. 1 to the Registration
Statement on Form SB-2 filed on January 22, 1998,
Registration No. 333-2445).
10.33 Specific Terms and Conditions of Servicing Agreement
related to New Jersey Mortgage's lease securitization
dated March 1, 1996 (Incorporated by reference from
Exhibit 10.37 of Post-Effective Amendment No. 1 to the
Registration Statement on Form SB-2 filed on January
22, 1998, Registration No. 333-2445).
10.34 Specific Terms and Conditions of Lease Acquisition
Agreement related to New Jersey Mortgage's lease
securitization dated March 1, 1996 (Incorporated by
reference from Exhibit 10.38 of Post-Effective
Amendment No. 1 to the Registration Statement on Form
SB-2 filed on January 22, 1998, Registration No.
333-2445).
80
<PAGE>
Exhibit Number Description
-------------- -----------
10.35 Indenture by and among ABFS Equipment Contract Trust
1998-A, American Business Leasing, Inc. and The Chase
Manhattan Bank dated June 1, 1998 (Incorporated by
reference from Exhibit 10.39 of the Form S-2).
10.36 Form of Unaffiliated Seller's Agreement related to
ABFS' loan securitizations dated March 27, 1997,
September 29, 1997, February 1, 1998, and June 1, 1998
(Incorporated by reference from Exhibit 10.40 of the
Form S-2).
10.37 First Amended and Restated Interim Warehouse and
Security Agreement among Prudential Securities Credit
Corporation, as lender, and HomeAmerican Credit Inc.
and American Business Credit, Inc., as borrowers
(Incorporated by reference from Exhibit 10.41 of the
Form S-2).
10.38 Amendments to the First Amended and Restated Interim
Warehouse and Security Agreement among Prudential
Securities Credit Corporation, as lender, and
HomeAmerican Credit Inc. and American Business Credit,
Inc., as borrowers (Incorporated by reference from
Exhibit 10.42 of the Form S-2).
10.39 Amendments to the Credit Agreement between American
Business Credit, Inc., HomeAmerican Credit, Inc.,
American Business Leasing, Inc., New Jersey Mortgage
and Federal Leasing Corp. as co-borrowers, American
Business Financial Services, Inc., as parent, Chase
Bank of Texas, National Association, as administrative
agent for lenders (Incorporated by reference from
Exhibit 10.43 of the Form S-2).
10.40 $100.0 Million Receivables Purchase Agreement, dated
September 30, 1998 among American Business Lease
Funding Corporation, American Business Leasing, Inc.
and a syndicate of financial institutions led by First
Union Capital Markets and First Union National Bank, as
liquidity agent. (Incorporated by reference from
Exhibit 10.1 of the Registrant's September 30, 1998
Form 10-Q)
10.41 Interim Warehouse and Security Agreement, dated August
3, 1998, among Prudential Securities Credit
Corporation, as lender, and Federal Leasing, Inc. and
American Business Leasing, Inc., as borrowers, and
Amendments One and Two thereto. (Incorporated by
reference from Exhibit 10.3 of the Registrant's
September 30, 1998 Form 10-Q)
81
<PAGE>
Exhibit Number Description
-------------- -----------
10.42 Amended and Restated Credit Agreement, dated October 1,
1998, between American Business Credit, Inc.,
HomeAmerican Credit, Inc., American Business Leasing,
Inc., New Jersey Mortgage, as co-borrowers, American
Business Financial Services, Inc., as parent and Chase
Bank of Texas. (Incorporated by reference from Exhibit
10.4 of the Registrant's September 30, 1998 Form 10-Q).
10.43 $5,000,000 Loan Agreement dated as of December 30,
1998, between American Business Credit, Inc.,
HomeAmerican Credit, Inc., New Jersey Mortgage as
co-borrowers, and Chase Bank of Texas as lender.
(Incorporated by reference from Exhibit 10.1 of the
Registrant's December 31, 1998 Form 10-Q).
10.44 Amendment to the First Amended and Restated Interim
Warehouse and Security Agreement dated June 9, 1997
among Prudential Securities Credit Corporation and Home
American Credit, Inc., New Jersey Mortgage and American
Business Credit, Inc. and ABFS as Guarantor.**
10.45 Amendment to the Interim Warehouse and Security
Agreement between Upland Mortgage and Prudential
Securities Realty Funding Corporation (Incorporated by
reference from Exhibit 21 of the Amendment No. 1 to the
1997 From SB-2 filed on May 23, 1997 Registration No.
333-24115 (the "Amendment No. 1 to the 1997 SB-2").
10.46 Form of Debenture Note related to NJMIC's subordinated
debt (Incorporated by reference from Exhibit 10.31 of
Post-Effective Amendment No. 1 to the Registration
Statement on Form SB-2 filed on January 22, 1998,
Registration No. 333-2445).
10.47 $20.0 Million Credit Agreement dated September 28, 1998
between American Business Leasing, Inc., Federal
Leasing Corp. and First Union National Bank
(Incorporated by reference from Exhibit 10.2 of the
Registrant's September 30, 1998 From 10-Q).
82
<PAGE>
Exhibit Number Description
-------------- -----------
11 Statement of Computation of Per Share Earnings
(Included in Note 17 of the Notes to Consolidated
Financial Statements).
12 Computation of Ratio of Earnings to Fixed Charges.**
21 Subsidiaries of ABFS.**
23 Consent of BDO Seidman LLP.
27 Financial Data Schedule.**
--------------------
* Denotes a management contract or compensatory plan or arrangement.
** Previously filed.
83
<PAGE>
Exhibit Number Description
-------------- -----------
(b) Reports on Form 8-K:
There were no Current Reports on Form 8-K filed during the quarter
ended June 30, 1999.
84
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant has caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
AMERICAN BUSINESS FINANCIAL SERVICES, INC.
Date: November 6, 2000 By: /s/ Anthony J. Santilli
--------------------------------------
Name: Anthony J. Santilli, Jr.
Title: Chairman, President,
Chief Executive Officer,
Chief Operating Officer and
Director (Duly Authorized
Officer)
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.
/s/Anthony J. Santilli /s/Michael DeLuca
-------------------------------- --------------------------------------
Name: Anthony J. Santilli, Jr. Name: Michael DeLuca
Title: Chairman, President, Title: Director
Chief Executive Officer,
Chief Operating Officer and
Director (Principal Executive and
Operating Officer)
Date: November 6, 2000 Date: November 6, 2000
/s/ Harold Sussman /s/ Richard Kaufman
-------------------------------- --------------------------------------
Name: Harold Sussman Name: Richard Kaufman
Title: Director Title: Director
Date: November 6, 2000 Date: November 6, 2000
/s/ Albert W. Mandia /s/ Leonard Becker
-------------------------------- --------------------------------------
Name: Albert W. Mandia Name: Leonard Becker
Title: Executive Vice President Title: Director
and Chief Financial
Officer (Principal
Financial and Accounting
Officer)
Date: November 6, 2000 Date: November 6, 2000
<PAGE>
EXHIBIT INDEX
Exhibit Number Description
-------------- -----------
12 Computation of Ratio of Earnings to Fixed Charges*
21 Subsidiaries of ABFS.*
23 Consent of BDO Seidman LLP
27 Financial Data Schedule.*
* previously filed
