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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549-1004
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FORM 8-K
PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
DATE OF REPORT (DATE OF EARLIEST EVENT REPORTED):
AUGUST 30, 2000
COMMISSION FILE NUMBER 1-6154
ASSOCIATES CORPORATION OF NORTH AMERICA
(Exact name of registrant as specified in its charter)
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DELAWARE 74-1494554
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
250 EAST CARPENTER FREEWAY 75062-2729
IRVING, TEXAS (Zip Code)
(Address of principal executive offices)
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Registrant's Telephone Number, including area code
972-652-4000
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ITEM 2. ACQUISITION OR DISPOSITION OF ASSETS
Associates Corporation of North America ("ACONA" or the "Company"), a
Delaware corporation, is a wholly-owned subsidiary and the principal operating
unit of Associates First Capital Corporation ("First Capital"). On August 30,
2000, First Capital contributed several of its wholly-owned subsidiaries to the
Company. The subsidiaries include ACONA B.V., AIC Associates Canada Holdings,
Inc., Associates Capital Corporation of Canada, Associates Credit Card Services,
Inc., Associates International Holdings Corporation, Avco Financial Services
Limited, The Northland Company, and several other subsidiaries, collectively
referred to hereafter as "Contributed Entities". The Contributed Entities are a
group of diversified financial services companies providing finance, leasing,
insurance and related services to individual consumers and businesses in the
United States and international markets, primarily Japan, Canada and the United
Kingdom. The consolidated financial statements of ACONA have been restated
retroactively to reflect the results of these contributions in a manner similar
to a pooling-of-interests, in accordance with generally accepted accounting
principles, and are filed as exhibits to this Form 8-K. Upon consummation of the
contribution, these restated financial statements became the historical
consolidated financial statements of ACONA, and such related financial
statements modify and supercede the consolidated financial statements and
related financial information and other disclosures of ACONA contained in its
Form 10-K for the year ended December 31, 1999 and its Form 10-Q for the six
months ended June 30, 2000. The contribution of the Contributed Entities to the
Company increased revenues by $4.3 billion, $2.0 billion and $1.0 billion for
the year ended December 31, 1999, 1998 and 1997, respectively, and increased net
earnings by $742.2 million, $337.1 million and $213.3 million in 1999, 1998 and
1997, respectively.
Prior to First Capital's acquisition by Ford Motor Company ("Ford") in 1989
(see Note 1 to the consolidated financial statements), all of the international
and domestic finance operations were owned by ACONA. When Ford acquired First
Capital in 1989, Ford transferred ACONA's ownership in the international
operations to certain subsidiaries of Ford. The contribution as described herein
returns ACONA to its former operational structure while solidifying First
Capital's global funding presence under ACONA. Further, management believes the
contribution of the Contributed Entities will enhance ACONA's liquidity, access
and execution in the global capital markets.
Immediately following the contribution of the Contributed Entities, ACONA
declared a dividend to First Capital in the amount of approximately $3.0
billion. On a proforma basis, after giving effect to the dividend, ACONA's debt
to equity ratio would have been 5.4 to 1 and 5.5 to 1 at June 30, 2000 and
December 31, 1999, respectively. ACONA's debt to tangible equity ratio would
have been 7.7 to 1 and 8.2 to 1 at June 30, 2000 and December 31, 1999,
respectively. See Item 6. -- "Selected Financial Data" for additional financial
information.
In addition, First Capital intends to assign to ACONA certain of its
outstanding foreign currency forward exchange contracts or to enter into
corresponding intercompany agreements with ACONA for such contracts, as well as
for any foreign denominated debt issued by First Capital, all of which are
designated as hedges of its net investment in one of the foreign currency
denominated Contributed Entities. The financial statements of ACONA contained in
this Form 8-K have been restated to reflect the effects of such hedging
instruments for all periods presented, as if such instruments had been
contributed to ACONA in conjunction with the Contributed Entities.
In order to more clearly define the names of the participants of the
transaction, unless the context otherwise requires, (i) "ACONA" or the "Company"
refers to Associates Corporation of North America and its consolidated
subsidiaries after giving effect to the contribution of the Contributed
Entities, (ii) "First Capital" refers to Associates First Capital Corporation
and its consolidated subsidiaries, and (iii) "Contributed Entities" refers to
the entities contributed to ACONA on August 30, 2000, as defined above.
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ITEM 7. FINANCIAL STATEMENTS AND EXHIBITS.
(a) Financial Statements of Associates Corporation of North America and
Financial Statements of Contributed Entities
(i) ASSOCIATES CORPORATION OF NORTH AMERICA
AT AND FOR THE YEARS ENDED
DECEMBER 31, 1999, 1998 AND 1997
Item 1. Business
Item 2. Properties
Item 3. Legal proceedings
Item 4. Submission of matters to a vote of security holders
Item 5. Market for registrant's common equity and related stockholder
matters
Item 6. Selected financial data
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
Item 8. Financial statements and supplementary data
- Report of Independent Auditors
- Consolidated Statement of Earnings for the years ended
December 31, 1999, 1998 and 1997
- Consolidated Balance Sheet at December 31, 1999 and 1998
- Consolidated Statement of Changes in Stockholders' Equity for
the years ended December 31, 1999, 1998 and 1997
- Consolidated Statement of Cash Flows for the years ended
December 31, 1999, 1998 and 1997
- Notes to Consolidated Financial Statements
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(ii) ASSOCIATES CORPORATION OF NORTH AMERICA
AT AND FOR THE SIX MONTHS ENDED JUNE 30, 2000
Item 1. Financial statements
- Consolidated Statement of Earnings for the six months ended
June 30, 2000 and 1999 and for the three months ended June 30,
2000 and 1999 (Unaudited)
- Consolidated Balance Sheet at December 31, 1999 (Audited) and
at June 30, 2000 (Unaudited)
- Consolidated Statement of Cash Flows for the six months ended
June 30, 2000 and 1999 (Unaudited)
- Notes to Consolidated Financial Statements
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Item 3. Quantitative and Qualitative Disclosures about Market Risk
(iii) CONTRIBUTED ENTITIES
AT AND FOR THE PERIODS INDICATED
Financial statements
- Report of Independent Auditors
- Combined Statement of Earnings for the years ended December 31, 1999,
1998 and 1997 (Audited) and for the six months ended June 30, 2000 and
1999 (Unaudited)
- Combined Balance Sheet at December 31, 1999 and 1998 (Audited) and at
June 30, 2000 (Unaudited)
- Combined Statement of Changes in Stockholder's Equity for the years ended
December 31, 1999, 1998 and 1997 (Audited) and for the six months ended
June 30, 2000 (Unaudited)
- Combined Statement of Cash Flows for the years ended December 31, 1999,
1998 and 1997 (Audited) and for the six months ended June 30, 2000 and
1999 (Unaudited)
- Notes to Combined Financial Statements
FORWARD-LOOKING STATEMENTS UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995
The Company desires to take advantage of the "safe harbor" provisions of
the Private Securities Litigation Reform Act of 1995 (the "1995 Act"). The 1995
Act provides a "safe harbor" for forward-looking statements to encourage
companies to provide information without fear of litigation so long as those
statements are identified as forward-looking and are accompanied by meaningful
cautionary statements identifying important factors that could cause actual
results to differ materially from those projected. Although the Company does not
anticipate that it will make forward-looking statements as a general policy, the
Company will make forward-looking statements as required by law or regulation,
and from time to time may make such statements with respect to management's
estimation of the future operating results and business of the Company.
The following is a summary of the factors the Company believes important
and that could cause actual results to differ from the Company's expectations.
The Company is publishing these factors pursuant to the 1995 Act. Such factors
should not be construed as exhaustive or as an admission regarding the adequacy
of disclosure made by the Company prior to the effective date of the 1995 Act.
Readers should understand that many factors govern whether any forward-looking
statement will be or can be achieved. Any one of those factors could cause
actual results to differ materially from those projected. No assurance is or can
be given that any important factor set forth below will be realized in a manner
so as to allow the Company to achieve
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the desired or projected results. The words "believe," "expect," "anticipate,"
"intend," "aim," "will" and similar words identify forward-looking statements.
The Company cautions readers that the following important factors, among others,
could affect the Company's actual results and could cause the Company's actual
consolidated results to differ materially from those expressed in any
forward-looking statements made by or on behalf of the Company.
- Rapid changes in interest rates, which may (i) limit the Company's
ability to generate new finance receivables (ii) decrease the Company's
net interest margins and (iii) adversely affect the valuation of the
Company's interest sensitive assets.
- Increase in contractual delinquencies, non-performing loans and credit
losses.
- Decline in the values of collateral securing customer obligations
resulting in increased credit losses.
- Rapid changes in receivable prepayment rates.
- Adverse changes, or any announcement relating to a possible or
contemplated adverse change, in the ratings obtained from any of the
independent rating agencies relating to the Company's debt securities or
other financial instruments.
- The inability of the Company to access capital and financing on terms
acceptable to the Company.
- Changes in any domestic or foreign governmental regulation affecting the
Company's ability to declare and pay dividends, conduct business, the
manner in which it conducts business or the level of product pricing.
- Heightened competition, including the intensification of price
competition, the entry of new competitors and the introduction of new
products by new and existing competitors.
- Adverse publicity and news coverage about the Company or about any of its
proposed products or services.
- Adverse results in litigation matters and governmental proceedings
involving the Company.
- General economic and inflationary conditions affecting consumer debt
levels and credit losses and overall increases in the cost of doing
business.
- Changes in social and economic conditions such as increasing consumer
bankruptcies, inflation and monetary fluctuations, foreign currency
exchange rate fluctuations and changes in tax rates or tax laws.
- Changes in generally accepted accounting policies and practices, and the
application of such policies and practices to the Company.
- Loss or retirement of key executives, employees or technical personnel.
- The effect of changes within the Company's organization or in
compensation and benefit plans and the ability of the Company to attract
and retain experienced and qualified management personnel.
- Natural events and acts of God such as earthquakes, fires or floods
affecting the Company's branches and other operating facilities.
- The Company's ability to integrate the operations of acquisitions into
its operations and to efficiently exit selected operations.
- The decline in stock price adversely affecting First Capital's ability to
access the equity markets.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed by the undersigned hereunto
duly authorized.
ASSOCIATES CORPORATION OF NORTH AMERICA
By: /s/ ROY A. GUTHRIE
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Roy A. Guthrie
Senior Executive Vice President,
Principal Financial Officer and
Director
Date: August 30, 2000
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(i) ASSOCIATES CORPORATION OF NORTH AMERICA
For purposes of Rule 412 of the Securities Act of 1933, the following
modifies and supercedes the corresponding Items of the Company's Form 10-K
for the year ended December 31, 1999.
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PAGE
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Item 1. Business.................................................... 8
Item 2. Properties.................................................. 20
Item 3. Legal proceedings........................................... 20
Item 4. Submission of matters to a vote of security holders......... 20
Item 5. Market for registrant's common equity and related
stockholder matters....................................... 21
Item 6. Selected financial data..................................... 22
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 23
Item 7A. Quantitative and Qualitative Disclosures about Market
Risk...................................................... 33
Item 8. Financial statements and supplementary data
- Report of Independent Auditors............................ 36
- Consolidated Statement of Earnings for the years ended
December 31, 1999, 1998 and 1997.......................... 37
- Consolidated Balance Sheet at December 31, 1999 and
1998...................................................... 38
- Consolidated Statement of Changes in Stockholders' Equity
for the years ended December 31, 1999, 1998 and 1997...... 39
- Consolidated Statement of Cash Flows for the years ended
December 31, 1999, 1998 and 1997.......................... 40
- Notes to Consolidated Financial Statements................ 41
</TABLE>
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PART I
ITEM 1. BUSINESS.
COMPANY OVERVIEW
Associates Corporation of North America ("ACONA" or the "Company"), a
Delaware corporation, is a wholly-owned subsidiary and the principal operating
unit of Associates First Capital Corporation ("First Capital"). The Company is a
leading diversified financial services organization providing finance, leasing,
insurance and related services to consumers and businesses in the United States
and internationally. The Company had approximately 2,700 branch offices and
approximately 31,000 employees at December 31, 1999. The Company's corporate
headquarters are located in Irving, Texas.
On December 31, 1999, First Capital contributed its wholly-owned
subsidiary, Associates World Capital Corporation ("AWCC"), to the Company. AWCC,
through its principal operating subsidiary Associates First Capital B.V., issues
unsecured debt and commercial paper which is used to fund certain international
consumer and commercial finance operations.
On August 30, 2000, First Capital contributed several of its wholly-owned
subsidiaries to ACONA. The subsidiaries include ACONA B.V., AIC Associates
Canada Holdings, Inc., Associates Capital Corporation of Canada, Associates
Credit Card Services, Inc., Associates International Holdings Corporation, Avco
Financial Services Limited, The Northland Company and several other less
significant subsidiaries, collectively referred to hereafter as "Contributed
Entities". The Contributed Entities are a group of diversified financial
services companies providing finance, leasing, insurance and related services to
individual consumers and businesses in the United States and international
markets, primarily Japan, Canada and the United Kingdom. The contribution as
described herein returns ACONA to its former legal structure while solidifying
First Capital's global funding presence under ACONA. Further, management
believes the contribution of the Contributed Entities will enhance ACONA's
liquidity, access and execution in the global capital markets. The revenues,
pre-tax earnings and stockholders' equity of the Contributed Entities were
approximately $4.7 billion, $1.1 billion and $3.9 billion, respectively, as of
and for the year ended December 31, 1999. The consolidated financial statements
of ACONA have been restated retroactively to reflect the results of these
contributions in a manner similar to a pooling-of-interests in accordance with
generally accepted accounting principles, and are filed as exhibits to this Form
8-K. Upon consummation of these contributions, these restated financial
statements became the historical consolidated financial statements of ACONA, and
such related financial statements modify and supercede the consolidated
financial statements and related financial information and other disclosures of
ACONA contained in its Form 10-K for the year ended December 31, 1999 and its
Form 10-Q for the six months ended June 30, 2000. The contribution of the
Contributed Entities to the Company increased revenues by $4.3 billion, $2.0
billion and $1.0 billion for the year ended December 31, 1999, 1998 and 1997,
respectively, and increased net earnings by $742.2 million, $337.1 million and
$213.3 million in 1999, 1998 and 1997, respectively.
In addition, First Capital intends to assign to ACONA certain of its
outstanding foreign currency forward exchange contracts or to enter into
corresponding intercompany agreements with ACONA for such contracts, as well as
for any foreign denominated debt issued by First Capital, all of which are
designated as hedges of its net investment in one of the foreign currency
denominated Contributed Entities. The financial statements of ACONA contained in
this Form 8-K have been restated to reflect the effects of such hedging
instruments for all periods presented, as if such instruments had been
contributed to ACONA in conjunction with the Contributed Entities.
In order to more clearly define the names of the participants of the
transaction, unless the context otherwise requires, (i) "ACONA" or the "Company"
refers to Associates Corporation of North America and its consolidated
subsidiaries after giving effect to the contribution of the Contributed
Entities, (ii) "First Capital" refers to Associates First Capital Corporation
and its consolidated subsidiaries, and (iii) "Contributed Entities" refers to
the entities contributed to ACONA on August 30, 2000, as defined above.
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On September 5, 2000, First Capital and Citigroup Inc. entered into an
agreement and plan of merger whereby First Capital will be merged with and into
Citigroup Inc. (the "Agreement"). Under the Agreement, which was filed as a Form
8-K dated September 6, 2000, holders of First Capital common stock will receive
0.7334 shares of Citigroup Inc. common stock for each share of First Capital
common stock.
For the year ended December 31, 1999, the Company had total managed
revenues of $12.7 billion and net earnings of $1.8 billion. At December 31,
1999, managed finance receivables were $77.1 billion, total managed assets were
$86.8 billion and stockholders' equity was $13.4 billion.
The Company's finance receivables are geographically dispersed. At December
31, 1999, approximately 80% of total managed receivables were dispersed across
the United States with 9% in California, 7% in Texas and 6% in Florida; no other
individual state had more than 4%. The remaining 20% of total managed
receivables were dispersed across 12 foreign countries, with 10% in Japan, 5% in
Canada, and no more than 4% in any other foreign country.
For internal reporting purposes, the Company is managed as an integral
component of First Capital. Under its present financial reporting structure, the
Company does not report performance measures to the chief operating
decision-maker based on a segment organization. Pursuant to the provisions of
Statement of Financial Accounting Standards No. 131 ("SFAS 131") Disclosures
about Segments of an Enterprise and Related Information, no segment disclosures
are required because the Company is not managed on a segment basis. See Note 2
to the consolidated financial statements.
Certain prior year amounts presented herein have been restated to conform
to the current year presentation.
SIGNIFICANT 1999 TRANSACTIONS
During 1999, First Capital completed several significant strategic
acquisitions of which a substantial portion were eventually contributed, sold or
the finance receivables were participated to the Company or its subsidiaries.
Set forth below is a summary of the most significant transactions.
Significant 1999 Acquisitions:
- Avco Financial Services, Inc. ("Avco")
- Shell Oil and British Petroleum Private Label Credit Card
- Newcourt Credit Group's Canadian and United Kingdom fleet leasing
operations ("Newcourt")
Significant 1999 Dispositions:
- 128 U.S. consumer finance branches acquired from Avco
- 41 consumer finance branches located in Canada (28 of which were former
Avco branches)
- The SPS Network Transaction Services electronic transaction processing
services operation acquired in 1998
The Avco acquisition was the largest in Company history and is described in
more detail below. The other acquisitions listed above are described in more
detail in the "-- Product Information" section and in Note 3 to the consolidated
financial statements.
Acquisition of Avco Financial Services, Inc.
On January 6, 1999, First Capital purchased the assets and assumed the
liabilities of Avco. First Capital subsequently transferred substantially all of
the domestic finance operations of Avco to the Company, which at the time
included approximately $9 billion in assets. Avco's product offerings included
home equity lending, retail sales finance and consumer loans, equipment,
inventory and vendor finance, and credit and collateral-related insurance.
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During 1999, the Company sold 156 former Avco branches (128 domestic and 28
Canadian). These sales were initiated pursuant to the Company's acquisition,
integration and capital planning activities.
During the first two quarters of 1999, the Company consolidated certain
headquarters activities in the United States, the United Kingdom and Canada,
resulting in a reduction in the Company's workforce. In the United States,
Avco's headquarters in Costa Mesa, California, were closed in the second quarter
of 1999, as all corporate functions were consolidated with the Company's
headquarters in Irving, Texas. Most of the 400 jobs at Avco's headquarters were
eliminated. Internationally, the Company closed its United Kingdom headquarters
in Slough, England and consolidated functions into the existing Avco facilities
in Reading, England. In addition, the Company closed its Canadian consumer
finance headquarters in Toronto, Ontario and consolidated these functions into
Avco's Canadian headquarters in London, Ontario. Certain other facilities
including the Avco Technology Center in Costa Mesa and Avco's Denver Purchasing
Center were also closed during 1999.
Other Acquisitions
On January 31, 2000, First Capital, through its subsidiary, Associates
National Bank ("ANB"), entered into an agreement with KeyCorp, under which the
companies will jointly manage KeyCorp's credit card program. Additionally, First
Capital acquired KeyCorp's credit card receivables portfolio with a fair market
value of $1.3 billion and intangible assets, primarily related to customer lists
and operating agreements, of approximately $350 million for $1.7 billion.
Although ANB maintains the relationship with KeyCorp, ACONA will receive
revenues from participation rights which were transferred to the Company as part
of the August 30, 2000 contribution from First Capital.
In April 2000, First Capital acquired Arcadia Financial Ltd. ("Arcadia")
for approximately $195 million which approximated the fair value of the
intangible assets established in the acquisition. Subsequent to the acquisition,
First Capital contributed Arcadia to the Company. Arcadia had approximately $470
million in senior and subordinated notes at the time of the acquisition. At June
30, 2000, the Company managed approximately $3.4 billion of Arcadia's serviced
assets originated and sold with servicing retained prior to the acquisition.
PRODUCT INFORMATION
This section provides additional information about the products and
services offered by the Company. This information is provided on a Company-wide
product line basis.
The Company offers a variety of consumer financing products and services,
including home equity and personal loans, retail sales finance and private label
credit cards and purchases participations in bankcard and private label credit
card receivables originated by an affiliate. The Company also offers retail and
wholesale financing, and leasing for heavy-duty and medium-duty trucks and truck
trailers, construction, material handling and other industrial and
communications equipment, auto fleet leasing and other products and services to
commercial customers. As part of these finance activities, the Company makes
available to its customers credit-related and other insurance products.
The Company's consumer finance customers span a wide range of income levels
and credit histories. These customers generally have a history of using credit
from a variety of sources and include homeowners and purchasers of automobiles
and consumer durables (such as furniture, electronics and appliances).
The Company uses credit scoring models to evaluate risk and other factors
in extending credit to its customers. Information considered by the Company in
the credit scoring model includes, among other things, the customer's capacity
to repay (e.g., income, debt ratio, and employment stability), credit history
and available collateral to secure the loan, including home ownership.
The Company distributes its consumer finance and commercial products
through multiple delivery systems, which include branch offices and centralized
operations. Home equity loans account for the largest portion of the Company's
consumer finance portfolio, and are distributed through a branch delivery system
and centralized lending operations. The Company offers automobile financing,
personal installment and
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revolving loans and purchases consumer retail sales finance contracts through
its branch delivery and centralized lending systems. In addition, the Company
offers private label credit cards through its subsidiary, Associates Capital
Bank, Inc. ("ACB"), and purchases participations in the private label credit
card receivables and bankcard receivables of affiliates. The Company, through
certain subsidiaries and third parties, makes available various credit-related
and other insurance products to its consumer finance customers, including credit
life, credit accident and health, accidental death and dismemberment,
involuntary unemployment and personal property insurance. The Company also
provides emergency roadside assistance and auto club services.
Delivery of Consumer and Commercial Products and Services. The Company
distributes its consumer and commercial finance products through branch offices
and centralized lending operations as described below:
Consumer Branch System. At December 31, 1999, the Company's consumer
finance branch system consisted of approximately 2,600 geographically dispersed
office locations in the United States and internationally. In addition, the U.S.
home equity branch system consisted of 257 direct sales offices. The domestic
locations operate under four different nameplates -- Associates Financial
Services, TranSouth Financial, First Family Financial Services and Kentucky
Finance. All former Avco branches are now operating under the Associates
Financial Services nameplate. Products distributed include direct origination of
home equity loans, personal loans, automobile finance and retail sales finance.
Commercial Branch System. The Company provides truck and truck trailer
financing, equipment financing and leasing services and related insurance
through 116 branch offices in the United States and internationally.
Additionally, the Company's sales force regularly contacts truck and truck
trailer dealers and construction equipment dealers to purchase finance contracts
made between those dealers and retailers and the ultimate end-user. The Company
also provides short-term trailer rentals through 23 U.S. branch offices. In
addition, insurance products are offered through approximately 5,500 general and
independent agents and brokers.
Centralized Consumer Lending. At December 31, 1999, the Company distributed
home equity, personal loans, sales finance and automobile lending through seven
regional service centers and centralized lending operations. The Company
distributes its centralized home equity products primarily through Associates
Home Equity Services, Inc. ("AHES"). AHES offers both fixed and variable rate
closed-end loans and lines of credit, secured by residential property. Home
equity loans are originated through unaffiliated mortgage brokers, financial
institutions and existing customer relationships targeted through direct mail
and telemarketing efforts. Mortgage brokers are independent agents who match
their customers with a lender based on the customer's needs and the credit
profile requirements of the lender. The Company distributes its revolving
personal lending and sales finance products through its federally insured Utah
industrial thrift, ACB, and its retail auto lending products through TranSouth
Financial's retail auto center.
Additionally, the Company has a centralized warehouse lending operation,
which is conducted through First Collateral Services, Inc. ("FCS"). FCS provides
short-term lines of credit secured by residential mortgages to small and
mid-sized mortgage brokers throughout the United States.
Centralized Commercial Lending, Leasing and Services. The Company utilizes
eight centralized operations to distribute lending, leasing and fee-based
products and services. The Company's auto fleet leasing and fleet management
services operation is directed through Associates Fleet Services. Additionally,
the Company utilizes centralized operations to provide material handling and
other industrial and communications equipment products, employee relocation
services and government guaranteed lending programs. Insurance products are
marketed to commercial finance customers through the same delivery systems used
to market commercial finance products and services.
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The following table shows certain information with respect to the Company's
managed receivables outstanding by product (in millions):
MANAGED RECEIVABLES OUTSTANDING(1)
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<CAPTION>
AT DECEMBER 31
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1999 1998 1997 1996 1995
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Home Equity................... $27,358.5 $22,622.3 $18,796.0 $16,691.4 $14,316.3
Personal Lending/Retail Sales
Finance..................... 15,999.3 11,459.2 8,731.6 7,425.1 6,225.1
Truck and Truck Trailer....... 13,130.3 10,783.6 9,688.9 8,598.3 7,724.0
Credit Card................... 10,913.7 9,831.1 7,937.4 5,735.9 4,743.3
Equipment..................... 6,301.4 5,444.6 5,300.5 4,571.8 3,781.7
Auto Fleet Leasing............ 2,070.1 1,589.7 1,551.1 1,090.8 330.8
Manufactured Housing(2)....... 46.0 31.6 33.1 1,262.8 2,049.3
Other Financial Services(3)... 1,320.0 1,268.4 822.4 358.5 290.7
--------- --------- --------- --------- ---------
Total............... $77,139.3 $63,030.5 $52,861.0 $45,734.6 $39,461.2
========= ========= ========= ========= =========
</TABLE>
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(1) See the "Management's Discussion and Analysis -- Managed Basis Reporting"
section for more information on Managed Basis reporting.
(2) Prior to December 31, 1997, the Company participated in First Capital's
manufactured housing activities. On December 31, 1997, this participation
was terminated and substantially all manufactured housing assets and
liabilities were transferred, at book value, to First Capital. In January
2000, First Capital announced its intention to discontinue the manufactured
housing loan origination operations of its Associates Housing Finance unit.
(3) Includes warehouse lending, government guaranteed lending and public finance
(prior to 1997, public finance was included in truck and truck trailer and
equipment net finance receivables).
Home Equity. Home equity lending activities consist of originating and
servicing fixed and variable rate mortgage loans that are secured primarily by
single-family residential properties. Typically, such loans are not used for the
acquisition of homes, but are made to borrowers primarily for the purpose of
debt consolidation, including the refinancing of existing mortgage loans, home
improvements and a variety of other purposes.
Home equity loans have maturities of up to 360 months. Fixed rates were
charged on approximately 93% of home equity managed receivables outstanding at
December 31, 1999. Home equity loans may be secured by either first or second
mortgages. At December 31, 1999, approximately 76% of the aggregate net
outstanding balance of home equity lending receivables was secured by first
mortgages.
Personal Lending/Retail Sales Finance. The Company's personal lending
business consists of direct origination and servicing of secured and unsecured
personal loans to individuals. Personal loans are direct consumer loans that are
generally not secured by real estate. Such loans may be secured by existing
personal property (the realizable value of which may be less than the amount of
the loan secured), including automobiles and consumer durables. Personal loan
contract terms range up to 60 months and generally require payments on an
installment basis. In general, personal loans are made for the purpose of debt
consolidation, home improvement, education and purchasing automobiles,
appliances and other durable goods. Personal loans are marketed through direct
mail, advertising, referrals and the solicitation of existing retail sales
finance customers.
Retail sales finance contracts are generally for the purchase of items such
as household electronics and appliances, automobiles, furniture and home
improvements. These contracts are generally purchased from retailers of such
items, and provide an important source of new customers. The sales finance
relationship often leads to other types of financing for the customer based upon
the individual's needs. The terms of retail sales finance contracts differ based
on the amount financed and the credit quality of the customer. Generally, retail
sales finance contracts have terms ranging from 24 to 36 months. Automobile
contracts can be written for up to 72 months.
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<PAGE> 13
Truck and Truck Trailer Financing and Leasing. The Company believes that it
is one of the leading independent sources of financing and leasing for
heavy-duty trucks and truck trailers in the United States based on receivables
outstanding. The Company provides retail financing and leasing for purchasers
and users of medium-duty trucks, heavy-duty trucks and truck trailers, as well
as wholesale financing, accounts receivable financing and working capital loans
to dealers and trucking companies. The Company also provides financing and
leasing for truck and truck trailer purchases by truck leasing and rental
companies. Truck and truck trailer customers are principally located in the
United States and, to a lesser extent, in Canada and other countries.
The Company provides retail financing and leasing of new and used
medium-duty trucks, heavy-duty trucks and truck trailers primarily on an
indirect basis through truck and truck trailer dealers. Under an installment
sales contract, the dealer and purchaser enter into a financing arrangement for
the installment purchase of a truck or truck trailer. Subject to credit approval
by the Company, the dealer assigns the installment contract to the Company. The
Company funds the transaction by a payment to the dealer for the net amount
financed in the contract. Retail truck and truck trailer financing and leasing
is also sourced directly with truck or truck trailer purchasers.
Generally, retail financing transactions provide for terms up to 60 months
for trucks and up to 84 months for truck trailers at fixed rates of interest.
The interest rate varies depending on, among other things, the credit quality of
the purchaser, the transaction size, the term and down payment, and whether the
collateral is new or used.
Fleet leasing is provided for users of medium-duty trucks, heavy-duty
trucks and truck trailers. Most truck and truck trailer leases are
non-maintenance, open-end terminal rental adjustment clause ("TRAC") leases.
Under such leases, the customer is responsible for the maintenance and terminal
or residual value of the vehicle and the Company generally retains the tax
depreciation benefit.
The Company also provides truck trailer rental services through short-term
operating leases. Under these leases, the Company is the owner of the equipment
and the lessee enjoys the use of the equipment for periods from a few days to
several months.
In addition, new and used vehicle wholesale financing is provided to truck
and truck trailer dealers throughout the United States and, to a lesser extent,
Canada. Generally, such loans are short-term with variable (prime rate based)
rates and are secured by inventory.
Credit Card. Credit card receivables consist primarily of VISA(R) and
MasterCard(R) bankcards and private label credit cards which are marketed to the
public directly and through co-operative marketing programs with other
companies. Effective as of August 30, 2000, the date of the contribution of the
Contributed Entities to ACONA, the Company receives revenues from the direct
participation rights in the credit card finance receivables pursuant to
agreements that were negotiated by First Capital.
Bankcards are issued across a wide spectrum of customers with interest
rates based on customer credit profiles. Bankcard operations were expanded
through the December 1998 agent bank agreement with Washington Mutual Bank, FA.
In addition, in January 2000, First Capital acquired the credit card receivables
portfolio of KeyCorp and entered into an ongoing agent bank partnership.
Although First Capital, through its subsidiary, ANB, maintains the relationship,
the participation rights were transferred to the Company as part of the August
30, 2000 contribution. Combined, these relationships give First Capital rights
to market credit card products to approximately 9 million customers through
approximately 2,000 branches.
The private label credit card business consists of customized revolving
credit programs for retail and oil companies. First Capital's retail Private
Label Card program includes Radio Shack, Gateway, Goodyear, Staples, Office
Depot and Office Max, among others. First Capital's private label oil program
includes Texaco, Amoco, Shell Oil and British Petroleum. The Shell Oil and
British Petroleum credit card programs were acquired during 1999, establishing
First Capital as the leading provider of oil company credit cards in the United
States. In August 1999, First Capital announced an agreement to acquire and
manage the proprietary credit card program of CITGO Petroleum Corporation. In
March 2000, First Capital acquired approximately $130 million in receivables
under this agreement. First Capital's private label relationships include
approxi-
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<PAGE> 14
mately 38 million oil and retail customers and approximately 82,000 oil and
retail outlets. These relationships allow First Capital to leverage the oil and
retail companies' brand names in order to cross sell related products and
services to these customers.
The Company's credit card related revenues are derived from finance charges
on revolving accounts, the interchange fees resulting from merchant discounts,
annual membership and other account fees, as well as fees earned from the sale
of insurance and other fee-based products. The Company's credit card receivables
typically bear variable interest rates tied to movements in the prime lending
rate.
Equipment Financing and Leasing. The Company believes that, based on
receivables outstanding, it is one of the leading independent sources of
financing and leasing of new and used construction, mining, forestry,
industrial, machine tool, material handling, aircraft, communications and turf
maintenance equipment and golf cars in the United States, Canada, the United
Kingdom, Puerto Rico and France and to a lesser extent in other countries.
Wholesale and rental fleet financing is offered to dealers (who may either sell
or rent the equipment to end-users) and retail financing and leasing is offered
to equipment end-users.
The Company provides retail financing for the purchase of new and used
equipment through installment sales contracts purchased from dealers and
distributors, and through direct loans to purchasers. Generally, retail
financing transactions for equipment provide for maturities of up to 60 months
at fixed rates of interest. The interest rate depends on, among other things,
the credit quality of the purchaser, transaction size, term, down payment and
whether the collateral is new or used.
Leasing for end-users of equipment, either directly to the customer or
through dealers, is also provided. Finance leases typically include an option
for the lessee to acquire the equipment at a set time before the termination of
the lease for a specified price (designed to offer the lessee an incentive to
purchase as part of residual risk management) and typically include an option
for the lessee to acquire the equipment at the end of the lease term for the
fair market value. Under certain lease transactions, the Company retains the
depreciation tax benefit.
In addition, the Company provides wholesale and rental fleet financing for
selected dealers. Generally, wholesale loans are short-term loans with variable
(prime rate based) rates and are secured by inventory.
Auto Fleet Leasing. The Company believes it is one of the leading providers
of auto fleet leasing and management services for corporations in the United
States, Canada and the United Kingdom with auto and light truck fleets of
generally 100 or more vehicles. These operations were expanded substantially
through the acquisition of Newcourt Credit Group's Canadian and U.K. fleet
management operations, which were purchased by First Capital in June 1999 and
transferred to the Company through the August 30, 2000 contribution transaction.
Management services, which are provided through a centralized operation,
primarily include vehicle purchasing and sales, license and title
administration, vehicle maintenance management, accident management, fuel card
management, driver expense report processing and other tailored services to
allow companies to fully outsource their fleet management operations.
Other Financial Services. The Company's other activities principally
include the following:
Warehouse Lending -- The Company provides short-term financing,
secured by real estate mortgages, to mortgage companies and other mortgage
lenders.
Government Guaranteed Lending -- SBA and B&I Loans. The Company
extends credit to small businesses that is partially guaranteed by the
United States government under the Small Business Administration 7(a), 504,
LowDoc, and SBAExpress programs, as well as the USDA Business and
Industrial Loan program. These programs provide financing of $50,000 to $5
million for working capital, equipment, commercial real estate, debt
refinancing and business acquisitions. The Company maintains Preferred
Lender Status in 14 SBA Districts and it plans to extend its Preferred
Lender Status to additional SBA districts in the upcoming year.
Employee Relocation Services -- The Company provides corporations and
certain federal government agencies with assistance in employee relocation,
origination of mortgages and management and disposition of residential real
estate.
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<PAGE> 15
Public Finance -- The Company provides financing for the acquisition
of real and personal property by state and local government entities,
not-for-profit (sec.501(c)(3)) corporations and qualified industrial
companies in the United States.
Emergency Roadside Assistance and Auto Club Services -- The Company
offers various emergency roadside assistance and related auto club services
to consumers through major corporations, primarily automobile
manufacturers.
Related Insurance Products and Services. Historically the Company has
offered various credit and non-credit insurance products to its finance
customers through its consumer and commercial finance product delivery systems.
The Company expanded its insurance products and delivery systems through First
Capital's acquisition and subsequent contribution of The Northland Company
("Northland") in December 1998 and Avco in January 1999, as described below.
Consumer related insurance products include credit life, credit accident and
health, accidental death and dismemberment, involuntary unemployment and
personal property insurance. Commercial related insurance products offered
include commercial auto and dealers' open lot physical damage, credit life and
motor truck cargo insurance. In addition to insurance underwriting, the Company
also receives compensation for certain insurance programs underwritten by other
companies. The Company underwrites liability insurance in certain states for its
commercial auto physical damage customers.
The purchase of insurance by a finance customer is optional, with the
exception of physical damage insurance on loan collateral, which is generally
required. The customer can purchase such insurance from the Company or an
alternative carrier chosen by the customer.
The following table sets forth certain information relating to the
Company's insurance operations (in millions):
INSURANCE STATISTICAL DATA(1)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
--------------------------------------------
1999(2) 1998 1997 1996 1995
-------- ------ ------ ------ ------
<S> <C> <C> <C> <C> <C>
Net Written Premium
Credit life, accident and other
related............................. $ 384.9 $290.1 $307.1 $282.2 $240.6
Physical damage........................ 351.2 197.8 210.3 185.1 180.3
Other casualty and liability........... 436.6 103.7 91.3 75.8 69.6
-------- ------ ------ ------ ------
Total.......................... $1,172.7 $591.6 $608.7 $543.1 $490.5
======== ====== ====== ====== ======
Premium Revenue(3)
Credit life, accident and other
related............................. $ 298.0 $210.6 $201.4 $178.4 $164.8
Physical damage........................ 344.8 171.2 153.4 158.7 148.5
Other casualty and liability........... 404.3 89.7 65.9 64.7 57.3
-------- ------ ------ ------ ------
Total.......................... $1,047.1 $471.5 $420.7 $401.8 $370.6
======== ====== ====== ====== ======
Investment Income........................ $ 198.9 $ 98.5 $ 82.6 $ 71.7 $ 68.5
======== ====== ====== ====== ======
Benefits Paid or Provided................ $ 447.0 $158.1 $145.7 $148.2 $142.5
======== ====== ====== ====== ======
</TABLE>
---------------
(1) This table does not reflect any direct or indirect expenses that may be
associated with the Company's insurance operations. The Company markets its
insurance products through its consumer and commercial distribution systems
and, accordingly, does not allocate overhead and related expenses to its
insurance operations.
(2) The increase in the 1999 Net Written Premium and Premium Revenue relates
primarily to the acquisition of Northland and the affiliate insurance
operations of Avco.
(3) Includes compensation for insurance policies underwritten by other
companies.
As described below, the Company enhanced existing lines of insurance
products through First Capital's December 1998 acquisition of Northland and
January 1999 acquisition of Avco which were part of the
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<PAGE> 16
contribution on August 30, 2000. The acquisition of Northland in December 1998
did not have a significant impact on the Company's 1998 operating results.
Northland. The addition of Northland increased the Company's property and
casualty insurance business and enhanced the Company's existing lines of
insurance products. Northland operates through approximately 5,500 general
agents, independent agents and brokers. Historically, the Company has sold
credit-related insurance, mainly to customers of its consumer finance and
commercial finance operations. Northland's insurance products, which include
commercial auto (predominantly trucking), excess and surplus lines and
non-standard auto, complemented the Company's insurance business and
significantly expanded its distribution capability. Nearly half of Northland's
writings are in lines of businesses the Company serves extensively through its
commercial finance operations. Northland completed its 13th consecutive year of
underwriting profit in 1999 with a combined ratio of 92.7. Northland and its
subsidiaries operate in 50 states and the District of Columbia and have
approximately 750 employees at their St. Paul, Minnesota headquarters and a
subsidiary in Scottsdale, Arizona. Northland is rated A+ (Superior) by A.M.
Best.
Avco. First Capital's acquisition of Avco and subsequent contribution to
ACONA included the affiliate insurance operations of Balboa Casualty and Life
Insurance Companies. The Balboa acquisition significantly expanded the affiliate
insurance business of the Company's U.S. and international operations. Affiliate
insurance relates to insurance products distributed through the finance
affiliates. Avco offered insurance products to consumers and businesses in the
United States, Canada and the United Kingdom through its affiliated finance
operations, as well as to non-credit related customers. See Note 3 to the
consolidated financial statements and the "-- Significant 1999 Transactions"
section for more information on the Avco acquisition and related dispositions.
ADDITIONAL INFORMATION REGARDING THE COMPANY
Allowance for Losses, Credit Losses and Contractual Delinquency
The Company maintains an allowance for losses on finance receivables at an
amount that it believes is sufficient to provide for losses in its existing
receivables portfolios. The allowance is determined principally on the basis of
historical loss experience, and reflects management's judgment of the present
loss exposure at the end of the period considering economic conditions and the
nature and characteristics of the underlying finance receivables. The Company
records an allowance for losses when it believes the event causing the loss has
occurred. The allowance is evaluated on an aggregate basis considering, among
other things, the relationship of the allowance to net finance receivables and
historical net credit losses. Additions to the allowance are generally charged
to the provision for losses on finance receivables.
Finance receivables are charged to the allowance for losses when they are
deemed to be uncollectible. As set forth below, the Company's policy generally
provides for charge-off of various types of accounts on a contractual basis.
Consumer direct and other installment and credit card receivables are charged to
the allowance for losses when they become 180 days contractually delinquent. All
other finance receivables are charged to the allowance for losses when any of
the following conditions occur: (i) the related security has been converted or
destroyed; (ii) the related security has been repossessed and sold or held for
sale for one year; or (iii) the related security has not been repossessed and
the receivable has become contractually delinquent for one year. A contractually
delinquent account is one on which the customer has not made payments as
contractually agreed. Finance charge accruals are suspended on accounts when
they become 60 days contractually delinquent. The accrual is resumed when the
loan becomes contractually current. Recoveries on losses previously charged to
the allowance are credited to the allowance at the time recovery is collected.
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<PAGE> 17
The following table sets forth information as of the dates shown regarding
the allowance for losses. For further information concerning allowance for
losses, net credit losses and contractual delinquencies, see "-- Management's
Discussion and Analysis of Financial Condition and Results of Operations".
ALLOWANCE FOR LOSSES TO NET FINANCE RECEIVABLES
<TABLE>
<CAPTION>
YEAR ENDED OR AT DECEMBER 31
--------------------------------------------------------
1999 1998 1997 1996 1995
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
OWNED BASIS
Allowance for Losses Amount (in
millions)............................ $2,054.6 $1,891.2 $1,871.8 $1,543.1 $1,253.8
Allowance for Losses to Net Finance
Receivables.......................... 3.15% 3.39% 3.55% 3.37% 3.18%
Allowance for Losses to Net Credit
Losses(1)............................ 1.52x 1.67x 1.56x 1.78x 2.04x
</TABLE>
---------------
(1) Calculated as a ratio of the allowance for losses to related trailing or
annualized net credit losses on receivables owned at the end of the period
(as adjusted to exclude net credit losses related to securitized receivables
and to reflect the impact of significant acquisitions).
The Company's ten largest accounts at December 31, 1999 (all of which were
current at December 31, 1999) represented approximately 1% of the Company's
total managed finance receivables outstanding. All of such accounts are secured
commercial finance accounts.
Competition
The markets in which the Company operates are highly competitive. Many
competitors are large companies that have substantial capital and technological
and marketing resources. Some of these competitors are larger than the Company
in some markets and may have access to capital at a lower cost than the Company.
The Company believes that the finance charge rate is one of the primary
competitive factors in many of its markets. From time to time, competitors of
the Company may seek to compete aggressively on the basis of pricing, and the
Company may lose market share to the extent it is not willing to match
competitor pricing, in order to maintain interest margins.
Competition in the credit card industry has been intense over the last
several years. Large money-center banks have been seeking to expand their credit
card units through, among other things, aggressive pricing, marketing and
acquisitions. In addition, many non-bank competitors specialize in certain
growth strategies, such as partnership and database marketing. The Company
addresses these competitive pressures by focusing on targeted segments of the
domestic consumer market, co-branding relationships and its private label credit
card programs.
Traditional competitors in the consumer finance related businesses include
independent finance companies, banks and thrift institutions, credit unions,
industrial banks, credit card issuers, leasing companies, manufacturers and
vendors. On a local level, community banks and smaller independent finance
and/or mortgage companies are a competitive force. Some competitors have
substantial local market positions; others are part of large, diversified
organizations. Because of their longstanding insured deposit base, many banks
that compete with the Company are able to offer financial services on very
competitive terms. While there is considerable competition in the home equity
loan market, the market is fragmented with no single competitor claiming a
significant market share. The Company, which is primarily a portfolio lender,
maintains considerable product and delivery flexibility, which the Company
believes is a competitive advantage.
Competition also varies by delivery system and geographic region. For
example, competitors of the Company's branch system are distinct from the
competitors of the Company's centralized lending operations.
In its commercial finance businesses, the Company competes with captive and
independent finance companies, commercial banks, thrifts and other financial
institutions, leasing companies, lease brokers, manufacturers, vendors and
others. The Company believes, based on its experience in the industry, that the
17
<PAGE> 18
primary competitive factors in the commercial finance and leasing business are
price, product quality, risk management, new account marketing and retention of
customers through emphasis on superior customer service. In addition, the
Company believes that innovation is necessary to compete in the industry,
including enhanced customer service, specialization in certain types of
equipment, use of alternative channels of distribution and, in certain lines of
business, optimization of tax treatment between owner and user. Purchasers of
equipment financed by the Company generally seek transactions that are simple,
flexible and customer responsive.
The international competitors of the Company include those types of
business entities which have traditionally competed in the local and
international markets. Competition varies on the basis of product and local
jurisdiction, with commercial banks, credit card issuers, finance companies and
vendors frequently constituting an established source of competition. The
Company's experience indicates that primary competitive factors in its
international markets vary from market to market but may include product
quality, customer service, risk management and capital resources.
The Company also competes with international, national and regional
insurance companies, as well as self-insurance programs and captive insurers, to
provide its credit related and non-credit related insurance products.
Competition in the insurance business is based upon price, product design and
service levels rendered to producers and policyholders. The insurance business
is extremely competitive, in both price and services, and no single insurer is
dominant. The Company believes that its ability to market its insurance products
through its distribution systems gives it a distinct competitive advantage over
its competitors who do not have such ability.
Regulation
The Company is subject to regulation in most of the countries in which it
has operations, and is often required to obtain governmental licensing or
approval before commencing business. The Company's operations in the United
States are subject to extensive state and federal regulation including, but not
limited to, the following federal statutes and regulations: The Consumer Credit
Protection Act of 1968, as amended (including certain provisions thereof,
commonly known as the "Truth-in-Lending Act" or "TILA"), the Equal Credit
Opportunity Act of 1974, as amended (the "ECOA"), the Fair Credit Reporting Act
of 1970, as amended (the "FCRA"), and the Real Estate Settlement Procedures Act,
as amended ("RESPA"). In addition, the Company is subject to state laws and
regulations with respect to the amount of interest and other charges which
lenders can collect on loans.
In the judgment of the Company, existing statutes and regulations have not
had a materially adverse effect on the operations of the Company. However, it is
not possible to forecast the nature of future legislation, regulations, judicial
decisions, orders or regulatory interpretations or their impact on the future
business, financial condition or prospects of the Company.
The Company's consumer finance businesses, including its credit card
businesses, are generally subject to detailed supervision by governmental
authorities under legislation and regulations which generally require licensing
of the lender, limitations on the amount, duration and charges for various
categories of loans, adequate disclosure of certain contract terms and
limitations on collection practices and creditor remedies. Licenses are
renewable, and may be subject to revocation for violations of such laws and
regulations. In addition, most states in the United States have usury laws which
limit interest rates. Federal legislation in the United States preempts state
interest rate ceilings on first mortgage loans and state laws which restrict
various types of alternative home equity receivables, except in those states
which have specifically opted out of such preemption.
The Company is subject to the TILA and Regulation Z promulgated thereunder
in the United States. The TILA requires, among other things, disclosure of
pertinent elements of consumer credit transactions, including the finance
charges and the comparative costs of credit expressed in terms of an annual
percentage rate. The TILA disclosure requirements are designed to provide
consumers with uniform, understandable information with respect to the terms and
conditions of loans and credit transactions in order to enable them to compare
credit terms. The TILA also guarantees consumers a three-day right to cancel
certain credit
18
<PAGE> 19
transactions, including purchase money loan refinancing and home equity loans
secured by a consumer's primary residence. Section 32 of Regulation Z mandates
that applicants for real estate loans which contain certain rate and fee amounts
be provided an additional three-day waiting period prior to signing loan
documents.
In addition, the Company is subject to the ECOA which, in part, prohibits
credit discrimination on the basis of race, color, religion, sex, marital
status, national origin or age. Regulation B, promulgated under ECOA, restricts
the type of information that may be obtained by creditors in connection with a
credit application. It also requires certain disclosures by the lender regarding
consumer rights and requires lenders to advise applicants who are denied credit
of the reasons therefor. In instances where a loan application is denied or the
rate or charge on a loan is increased as a result of information obtained from a
consumer credit agency, the FCRA requires the lender to supply the applicant
with the name and address of the reporting agency.
RESPA covers real estate secured loans that are subordinated to other
mortgage loans. RESPA and Regulation X promulgated thereunder require disclosure
of certain information to customers within prescribed time frames and regulate
the receipt or payment of fees or charges for services performed.
ACB (formerly Associates Investment Corporation) is regulated by the FDIC
and the Utah Department of Financial Institutions. ACB is subject to regulation
relating to capital adequacy, leverage, loans, deposits, consumer protection,
community reinvestment, the payment of dividends, transactions with affiliates
and other aspects of operations.
Federal and state legislation seeking to regulate the maximum interest rate
and/or other charges on consumer finance receivables has been introduced in the
past, and may from time to time be changed in the future. However, it is not
possible to predict the nature of future legislation with respect to the
foregoing or its impact on the future business, financial condition or prospects
of the Company.
Although most jurisdictions do not regulate commercial finance, certain
jurisdictions do require licensing of lenders and financiers, limitations on
interest rates and other charges, adequate disclosure of certain contract terms
and limitations on certain collection practices and creditor remedies. In the
United States the Company is also required to comply with certain provisions of
the ECOA which are applicable to commercial loans.
Small Business Administration loans made by the Company are governed by the
United States Small Business Act and the Small Business Investment Act of 1958,
as amended, and may be subject to the same regulations by certain states in the
United States as are other commercial finance operations. The Federal statutes
and regulations specify the types of loans and loan amounts which are eligible
for the Small Business Administration's guaranty as well as the servicing
requirements imposed on the lender to maintain Small Business Administration
guarantees.
The international operations of the Company's finance business are subject
to diverse regulatory frameworks. Regulatory qualifications, licensing
procedures, interest rates, lending practices and regulatory reporting
requirements vary substantially from jurisdiction to jurisdiction.
In December 1999, the Japanese Government enacted legislation effective
June 1, 2000, which reduces the maximum allowable rate for all new loans and
borrowings, after the effective date, which financial institutions may charge
from 40.004% to 29.2%. As of December 31, 1999, approximately half of the
Company's consumer loans in Japan were below the newly enacted rate ceiling of
29.2%. While the legislation will have the effect of decreasing the maximum rate
of interest the Company may charge on new loans and borrowings, the Company
believes that the change will not have a material adverse impact on the
Company's operations. The Company is reviewing its products and services in
Japan as well as distribution channels, new products, and expense attributes to
minimize any impact of the rate change. Based on previous experiences, the
Company believes the decreases in the interest rate ceiling will result in
industry consolidation, creating opportunities for portfolio or business
acquisitions in Japan.
The domestic and foreign insurance operations of the Company are subject to
detailed regulation and supervision in each state or other jurisdiction in which
they conduct business. The laws of the various
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<PAGE> 20
jurisdictions establish supervisory and regulatory agencies with broad
administrative powers. Generally, such laws cover, among other things, types of
insurance that may be sold, policy forms, reserve requirements, permissible
investments, premiums charged, trade practices, limitations on the amount of
dividends payable by any insurance company and guidelines and standards with
respect to dealings between insurance companies and affiliates.
Due to the nature of the Company's business and the various countries in
which certain of the Company's businesses are domiciled, the acquisition of its
equity securities beyond certain percentage levels may not be permitted without
regulatory approval. U.S. Federal and state banking laws and state insurance
regulations may limit ownership of the Company's equity securities by certain
entities. In addition, regulations of various governing bodies in foreign
countries where the Company or a subsidiary conducts business also may limit an
entity or affiliated entity's interest in the Company. The information set forth
herein is not meant to be complete, and any person or entity investing in the
Company should consult their own legal counsel regarding such investment.
ITEM 2. PROPERTIES.
The furniture, equipment and other physical property owned by the Company
and its subsidiaries represent less than 1% of total assets at December 31, 1999
and are therefore not significant in relation to total assets. Branch finance
operations are generally conducted on leased premises under operating leases
with terms not normally exceeding five years. At December 31, 1999, the Company
had approximately 2,700 offices worldwide. The Company owns its administrative
headquarters in Irving, Texas, consisting of approximately 550,000 square feet,
and a centralized processing center also located in Irving, Texas, consisting of
approximately 440,000 square feet.
ITEM 3. LEGAL PROCEEDINGS.
As of December 31, 1999, various legal actions and proceedings and claims
were pending or might be instituted or asserted in the future against the
Company and its subsidiaries. Certain of the pending legal actions were, or were
purporting to be, class actions. Some of the foregoing matters involved or might
involve compensatory, punitive or treble damage claims which, if adversely held
against the Company, would require large expenditures or could affect the manner
in which the Company conducts its business.
In addition, the Company, like many other companies that operate in
regulated businesses, is from time to time the subject of various governmental
inquiries and investigations. As of December 31, 1999, the Company was the
subject of certain investigations and inquiries by federal and state
governmental authorities relating generally to the Company's lending practices.
As of December 31, 1999, the Company did not have sufficient information to
predict with certainty the ultimate outcome of such investigations and inquiries
or their ultimate effect, if any, on the Company's results of operations or
financial condition or the manner in which the Company operates its business.
Legal actions, governmental inquiries and investigations are subject to
many uncertainties, and the outcome of individual matters is not predictable
with assurance. Some of the matters discussed in the foregoing paragraphs could
be decided unfavorably to the Company or the subsidiary involved and could
require the Company or such subsidiary to pay damages or make other expenditures
in amounts or a range of amounts that cannot be estimated at December 31, 1999.
The Company does not reasonably expect, based on its analysis, that any adverse
outcome from such matters would have a material effect on future consolidated
financial statements for a particular year, although such an outcome is
possible.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
As of December 31, 1999, all of the outstanding common stock of the Company
is owned by First Capital and all of the Class B common stock is owned by
Associates International Holdings Corporation ("AIHC"), a wholly-owned
subsidiary of First Capital. In December 1999 and immediately prior to the
contribution of AWCC to the Company, AWCC sold, at book value, its investment in
the Company's Class B common stock to AIHC. There is no market for the Company's
common or Class B stock.
Dividends on the common stock and Class B common stock are paid when
declared by the Board of Directors. Dividends of $14.20 per share per annum on
the Class B common stock outstanding must be paid each year before any dividends
may be paid on the common stock. The Company declared dividends of $14.2 million
and $28.4 million on the Class B common stock in 1999 and 1998, respectively.
The Company declared a dividend of $508.4 million and $230.0 million on the
common stock in 1999 and 1998, respectively. In 1999, a subsidiary of the
Company declared a dividend of $46.3 million.
The Company is subject to various limitations under the provisions of its
outstanding debt and revolving credit agreements. At December 31, 1999, a
restriction contained in certain revolving credit agreements requires the
Company to maintain a minimum tangible net worth, as defined, of $2.5 billion.
At December 31, 1999, the Company's tangible net worth was $9.9 billion. In
addition, ACB and the Company's insurance subsidiaries may pay dividends and
make certain other transfers of funds to the Company only up to amounts
permitted by applicable banking and insurance regulations, respectively, and the
repatriation of funds from the Company's foreign subsidiaries may be subject to
withholding taxes or other restrictions.
21
<PAGE> 22
ITEM 6. SELECTED FINANCIAL DATA.
The following table sets forth selected consolidated financial information
regarding the Company's financial position and operating results, which has been
extracted from the Company's consolidated financial statements for the five
years ended December 31, 1999, after giving effect to the contribution of the
Contributed Entities from First Capital. This information is being provided in
lieu of the information called for by Item 6 of Form 10-K, in accordance with
General Instruction I.(2)(a) to Form 10-K. The information should be read in
conjunction with Item 7 -- "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and the consolidated financial statements
and accompanying notes included elsewhere in this report (dollar amounts in
millions):
<TABLE>
<CAPTION>
YEAR ENDED OR AT DECEMBER 31
---------------------------------------------------------
1999 1998 1997 1996 1995
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
Results of Operations
Total revenue.............................. $11,806.0 $ 9,109.5 $ 8,133.3 $ 7,017.8 $ 6,076.3
Finance charge revenue..................... 8,672.1 7,416.9 7,426.0 6,400.7 5,519.0
Interest expense........................... 3,396.7 3,047.2 2,682.4 2,351.7 2,113.0
Net interest margin........................ 5,275.4 4,369.7 4,743.6 4,049.0 3,406.0
Operating expenses......................... 3,655.5 2,607.6 2,200.9 1,905.7 1,684.8
Provision for losses....................... 1,375.6 1,227.6 1,348.1 1,064.6 820.9
Insurance benefits paid.................... 447.0 158.1 145.7 148.2 142.5
Earnings before provision for income
taxes.................................... 2,931.2 2,069.0 1,756.2 1,547.6 1,315.1
Provision for income taxes................. 1,084.5 757.7 644.8 597.3 515.8
Net earnings............................... 1,846.7 1,311.3 1,111.4 950.3 799.3
Balance Sheet Data
Finance receivables, net of unearned
finance income........................... $65,187.5 $55,707.7 $52,749.0 $45,734.6 $39,461.2
Allowance for losses....................... 2,054.6 1,891.2 1,871.8 1,543.1 1,253.8
Total assets............................... 78,182.8 70,259.8 56,586.1 47,571.7 41,200.0
Short-term debt (notes payable)............ 17,597.6 20,236.6 19,342.5 16,338.6 13,662.3
Long-term debt(1).......................... 39,959.9 36,787.5 27,753.5 23,311.1 20,494.2
Stockholders' equity....................... 13,434.5 9,684.9 7,466.4 6,420.8 5,841.6
Selected Data and Ratios(2)
Total debt to equity(3)(7)................. 4.2:1 5.6:1 6.3:1 6.1:1 5.8:1
Total debt to tangible
equity(3)(4)(7).......................... 5.8:1 6.9:1 7.3:1 7.6:1 7.4:1
Return on average assets................... 2.36% 2.02% 2.09% 2.09% 2.07%
Return on average equity................... 14.50 15.29 16.01 15.50 14.37
Return on average adjusted
equity(5)................................ 15.65 16.96 18.47 18.30 17.29
Allowance for losses to net finance
receivables.............................. 3.15 3.39 3.55 3.37 3.18
Allowance for losses to net credit
losses(6)................................ 1.52x 1.67x 1.56x 1.78x 2.04x
Number of employees.......................... 31,146 27,162 21,368 18,600 16,382
Number of branch offices
Domestic................................... 1,442 1,446 1,539 1,624 1,542
International.............................. 1,293 1,044 697 499 404
--------- --------- --------- --------- ---------
Total............................... 2,735 2,490 2,236 2,123 1,946
========= ========= ========= ========= =========
</TABLE>
---------------
(1) Includes current portion of long-term debt.
(2) The 1999 return on asset and equity ratios were calculated assuming the
January 6, 1999 Avco acquisition and subsequent contribution to the Company
occurred on December 31, 1998.
(3) Calculated net of short-term investments.
(4) Tangible equity is defined as stockholders' equity minus goodwill as set
forth in Note 9 to the consolidated financial statements. In July 1999,
First Capital issued a $500 million capital security and on a proforma
basis, after assuming that First Capital would contribute the proceeds from
the $500 million issuance to the Company, the total debt to tangible equity
would have been 5.4 to 1 at December 31, 1999.
(5) Excludes the push-down goodwill created by Ford's acquisition of foreign
affiliates of the Company in 1989.
(6) Calculated as a ratio of the allowance for losses to related trailing or
annualized net credit losses on receivables owned at the end of the period
(as adjusted to exclude net credit losses related to securitized receivables
and to reflect the impact of significant acquisitions).
(7) Immediately following the contribution of the Contributed Entities, ACONA
declared a dividend to First Capital in the amount of approximately $3.0
billion. On a proforma basis, after giving effect to the dividend, ACONA's
debt equity ratio would have been 5.4 to 1 at December 31, 1999. ACONA's
debt to tangible equity ratio would have been 8.2 to 1 at December 31, 1999.
22
<PAGE> 23
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
GENERAL
The Company is a leading diversified finance organization providing
finance, leasing, insurance and related services to consumers and businesses in
the United States and internationally. The Company's revenues principally
consist of finance charge income and, to a lesser extent, insurance premiums and
investment income, servicing related income and other fee income. The Company's
primary expenses are interest expense from the funding of its finance business,
provision for loan losses and operating expenses. A principal factor determining
the profitability of the Company is finance charge revenue less interest expense
("net interest margin").
On December 31, 1999, First Capital contributed its wholly-owned
subsidiary, Associates World Capital Corporation ("AWCC"), to the Company. AWCC,
through its principal operating subsidiary, Associates First Capital B.V.,
issues unsecured debt and commercial paper which is used to fund certain
international consumer and commercial finance operations.
On August 30, 2000, First Capital contributed several of its wholly-owned
subsidiaries to the Company. The subsidiaries include ACONA B.V., AIC Associates
Canada Holdings, Inc., Associates Capital Corporation of Canada, Associates
Credit Card Services, Inc., Associates International Holdings Corporation, Avco
Financial Services Limited, The Northland Company and several other less
significant subsidiaries collectively referred to hereafter as "Contributed
Entities". The Contributed Entities are a group of diversified financial
services companies providing finance, leasing, insurance and related services to
individual consumers and businesses in the United States and international
markets, primarily Japan, Canada and the United Kingdom. The contribution as
described herein returns ACONA to its former legal structure while solidifying
First Capital's global funding presence under ACONA. Further, management
believes the contribution of the Contributed Entities will enhance ACONA's
liquidity, access and execution in the global capital markets. The revenues,
pre-tax earnings and stockholders' equity of the Contributed Entities were
approximately $4.7 billion, $1.1 billion and $3.9 billion, respectively, as of
and for the year ended December 31, 1999. The consolidated financial statements
of the Company have been restated retroactively to reflect the results of these
contributions in a manner similar to a pooling-of-interests in accordance with
generally accepted accounting principles, and are filed as exhibits to this Form
8-K. Upon consummation of these contributions, these restated financial
statements became the historical consolidated financial statements of the
Company, and such related financial statements modify and supercede the
consolidated financial statements and related financial information and other
disclosures of ACONA contained in its Form 10-K for the year ended December 31,
1999 and its Form 10-Q for the six months ended June 30, 2000. The contribution
of the Contributed Entities to the Company increased revenues by $4.3 billion,
$2.0 billion and $1.0 billion for the year ended December 31, 1999, 1998 and
1997, respectively, and increased net earnings by $742.2 million, $337.1 million
and $213.3 million in 1999, 1998 and 1997, respectively.
In addition, First Capital intends to assign to ACONA certain of its
outstanding foreign currency forward exchange contracts or to enter into
corresponding intercompany agreements with ACONA for such contracts, as well as
for any foreign denominated debt issued by First Capital, all of which are
designated as hedges of its net investment in one of the foreign currency
denominated Contributed Entities. The financial statements of ACONA contained in
this Form 8-K have been restated to reflect the effects of such hedging
instruments for all periods presented, as if such instruments had been
contributed to ACONA in conjunction with the Contributed Entities.
In order to more clearly define the names of the participants of the
transaction, unless the context otherwise requires, (i) "ACONA" or the "Company"
refers to Associates Corporation of North America and its consolidated
subsidiaries after giving effect to the contribution of the Contributed
Entities, (ii) "First Capital" refers to Associates First Capital Corporation
and its consolidated subsidiaries, and (iii) "Contributed Entities" refers to
the entities contributed to ACONA on August 30, 2000, as defined above.
For internal reporting purposes, the Company is managed as an integral
component of First Capital. Under its present financial reporting structure, the
Company does not report performance measures to the
23
<PAGE> 24
chief operating decision-maker based on a segment organization. Pursuant to the
provisions of SFAS 131, no segment disclosures are required because the Company
is not managed on a segment basis. See Note 2 to the consolidated financial
statements.
The following discussion and analysis provides information that management
believes to be relevant to understanding the Company's consolidated financial
condition and results of operations. This discussion should be read in
conjunction with the consolidated financial statements of the Company and the
related notes thereto.
MANAGED BASIS REPORTING
The discussion that follows includes amounts reported in the historical
financial statements ("Owned Basis") adjusted on a pro forma basis to include
certain effects of receivables held for securitization and receivables sold with
servicing retained ("Managed Basis"). Previously, the Company discussed the
results of operations on an Owned Basis; however, management believes the
discussion of proforma Managed Basis information is useful in evaluating the
Company's operating performance due to increased securitization activity during
1999. Prior period amounts have been restated to reflect the current period
presentation. On an Owned Basis, the net earnings on the Company's retained
securitization interests and receivables held for securitization or sale, as
well as gains from subsequent sales in revolving securitization structures, are
included in servicing related income in the consolidated statement of earnings.
On a proforma Managed Basis, these earnings are reclassified and presented as if
the receivables had neither been held for securitization nor sold. The initial
gains recorded on securitization transactions are recorded in investment and
other income on both an Owned and Managed Basis.
The following table contains selected pro forma Managed Basis financial
information (in millions):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
---------------------------------
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Finance charges..................................... $10,734.5 $ 8,452.4 $ 7,426.0
Insurance premiums.................................. 1,047.1 471.5 420.7
Investment and other income......................... 914.9 628.9 286.6
--------- --------- ---------
Total revenue..................................... 12,696.5 9,552.8 8,133.3
--------- --------- ---------
Interest expense.................................... 3,624.6 3,147.8 2,682.4
Operating expenses.................................. 3,655.5 2,607.6 2,200.9
Provision for losses................................ 2,038.2 1,570.3 1,348.1
Insurance benefits paid or provided................. 447.0 158.1 145.7
--------- --------- ---------
Total expenses.................................... 9,765.3 7,483.8 6,377.1
--------- --------- ---------
Earnings before provision for income taxes.......... 2,931.2 2069.0 1,756.2
Provision for income taxes.......................... 1,084.5 757.7 644.8
--------- --------- ---------
Net earnings........................................ $ 1,846.7 $ 1,311.3 $ 1,111.4
========= ========= =========
Net Finance Receivables
End of period..................................... $77,139.3 $63,030.5 $52,861.0
Average........................................... $73,301.0 $57,945.8 $49,297.8
Total Assets
End of period..................................... $86,944.3 $73,748.9 $56,586.1
Average........................................... $84,263.8 $66,880.7 $53,180.4
</TABLE>
24
<PAGE> 25
RESULTS OF OPERATIONS
Summary of Results of Operations
The following table summarizes the Company's earnings and related data on
an Owned and Managed Basis (dollars in millions):
EARNINGS AND RELATED DATA
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
------------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Earnings before provision for income taxes............. $2,931.2 $2,069.0 $1,756.2
Net earnings........................................... 1,846.7 1,311.3 1,111.4
Change in net earnings
Amount............................................... $ 535.4 $ 199.9 $ 161.1
Percent.............................................. 40.8% 18.0% 17.0%
Return on average
Managed assets....................................... 2.19% 1.96% 2.09%
Equity............................................... 14.50 15.29 16.01
Adjusted equity(1)................................... 15.65 16.96 18.47
</TABLE>
---------------
(1) Excludes the push-down goodwill created by Ford's acquisition of foreign
affiliates of the Company in 1989.
Earnings before provision for income taxes and net earnings increased in
each of the years ended December 31, 1999, 1998 and 1997. The principal factors
that influenced the changes in the Company's net earnings are described in the
sections that follow.
Management believes that the overall business factors and trends affecting
the profitability of the foreign subsidiaries are primarily the same as those
affecting the Company taken as a whole. See also the discussion of the impact of
foreign currency and regulatory related risks in the "-- Market Risk" section,
the discussion in the "-- Competition" and "-- Regulation" sections and in Note
17 to the consolidated financial statements.
Net Interest Margin -- Managed Basis
The Company's Managed Basis net interest margin was as follows (dollars in
millions):
NET INTEREST MARGIN -- MANAGED BASIS(1)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
-----------------------------------------------------------------
1999 1998 1997
------------------- ------------------- -------------------
AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT
-------- ------- -------- ------- -------- -------
<S> <C> <C> <C> <C> <C> <C>
Net Interest Margin...... $7,109.9 9.70% $5,304.6 9.15% $4,743.6 9.62%
</TABLE>
---------------
(1) Net interest margin is expressed as a percentage of average managed
receivables ("AMR") outstanding for the indicated period.
The Company's total Managed Basis net interest margin increased on a dollar
basis from 1997 to 1999, primarily due to growth in average managed finance
receivables. The 1999 acquisition and contribution of Avco and the 1998
contribution of Associates Commerce Solutions, Inc. ("ACS") (formerly SPS
Payment Systems, Inc.) and acquisitions of DIC Finance Co., Ltd. and Beneficial
Canada Holdings, Inc. ("Beneficial Canada") contributed to the growth. Managed
Basis net interest margin expressed as a percentage of average managed
receivables outstanding ("net interest margin ratio") during 1999 increased
primarily due to a slight shift in product mix toward more unsecured
receivables. Unsecured receivables generally have a higher net interest margin
than secured finance products.
25
<PAGE> 26
Finance Charges -- Managed Basis
The Company's Managed Basis finance charge revenue and yield were as
follows (dollars in millions):
FINANCE CHARGES -- MANAGED BASIS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
---------------------------------
1999 1998 1997
--------- -------- --------
<S> <C> <C> <C>
Finance Charge Revenue.............................. $10,734.5 $8,452.4 $7,426.0
Yield(1)............................................ 14.64% 14.59% 15.06%
</TABLE>
---------------
(1) Finance charge revenue is expressed as a percentage of AMR outstanding for
the indicated period.
Finance charge revenue increased, on a dollar basis, primarily due to the
growth in the average managed finance receivables during each period. The
principal factors which influence the trend of finance charge yields are (i) the
composition of the finance receivable portfolios (i.e., "product mix"); (ii) the
interest rate environment; and (iii) the level of business competition. A
changing interest rate environment, changes in product mix and increased
competition were the primary causes of the movements in finance charge yield
from 1997 to 1999.
Interest Expense -- Managed Basis
Total dollars of Managed Basis interest expense increased in each of the
three years ended 1999. In each year, the increase was principally due to higher
average outstanding managed debt as a result of the Company's growth in managed
finance receivables. The increase in Managed Basis interest expense as a result
of growth in 1999 and 1998 was partially offset by a decline in the Company's
average borrowing rate in each period.
Insurance Premium Revenue
Insurance premium revenue was $1,047.1 million, $471.5 million, and $420.7
million for the years ended December 31, 1999, 1998 and 1997, respectively.
Insurance premium revenue, which is earned over the coverage term, increased
$575.6 million (122.1%) in 1999, $50.8 million (12.1%) in 1998, and $18.9
million (4.7%) in 1997. The insurance operation is engaged in underwriting
credit-related and other specialized insurance products. A significant portion
of insurance sales, and resulting revenue, are largely dependent on finance
business activities and volume. The increase in insurance revenue in each of the
years was principally caused by increased sales of insurance products associated
with the increase in managed receivables outstanding, the December 1998
acquisition of The Northland Company and the January 1999 acquisition of the
insurance operations of Avco Financial Services, Inc. See Note 3 to the
consolidated financial statements for more information about these acquisitions.
Investment and Other Income -- Managed Basis
Managed Basis investment and other income for the years ended December 31,
1999, 1998 and 1997 was $914.9 million, $628.9 million and $286.6 million,
respectively. Managed Basis investment and other income primarily is derived
from income on notes due from related parties, fee-based businesses, such as
employee relocation services, emergency roadside assistance and auto club
services, real estate title and appraisal fees, trailer rental income, portfolio
income and investment gains and losses. Gains and losses on asset securitization
transactions and on sales and dispositions of assets held for sale are also
included in investment and other income.
The increase in investment and other income in 1999 was primarily due to
(i) increased investment income of approximately $100 million on the insurance
portfolios principally due to the Northland and Avco acquisitions, (ii) net
gains of approximately $75 million on the securitization and sale of receivables
during 1999 and (iii) growth in the Company's fee based businesses. The net
operating results of business units and
26
<PAGE> 27
branches held for sale were recorded in investment and other income. No such
businesses were held for sale during 1998 or 1997. See Notes 3 and 6 to the
consolidated financial statements.
The increase in investment and other income from 1997 to 1998 was
principally due to higher investment income from the growth in the Company's
investment portfolio and growth in fee-based businesses.
Operating Expenses
Operating expenses, on an Owned and Managed Basis, were as follows (dollars
in millions):
OPERATING EXPENSES
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
-----------------------------------------------------------
1999 1998 1997
----------------- ----------------- -----------------
AMOUNT % AMR AMOUNT % AMR AMOUNT % AMR
-------- ----- -------- ----- -------- -----
<S> <C> <C> <C> <C> <C> <C>
Salaries and Benefits... $1,634.9 2.23% $1,236.4 2.13% $1,091.6 2.21%
Occupancy and
Supplies.............. 260.6 0.36 197.0 0.34 157.6 0.32
Data Processing and
Communications........ 269.5 0.37 200.3 0.35 174.9 0.36
Other................... 1,490.5 2.03 973.9 1.68 776.8 1.57
-------- ---- -------- ---- -------- ----
Total......... $3,655.5 4.99% $2,607.6 4.50% $2,200.9 4.46%
======== ==== ======== ==== ======== ====
Managed Basis Efficiency
Ratio................. 42.4% 41.7% 41.5%
==== ==== ====
</TABLE>
Total operating expenses on a dollar basis increased from 1997 to 1999,
principally due to increased levels of business volume and outstanding
receivables due primarily to acquisitions in each of the years. As a percentage
of average managed receivables, total operating expenses increased from 1997 to
1999. In addition, the Company's total Managed Basis operating efficiency, as
measured by the ratio of total operating expenses to Managed Basis revenues net
of Managed Basis interest expense and insurance benefits paid or provided (the
"Efficiency Ratio") increased slightly from 1997 to 1999. The increase in other
expenses in 1999 included an increase of approximately $121 million of goodwill
and other intangible asset amortization and approximately $89 million in new
business expense. Furthermore, a slight shift in business mix toward more fee
based business caused by the acquisitions of The Northland Company and ACS
during the fourth quarter of 1998 also contributed to the overall increase.
Allowance for Losses -- Owned Basis
The Company maintains an allowance for losses on finance receivables at an
amount that it believes is sufficient to provide for losses in its existing
receivables portfolios. The allowance is determined principally on the basis of
historical loss experience, and reflects management's judgment of the present
loss exposure at the end of the period considering economic conditions and the
nature and characteristics of the underlying finance receivables. The Company
records an allowance for losses when it believes the event causing the loss has
occurred. The allowance is evaluated on an aggregate basis considering, among
other things, the relationship of the allowance to net finance receivables and
historical net credit losses. Additions to the allowance are generally charged
to the provision for losses on finance receivables.
Finance receivables are charged to the allowance for losses when they are
deemed to be uncollectible. As set forth below, the Company's policy generally
provides for charge-off of various types of accounts on a contractual basis.
Consumer direct and other installment and credit card receivables are charged to
the allowance for losses when they become 180 days contractually delinquent. All
other finance receivables are charged to the allowance for losses when any of
the following conditions occur: (i) the related security has been converted or
destroyed; (ii) the related security has been repossessed and sold or held for
sale for one year; or (iii) the related security has not been repossessed and
the receivable has become contractually delinquent for one year. A contractually
delinquent account is one on which the customer has not made
27
<PAGE> 28
payments as contractually agreed. Finance charge accruals are suspended when
they become 60 days contractually delinquent. The accrual is resumed when the
loan becomes contractually current. Recoveries on losses previously charged to
the allowance are credited to the allowance at the time recovery is collected.
At December 31, 1999 and 1998, net finance receivables on which revenue was not
being accrued approximated $1.8 billion and $1.3 billion, respectively. The
interest income that would have been recorded if these nonaccruing receivables
had been current was approximately $48 million in 1999 and $34 million in 1998.
The components of the changes in the allowance for losses were as follows
(dollars in millions):
COMPONENTS OF CHANGES IN THE ALLOWANCE FOR LOSSES
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
---------------------------------
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Balance at Beginning of Period....................... $ 1,891.2 $ 1,871.8 $ 1,543.1
Provision for losses............................... 1,375.6 1,227.6 1,348.1
Recoveries on receivables charged off.............. 240.2 221.2 220.8
Losses sustained................................... (1,593.1) (1,352.1) (1,419.6)
--------- --------- ---------
Net credit loss experience...................... (1,352.9) (1,130.9) (1,198.8)
--------- --------- ---------
Reserves of receivables sold or held for
securitization(1)............................... (187.2) (359.4) --
Reserves of acquired businesses and other.......... 327.9 282.1 179.4
--------- --------- ---------
Balance at End of Period............................. $ 2,054.6 $ 1,891.2 $ 1,871.8
========= ========= =========
Allowance for Losses to Net Finance Receivables...... 3.15% 3.39% 3.55%
Loss Coverage Ratio(2)............................... 1.52x 1.67x 1.56x
</TABLE>
---------------
(1) The reserves related to receivables sold during 1997 were not significant.
(2) Calculated as a ratio of the allowance for losses to related trailing or
annualized net credit losses on receivables owned at the end of the period
(as adjusted to exclude net credit losses related to securitized receivables
and to reflect the impact of significant acquisitions).
The allowance for losses as a percent of net finance receivables declined
in both 1999 and 1998, principally due to the securitization and sale of credit
card receivables. The 1999 and 1998 securitization transactions described in
Note 6 to the consolidated financial statements contributed to a general shift
in product mix on an Owned Basis from 1997 to 1999 towards more secured
portfolios. Secured portfolios generally have lower loss rates and therefore
lower allowance requirements than unsecured portfolios.
Management believes the allowance for losses at December 31, 1999 is
sufficient to provide for losses in its portfolios. Although the allowance for
losses on finance receivables reflected in the Company's consolidated balance
sheet at December 31, 1999 is considered adequate by management, there can be no
assurance that this allowance will prove to be adequate over time to cover
ultimate losses in connection with the Company's finance receivables. This
allowance may prove to be inadequate due to unanticipated adverse changes in the
economy or discrete events adversely affecting specific customers or industries.
The Company's results of operations and financial condition could be materially
adversely affected to the extent that the Company's allowance is insufficient to
cover such changes or events.
28
<PAGE> 29
Net Credit Losses and Contractual Delinquency
The Company's ongoing Managed Basis 60+ days contractual delinquency and
ongoing Managed Basis net credit losses, which excludes the Company's
manufactured housing finance receivables, net credit losses and 60+ days
contractual delinquencies, as a percentage of ongoing average managed
receivables for each of these years are set forth in the following table
(dollars in millions):
MANAGED BASIS CONTRACTUAL DELINQUENCY AND NET CREDIT LOSSES
<TABLE>
<CAPTION>
YEAR ENDED OR AT DECEMBER 31
------------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
60+ Days Contractual Delinquency(1)
Consumer finance products............................ 3.63% 3.45% 2.91%
Commercial finance products.......................... 1.06 0.96 0.89
Total............................................. 2.83% 2.66% 2.22%
Total dollars delinquent.......................... $2,318.2 $1,778.3 $1,258.2
Net Credit Losses to AMR
Consumer finance products............................ 3.64% 3.55% 3.51%
Commercial finance products.......................... 0.56 0.35 0.27
Total............................................. 2.75% 2.54% 2.45%
Total dollars..................................... $2,014.2 $1,473.0 $1,190.7
</TABLE>
---------------
(1) As a percentage of gross managed receivables.
Managed basis contractual delinquencies and net credit losses on a dollar
basis increased in 1999 and 1998 primarily as a result of the growth in finance
receivables. Consumer finance products managed basis contractual delinquencies
and net credit losses to AMR increased in each comparable period primarily as a
result of the 1999 acquisition of Avco and the 1998 acquisitions of Beneficial
Canada, DIC Finance Co. Ltd. and ACS. These acquisitions resulted in a shift in
the product mix toward more unsecured portfolios which typically have higher
losses than secured portfolios. In addition, the home equity portfolio
experienced higher delinquency and loss levels from 1997 to 1999. Rising
bankruptcy levels also contributed to the increase in 1998 consumer losses.
Commercial delinquency and net credit loss levels increased in 1999 and 1998
primarily due to higher losses in the truck and truck trailer receivable
portfolios.
Insurance Benefits Paid or Provided
Insurance benefits paid or provided were $447.0 million in 1999, $158.1
million in 1998 and $145.7 million in 1997. Benefits paid or provided are
influenced by the amount of insurance in force, underwriting standards, loss
experience, term of coverage and product mix. Benefits paid or provided
increased in 1999 as compared to 1998 and 1997, primarily as a result of more
insurance in force resulting from the acquisitions of Northland in December 1998
and Avco in January 1999.
29
<PAGE> 30
Provision for Income Taxes
The Company's provision for income taxes and effective tax rates were as
follows (dollars in millions):
PROVISION FOR INCOME TAXES
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
--------------------------------------------------------------
1999 1998 1997
-------------------- ------------------ ------------------
EFFECTIVE EFFECTIVE EFFECTIVE
TAX TAX TAX
AMOUNT RATE AMOUNT RATE AMOUNT RATE
-------- --------- ------ --------- ------ ---------
<S> <C> <C> <C> <C> <C> <C>
U.S. statutory rate............ $1,025.9 35.0% $724.2 35.0% $614.7 35.0%
State income taxes........... 25.6 0.9 20.7 1.0 22.3 1.3
Non-deductible goodwill...... 25.6 0.9 15.5 0.7 10.1 0.6
Other........................ 7.4 0.2 (2.7) (0.1) (2.3) (0.2)
-------- ---- ------ ---- ------ ----
Provision for income taxes..... $1,084.5 37.0% $757.7 36.6% $644.8 36.7%
======== ==== ====== ==== ====== ====
</TABLE>
The effective tax rate decreased in 1998 principally due to an increase in
the utilization of foreign tax credits available to the Company. The available
foreign tax credits primarily related to estimated taxes paid or accrued by the
Company on its Japan-based earnings. In addition, the Company was allocated
foreign tax credits under a tax sharing agreement with Ford in 1998 and 1997.
The effective tax rate increase in 1999 compared to 1998 and 1997 is due to
an increase in non-deductible goodwill due primarily to the 1998 acquisitions of
the stock of Beneficial Canada and Northland.
The reduction in the effective state income tax rate in 1999 compared to
1998 and 1997 is attributable to an increase in foreign earnings as a percentage
of total Company earnings.
FINANCIAL CONDITION
Growth in Managed Finance Receivables
The Company experienced growth in managed finance receivables in 1999 and
1998 as follows (dollars in millions):
GROWTH IN MANAGED FINANCE RECEIVABLES
<TABLE>
<CAPTION>
YEAR ENDED OR AT
DECEMBER 31
---------------------
1999 1998
--------- ---------
<S> <C> <C>
Managed finance receivables................................. $77,139.3 $63,030.5
Increase.................................................... 14,108.8 10,169.5
% change.................................................... 22.4% 19.2%
</TABLE>
The growth in managed receivables was primarily due to the January 6, 1999
acquisition of Avco. Internal managed receivable growth for 1999, adjusted for
announced acquisitions and dispositions, represents 50% of the total year over
year growth. Had the Avco acquisition closed at the end of 1998, internal
managed receivable growth, adjusted for announced acquisitions and dispositions
in 1999, would have been approximately 93% of the annual growth.
Debt
Total outstanding debt was $57.6 billion and $57.0 billion at December 31,
1999 and 1998, respectively. Such amounts of debt reflect net increases of $0.6
billion (1.1%) in 1999 and $9.9 billion (21.0%) in 1998. In both years, the
increase was primarily a result of the internal growth in net finance
receivables and funding of acquisitions. At December 31, 1999 and December 31,
1998, short-term debt, including the current portion of
30
<PAGE> 31
long-term debt, as a percent of total debt was 44% and 49%, respectively. The
current portion of long-term debt at December 31, 1999 and 1998 was $8.0 billion
and $7.5 billion, respectively.
Stockholders' Equity
Stockholder's equity increased to $13.4 billion in 1999 from $9.7 billion
in 1998. On December 31, 1999, First Capital contributed AWCC to the Company in
a transaction that was accounted for in a manner similar to a pooling of
interests. On August 30, 2000, First Capital contributed certain of its'
subsidiaries ("Contributed Entities" -- see Note 1 to the consolidated financial
statements for information on the contribution) to the Company in a transaction
that was accounted for in a manner similar to a pooling of interests.
Accordingly, the consolidated statement of changes in stockholder's equity has
been restated in prior years to reflect these transactions as if they occurred
on the earliest date presented. In each year, the increase in stockholders'
equity was the result of net earnings during the period, a $2.5 billion capital
contribution of certain Avco assets in 1999, a $1.0 billion capital contribution
of certain assets of ACS and the Northland Company in the fourth quarter of 1998
(see Note 3 to the consolidated financial statements), and cash contributions
from First Capital. This was partially offset by dividends. Stockholders' equity
was also adjusted in 1999 and 1998 by net unrealized losses of $80.6 million and
$14.2 million, respectively, related to investments in available-for-sale
securities, and by unrealized gains (losses) of $27.7 million and $(51.1)
million in 1999 and 1998, respectively, related to foreign exchange adjustments.
Liquidity/Capital Resources
Through its asset and liability management function, the Company maintains
a disciplined approach to the management of liquidity, capital, interest rate
risk and foreign exchange rate risk. The Company has a formal process for
managing its liquidity to ensure that funds are available at all times to meet
the Company's commitments.
The Company's principal sources of cash are proceeds from the issuance of
short and long-term debt, cash provided from the Company's operations and asset
securitizations. Management believes the Company has available sufficient
liquidity, from a combination of cash provided from operations, external
borrowings and asset securitizations to support its operations.
A principal strength of the Company is its ability to access the global
debt and capital markets in a cost-efficient manner. Continued access to the
public and private debt markets is critical to the Company's ability to continue
to fund its operations. The Company seeks to maintain a conservative liquidity
position and actively manages its liability and capital levels, debt maturities,
diversification of funding sources and asset liquidity to ensure that it is able
to meet its obligations as they mature. The Company's domestic operations are
principally funded through domestic and international borrowings and asset
securitizations. The Company's foreign subsidiaries are principally funded
through private and public debt borrowings in the transactional currency and
fully hedged intercompany borrowings.
At December 31, 1999 and 1998, the Company had short- and long-term debt
outstanding of $57.6 billion and $57.0 billion, respectively. Short-term debt
principally consists of commercial paper and represents the Company's primary
source of short-term liquidity. Long-term debt principally consists of senior
unsecured long-term debt issued publicly and privately in the United States and
abroad, and to a lesser extent, private and public borrowings made by the
Company's foreign subsidiaries. During the years ended December 31, 1999 and
1998, the Company raised term debt aggregating $10.0 billion and $12.8 billion,
respectively, through public and private offerings.
Substantial additional liquidity is available to the Company's operations
through established credit facilities in support of its net short-term
borrowings. Such credit facilities provide a means of refinancing its maturing
short-term obligations as needed. At December 31, 1999, these credit facilities
were allocated to provide at least 75% coverage of the Company's recurring
commercial paper borrowings and utilized uncommitted lines of credit. See Note
10 to the consolidated financial statements.
31
<PAGE> 32
In addition, the Company has access to other sources of liquidity such as
asset securitization. The Company's securitization transactions as of December
31, 1999 have included the home equity and credit card asset-backed classes. The
Company has additional asset classes in its portfolio which can be securitized,
including asset classes within its foreign operations.
The Company has entered into various support agreements on behalf of its
foreign subsidiaries. Under these support agreements, the Company has either
guaranteed specific issues of such subsidiaries' debt or agreed to supervise
operations in a responsible manner and to provide additional support on a
lender's reasonable request. See Notes 10, 11, and 17 to the consolidated
financial statements for a further description of these borrowings and currency
hedging activities.
The Company has entered into agreements with certain debt and asset backed
security holders which may require the Company to purchase such securities. See
Notes 12 and 16 to the consolidated financial statements. Management believes it
has sufficient liquidity to support these requirements.
First Capital is dependent upon the operations of the Company to provide
for its debt service. As of December 31, 1999, First Capital's consolidated debt
obligations consisted of unsecured short-term notes payable of $27.3 billion and
long-term debt of $41.4 billion. These amounts include the Company's unsecured
short-term notes payable of $17.6 billion and long-term debt of $40.0 billion.
As First Capital has only limited operations separate from the Company, its
incremental debt obligations will be serviced primarily through dividends from
the Company.
YEAR 2000 COMPLIANCE
The inability of computers, software and other equipment utilizing
microprocessors to recognize and properly process date fields containing a
2-digit year is commonly referred to as the Year 2000 Compliance issue.
The Company had a company-wide initiative that addressed the Year 2000
Compliance issue. A team of technology professionals began addressing the Year
2000 Compliance issue in 1995. Since then, all significant third party and
internal applications that required modification to ensure Year 2000 Compliance
have been identified and addressed.
The transition from 1999 to 2000 was closely monitored to assure any
unforeseen problems were quickly resolved. Additionally, the Company continued
to monitor through the first quarter of 2000 to quickly identify and resolve any
problems. No significant Year 2000 Compliance related problems were identified.
RECENT ACCOUNTING PRONOUNCEMENTS
Statement of Financial Accounting Standards No. 133 ("SFAS 133"),
Accounting for Derivative Instruments and Hedging Activities, was issued by the
Financial Accounting Standards Board in June 1998. This Statement requires
companies to record derivatives on the balance sheet as assets or liabilities,
measured at fair value. Generally, changes in the fair value of derivatives must
be recognized in income when they occur, except when the derivative qualifies as
a hedge in accordance with the standard. This statement will be effective for
the Company beginning January 1, 2001. In June 2000, the Financial Accounting
Standards Board issued Statement of Financial Accounting Standards No. 138
("SFAS 138"). This Statement, which is an amendment to SFAS 133, addresses a
limited number of issues causing implementation difficulties for numerous
entities that have applied SFAS 133. Subsequent to evaluating the impact of the
amendment, the Company has completed the process of evaluating various
strategies which management believes will qualify for hedge accounting treatment
under SFAS 133. During the remainder of the year, the Company will transition to
these new strategies and information systems as necessary in order to be fully
compliant prior to January 1, 2001. It is not anticipated that the adoption of
SFAS 133 will cause a material impact on the Company's operating results.
32
<PAGE> 33
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The risk management discussion and the estimated amounts generated from the
analysis that follows are forward-looking statements of market risk assuming
certain adverse market conditions occur. Actual results in the future may differ
materially from these projected results due to changes in the Company's product
and debt mix and developments in the global financial markets. The analytical
methods used by the Company to assess and mitigate these risks should not be
considered projections of future events or operating performance.
The Company is exposed to a variety of market risks, including the effects
of movements in interest rates and foreign currency. Interest rate and foreign
exchange rate exposures are monitored and managed by the Company as an integral
part of its overall risk management program. The principal goal of the Company's
risk management program is to reduce the potential impact of interest rate and
foreign exchange exposures on the Company's financial position and operating
performance. The Company utilizes derivative instruments, including foreign
currency forward exchange agreements and currency swaps as well as interest rate
swap and treasury lock agreements, as part of its overall risk management
program. See Notes 1, 2 and 17 to the consolidated financial statements for a
further discussion of the Company's use of derivative financial instruments. The
Company also believes that its overall balance sheet structure has repricing and
cash flow characteristics that mitigate the impact of long-term interest rate
movements.
Interest Rate Risk -- Managed Basis
Beginning in 1999, the Company began measuring interest rate risk on a
Managed Basis including both on- and off-balance sheet assets and liabilities.
Accordingly, certain prior period interest rate risk measures have been restated
to conform to the current year presentation. Interest rate risk is measured and
controlled through the use of static gap analysis and financial forecasting,
both of which incorporate assumptions about future events. The Company's gap
position is defined as the sum of floating rate asset balances and scheduled
principal payments on fixed rate assets, less the sum of floating rate liability
balances and scheduled principal payments on fixed rate liabilities, all on a
Managed Basis. The Company measures its gap position at various time horizons,
ranging from three months to five years. At December 31, 1999, 1998 and 1997,
the one-year gap was a positive 5%, 6% and 8%, respectively. A positive one year
gap indicates that a greater percentage of assets than liabilities will reprice
within a one-year time frame.
The Company also uses a simulation model to evaluate the impact on earnings
under a variety of scenarios. These scenarios may include a change in the
absolute level of interest rates, prepayments, interest rate spread
relationships, loan rates and floors, state and national usury ceilings, and
changes in the volumes and rates of various managed asset and liability
categories. For an immediate 1% increase in rates, projected annual after-tax
earnings on managed assets would have increased by less than 1% at both December
31, 1999 and 1998, and would have had minimal effect at December 31, 1997. An
immediate 1% rise in interest rates is a hypothetical rate scenario, used to
calibrate risk, and does not currently represent the Company's view of future
market developments.
For purposes of the United States Securities and Exchange Commission
disclosure requirements, the Company has also performed an enterprise-wide value
at risk ("VAR") analysis of the Company's Managed assets and liabilities and
their exposure to changes in interest rates. The VAR was calculated using an
historical simulation risk model to calculate changes in earnings due to changes
in interest rates on all significant on- and off-balance sheet exposures on a
Managed Basis. The simulation generates monthly interest rate scenarios over a
forecast horizon of 12 months. The VAR analysis calculates the potential after-
tax earnings at risk associated with changes in interest rates, with a 95%
confidence level (as required under applicable United States Securities and
Exchange Commission rules) over this forward 12-month period. The model assumes
interest rates are normally distributed and draws volatilities from various
market sources. At December 31, 1999, 1998 and 1997, interest rate movements
would reduce annual after-tax earnings by approximately $19 million, $19 million
and $11 million, respectively, as calculated under the VAR methodology. This
interest rate VAR averaged $16 million in 1999 and $18 million in 1998.
33
<PAGE> 34
Foreign Currency Risk
The Company is exposed to foreign currency risk from changes in the value
of underlying assets and liabilities of its non-United States dollar denominated
foreign investments. The Company has employed a variety of risk management tools
such as borrowing and lending in local currencies, converting offshore funding
to US Dollars, as well as using derivative instruments to hedge its investment
in foreign subsidiaries. The Company has also performed a VAR analysis on the
Company's exposure to changes in foreign currency exchange rates. The VAR is
calculated using an historical simulation model to calculate changes in earnings
from foreign currency risk on all significant on and off-balance sheet
exposures. The simulation generates foreign currency exchange rate scenarios and
volatilities over a 12-month horizon and calculates the potential after-tax
earnings at risk associated with foreign currency fluctuations, with a 95%
confidence level (as required under applicable United States Securities and
Exchange Commission rules). The model assumes currency prices are normally
distributed and draws volatility and cross currency correlation data from JP
Morgan Risk Metrics(TM) for the Company's three material currency exposures,
Japanese Yen, Canadian Dollars and British Pounds Sterling. At December 31, 1999
and 1998 currency volatility would increase annual after-tax earnings by
approximately $4 million and $11 million, respectively, and decrease annual
after-tax earnings by $4 million at December 31, 1997, as calculated under the
VAR methodology. This currency rate VAR averaged $1 million in 1999 and $4
million in 1998.
The Company utilizes a wide variety of risk management methods, including
those discussed above, and believes that no single risk model provides a
reliable method of monitoring and controlling risk. While these models are
sophisticated, the quantitative risk information generated is limited by the
models' parameters. Therefore, such models do not substitute for the experience
or judgment of management to adjust positions and revise strategies as deemed
necessary.
34
<PAGE> 35
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
- Report of Independent Auditors
- Consolidated Statement of Earnings for the years ended December 31, 1999,
1998 and 1997
- Consolidated Balance Sheet at December 31, 1999 and 1998
- Consolidated Statement of Changes in Stockholders' Equity for the years
ended December 31, 1999, 1998 and 1997
- Consolidated Statement of Cash Flows for the years ended December 31,
1999, 1998 and 1997
- Notes to Consolidated Financial Statements
35
<PAGE> 36
REPORT OF INDEPENDENT AUDITORS
Board of Directors
Associates Corporation of North America
We have audited the accompanying consolidated balance sheet of Associates
Corporation of North America (a wholly-owned subsidiary of Associates First
Capital Corporation) as of December 31, 1999 and 1998, and the related
consolidated statements of earnings, changes in stockholders' equity, and cash
flows for each of the three years in the period ended December 31, 1999. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. 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 consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Associates Corporation of North America as of December 31, 1999 and 1998, and
the consolidated results of its operations and its cash flows for each of the
three years in the period ended December 31, 1999, in conformity with accounting
principles generally accepted in the United States.
/s/ ERNST & YOUNG LLP
Dallas, Texas
August 31, 2000
36
<PAGE> 37
ASSOCIATES CORPORATION OF NORTH AMERICA
CONSOLIDATED STATEMENT OF EARNINGS
(IN MILLIONS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
-------------------------------
1999 1998 1997
--------- -------- --------
<S> <C> <C> <C>
REVENUE
Finance charges........................................... $ 8,672.1 $7,416.9 $7,426.0
Servicing related income.................................. 1,171.9 592.2 --
Insurance premiums........................................ 1,047.1 471.5 420.7
Investment and other income............................... 914.9 628.9 286.6
--------- -------- --------
11,806.0 9,109.5 8,133.3
EXPENSES
Interest expense.......................................... 3,396.7 3,047.2 2,682.4
Operating expenses........................................ 3,655.5 2,607.6 2,200.9
Provision for losses on finance receivables............... 1,375.6 1,227.6 1,348.1
Insurance benefits paid or provided....................... 447.0 158.1 145.7
--------- -------- --------
8,874.8 7,040.5 6,377.1
--------- -------- --------
EARNINGS BEFORE PROVISION FOR INCOME TAXES.................. 2,931.2 2,069.0 1,756.2
PROVISION FOR INCOME TAXES.................................. 1,084.5 757.7 644.8
--------- -------- --------
NET EARNINGS................................................ $ 1,846.7 $1,311.3 $1,111.4
========= ======== ========
</TABLE>
See notes to consolidated financial statements.
37
<PAGE> 38
ASSOCIATES CORPORATION OF NORTH AMERICA
CONSOLIDATED BALANCE SHEET
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
DECEMBER 31
----------------------
1999 1998
--------- ---------
<S> <C> <C>
ASSETS
CASH AND CASH EQUIVALENTS................................... $ 1,102.2 $ 3,790.1
INVESTMENTS IN DEBT AND EQUITY SECURITIES................... 6,584.8 6,548.3
FINANCE RECEIVABLES, net of unearned finance income,
allowance for credit losses and insurance policy and
claims reserves........................................... 62,147.0 52,352.6
NOTES RECEIVABLES FROM RELATED PARTIES...................... -- 2,797.8
OTHER ASSETS................................................ 8,348.8 4,771.0
--------- ---------
Total assets...................................... $78,182.8 $70,259.8
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
NOTES PAYABLE
Commercial Paper.......................................... $16,366.1 $18,671.1
Bank Loans................................................ 1,231.5 1,565.5
NOTES PAYABLE TO RELATED PARTIES............................ 3,189.6 1,104.2
ACCOUNTS PAYABLE AND ACCRUALS............................... 4,001.2 2,446.6
LONG-TERM DEBT
Senior Notes.............................................. 39,534.7 36,362.2
Subordinated and Capital Notes............................ 425.2 425.3
--------- ---------
39,959.9 36,787.5
STOCKHOLDERS' EQUITY
Class B Common Stock, $100 par value, 2,000,000 shares
authorized, 1,000,000 shares issued and outstanding.... 100.0 100.0
Common Stock, no par value, 5,000 shares authorized, 260
shares issued and outstanding, at stated value......... 47.0 47.0
Paid-in Capital........................................... 6,106.3 3,595.8
Retained Earnings......................................... 7,126.7 5,834.7
Accumulated Other Comprehensive Income.................... 54.5 107.4
--------- ---------
Total stockholders' equity........................ 13,434.5 9,684.9
--------- ---------
Total liabilities and stockholders' equity........ $78,182.8 $70,259.8
========= =========
</TABLE>
See notes to consolidated financial statements.
38
<PAGE> 39
ASSOCIATES CORPORATION OF NORTH AMERICA
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
(IN MILLIONS)
<TABLE>
<CAPTION>
ACCUMULATED
OTHER
COMPREHENSIVE TOTAL
COMMON PAID-IN RETAINED INCOME STOCKHOLDERS'
STOCK CAPITAL EARNINGS (LOSS) EQUITY
------ -------- -------- ------------- -------------
<S> <C> <C> <C> <C> <C>
DECEMBER 31, 1996..................... $147.0 $2,359.5 $3,692.0 $222.3 $ 6,420.8
Comprehensive income
Net earnings..................... 1,111.4 1,111.4
Other comprehensive loss, net of
tax............................ (49.6) (49.6)
-------- ------ ---------
Total comprehensive income
(loss).................... 1,111.4 (49.6) 1,061.8
Contributions from parent........... 33.8 33.8
Dividends........................... (50.0) (50.0)
------ -------- -------- ------ ---------
DECEMBER 31, 1997..................... 147.0 2,393.3 4,753.4 172.7 7,466.4
Comprehensive income
Net earnings..................... 1,311.3 1,311.3
Other comprehensive loss, net of
tax............................ (65.3) (65.3)
-------- ------ ---------
Total comprehensive income
(loss).................... 1,311.3 (65.3) 1,246.0
Contributions from parent........... 1,202.5 1,202.5
Dividends........................... (230.0) (230.0)
------ -------- -------- ------ ---------
DECEMBER 31, 1998..................... 147.0 3,595.8 5,834.7 107.4 9,684.9
Comprehensive income
Net earnings..................... 1,846.7 1,846.7
Other comprehensive loss, net of
tax............................ (52.9) (52.9)
-------- ------ ---------
Total comprehensive income
(loss).................... 1,846.7 (52.9) 1,793.8
Contributions from parent........... 2,510.5 2,510.5
Dividends........................... (554.7) (554.7)
------ -------- -------- ------ ---------
DECEMBER 31, 1999..................... $147.0 $6,106.3 $7,126.7 $ 54.5 $13,434.5
====== ======== ======== ====== =========
</TABLE>
See notes to consolidated financial statements.
39
<PAGE> 40
ASSOCIATES CORPORATION OF NORTH AMERICA
CONSOLIDATED STATEMENT OF CASH FLOWS
(IN MILLIONS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
------------------------------------
1999 1998 1997
---------- ---------- ----------
<S> <C> <C> <C>
Cash Flows from Operating Activities
Net earnings........................................... $ 1,846.7 $ 1,311.3 $ 1,111.4
Adjustments to reconcile net earnings for non-cash and
other operating activities:
Provision for losses on finance receivables......... 1,375.6 1,227.6 1,348.1
Amortization of goodwill and other intangible
assets............................................ 206.8 86.3 45.2
Depreciation and other amortization................. 269.4 234.2 269.1
Increase in insurance policy and claims reserves.... 75.4 2.5 70.7
Deferred income taxes............................... 68.8 29.5 (34.2)
Purchases of trading securities available for sale,
net............................................... -- -- (117.6)
Increase (decrease) in accounts payable and
accruals.......................................... 641.9 (4.2) (37.9)
Net gain on sale of assets and other................ (100.9) (3.6) (3.1)
---------- ---------- ----------
Net cash provided from operating activities.... 4,383.7 2,883.6 2,651.7
---------- ---------- ----------
Cash Flows from Investing Activities
Finance receivables originated......................... (58,984.1) (49,607.5) (47,302.2)
Acquisition of loan portfolio and other finance
businesses, net..................................... (1,444.8) (962.7) (39.7)
Proceeds from securitizations of finance receivables... 5,188.8 3,559.9 --
Sale of finance businesses and branches................ 1,003.3 -- --
Finance receivables liquidated......................... 50,322.1 40,417.1 38,891.8
Purchases of available-for-sale securities............. (2,534.6) (2,285.6) (289.3)
Sales and maturities of available-for-sale
securities.......................................... 1,577.6 1,654.1 295.1
Increase in notes receivable from related parties and
other assets........................................ (1,842.0) (891.8) (2,454.0)
---------- ---------- ----------
Net cash used for investing activities......... (6,713.7) (8,116.5) (10,898.3)
---------- ---------- ----------
Cash Flows from Financing Activities
Issuance of long-term debt............................. 9,977.6 12,834.0 8,183.5
Retirement of long-term debt........................... (7,840.8) (4,945.4) (3,529.3)
(Decrease) increase in notes payable................... (4,119.0) 575.6 3,011.5
Cash dividends......................................... (508.4) (230.0) (50.0)
Cash contributions from parent......................... 449.5 185.5 33.8
Increase in notes payable to related parties........... 1,635.6 110.5 545.0
---------- ---------- ----------
Net cash (used for) provided from financing
activities................................... (405.5) 8,530.2 8,194.5
---------- ---------- ----------
Effect of foreign currency translation adjustment on
cash................................................... 47.6 (21.5) 78.5
---------- ---------- ----------
(Decrease) increase in cash and cash equivalents......... (2,687.9) 3,275.8 26.4
Cash and cash equivalents at beginning of year........... 3,790.1 514.3 487.9
---------- ---------- ----------
Cash and cash equivalents at end of year................. $ 1,102.2 $ 3,790.1 $ 514.3
========== ========== ==========
Supplemental Disclosures of Cash Flow Information:
Cash paid for:
Interest............................................ $ 3,386.2 $ 3,056.3 $ 2,629.0
Income taxes........................................ 713.7 552.0 744.4
Noncash activities:
Contribution of Avco Financial Services, Inc.
assets............................................ 2,061.0 -- --
Contribution of Contributed Entities acquired during
1998.............................................. -- 1,017.0 --
Transfer of Avco Financial Services, Inc. domestic
assets in exchange for a reduction of Notes
Receivable from Related Parties................... 4,267.3 -- --
</TABLE>
See notes to consolidated financial statements.
40
<PAGE> 41
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 -- THE COMPANY
Associates Corporation of North America ("ACONA" or the "Company"), a
Delaware corporation, is a wholly-owned subsidiary and the principal operating
unit of Associates First Capital Corporation ("First Capital"). The Company is a
leading diversified financial services organization providing finance, leasing,
insurance and related services to individual consumers and businesses in the
United States and internationally. All of the outstanding common stock of the
Company is either directly or indirectly owned by First Capital.
From October 31, 1989 to April 7, 1998, First Capital was a subsidiary of
Ford FSG, Inc. and an indirect-owned subsidiary of Ford Motor Company ("Ford").
On May 8, 1996, First Capital made an initial public offering (the "offering")
of 67 million shares of its Class A Common Stock representing a 19.3% interest
in First Capital. On April 7, 1998, Ford completed a spin-off (the "Spin-Off")
of its 80.7% interest in First Capital in the form of a tax-free distribution of
its First Capital Class A Common Stock to Ford common and Class B stockholders.
Immediately prior to, and in connection with the Spin-Off, all of the issued and
outstanding shares of First Capital's Class B Common Stock were converted at par
value to an equal number of shares of First Capital's Class A Common Stock.
Effective with this distribution, First Capital was no longer a subsidiary of
Ford and became a fully independent company.
On December 31, 1999, First Capital contributed its wholly-owned
subsidiary, Associates World Capital Corporation ("AWCC"), to the Company. AWCC,
through its principal operating subsidiary Associates First Capital B.V., issues
unsecured debt which is used to fund certain international consumer and
commercial finance operations.
On August 30, 2000, First Capital contributed several of its wholly-owned
subsidiaries to the Company. The subsidiaries include ACONA B.V., AIC Associates
Canada Holdings, Inc., Associates Capital Corporation of Canada, Associates
Credit Card Services, Inc., Associates International Holdings Corporation
("AIHC"), Avco Financial Services Limited, The Northland Company and several
other less significant subsidiaries, collectively referred to hereafter as
"Contributed Entities". The Contributed Entities are a group of diversified
financial services companies providing finance, leasing, insurance and related
services to individual consumers and businesses in the United States and
international markets, primarily Japan, Canada and the United Kingdom. The
revenues, pre-tax earnings and stockholders' equity of the Contributed Entities
were approximately $4.7 billion, $1.1 billion and $3.9 billion, respectively, as
of and for the year ended December 31, 1999. The consolidated financial
statements of the Company have been restated retroactively to reflect the
results of these contributions in a manner similar to a pooling-of-interests in
accordance with generally accepted accounting principles, and are filed as
exhibits to this Form 8-K. Upon consummation of these contributions, these
restated financial statements became the historical consolidated financial
statements of the Company, and such related financial statements modify and
supercede the consolidated financial statements and related financial
information and other disclosures of ACONA contained in its Form 10-K for the
year ended December 31, 1999 and its Form 10-Q for the six months ended June 30,
2000. The contribution of the Contributed Entities to the Company increased
revenues by $4.3 billion, $2.0 billion and $1.0 billion for the year ended
December 31, 1999, 1998 and 1997, respectively, and increased net earnings by
$742.2 million, $337.1 million and $213.3 million in 1999, 1998 and 1997,
respectively.
In addition, First Capital intends to assign to ACONA certain of its
outstanding foreign currency forward exchange contracts or to enter into
corresponding intercompany agreements with ACONA for such contracts, as well as
for any foreign denominated debt issued by First Capital, all of which are
designated as hedges of its net investment in one of the foreign currency
denominated Contributed Entities (see Note 17). The financial statements of
ACONA contained in this Form 8-K have been restated to reflect the effects of
such hedging instruments for all periods presented, as if such instruments had
been contributed to ACONA in conjunction with the Contributed Entities.
Prior to First Capital's acquisition by Ford Motor Company ("Ford") in
1989, all of the international and domestic finance operations were owned by
ACONA. When Ford acquired First Capital in 1989, Ford
41
<PAGE> 42
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
transferred ACONA's ownership in the international operations to certain
subsidiaries of Ford. The contribution as described herein returns ACONA to its
former operational structure while solidifying First Capital's global funding
presence under ACONA. Further, management believes the contribution of the
Contributed Entities (defined above) will enhance ACONA's liquidity, access and
execution in the global capital markets.
In conjunction with the contribution of the Contributed Entities, AIHC sold
the Class B common stock of ACONA at par value to First Capital in July 2000,
who immediately contributed the shares to Associates Holding Corporation, a
Delaware Corporation and a subsidiary of First Capital. The financial statements
have been restated to reflect the sale of the Class B common stock as if it had
occurred at the earliest date presented.
In order to more clearly define the names of the participants of the
transaction, unless the context otherwise requires, (i) "ACONA" or the "Company"
refers to Associates Corporation of North America and its consolidated
subsidiaries after giving effect to the contribution of the Contributed
Entities, (ii) "First Capital" refers to Associates First Capital Corporation
and its consolidated subsidiaries, and (iii) "Contributed Entities" refers to
the entities contributed to ACONA on August 30, 2000, as defined above.
NOTE 2 -- SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies:
Basis of Presentation and Consolidation
The consolidated financial statements include the accounts of the Company
and its subsidiaries after elimination of all significant intercompany balances
and transactions. Certain prior period amounts have been reclassified to conform
to the current period presentation.
The preparation of these consolidated financial statements in conformity
with generally accepted accounting principles requires the use of management
estimates. These estimates are subjective in nature and involve matters of
judgment. Actual results could differ from these estimates.
Revenue Recognition
Finance charges on receivables are recognized as revenue using the interest
(actuarial) method. Premiums and discounts on purchased receivables are
considered as yield adjustments. The unamortized balance is included in finance
receivables and the associated amortization is included in finance charge
revenue. Finance charge accruals are generally suspended when the accounts
become 60 days contractually delinquent. The accrual is resumed when the loan
becomes contractually current. At December 31, 1999 and 1998, net finance
receivables on which revenue was not being accrued approximated $1.8 billion and
$1.3 billion, respectively. The interest income that would have been recorded in
1999 and 1998 if these nonaccruing receivables had been current was
approximately $48 million and $34 million, respectively.
Insurance premiums are recorded as unearned premiums when collected or when
written and are subsequently amortized into income based on the nature and term
of the underlying insurance contracts. The methods of amortization used are pro
rata, sum-of-the-years-digits and a combination thereof.
Gains or losses on sales of securities classified as available-for-sale are
included in investment and other income when realized. Unrealized gains or
losses on securities classified as available-for-sale are reported, net of tax,
as a component of accumulated other comprehensive income. Realized and
unrealized gains or losses on trading securities (principally preferred stock)
are included in investment and other income as incurred. The cost basis of
securities sold is determined by the first-in, first-out method.
42
<PAGE> 43
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Advertising Costs
Advertising costs are expensed as incurred. The advertising costs for 1999,
1998 and 1997 were $270.5 million, $214.0 million and $176.4 million,
respectively.
Receivables Sold with Servicing Retained
The Company periodically securitizes certain pools of receivables in both
public and private markets and accounts for such transactions in accordance with
Statement of Financial Accounting Standards No. 125 ("SFAS 125"), Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of
Liabilities. Under SFAS 125, a sale is recognized when control over the
receivables is relinquished. In applying SFAS 125, the Company recognizes the
resulting gains at the time of initial sale and each subsequent sale for
revolving receivable arrangements. Initial gains on securitization transactions
are recorded in the consolidated statement of earnings as investment and other
income. The income earned on securitization related securities retained by the
Company, including the recognition of the yield on such securities as well as
subsequent sales for revolving receivable arrangements, is recorded in the
consolidated statement of earnings as servicing related income.
Initial gains on securitization transactions represent the difference
between the net proceeds received and the allocated carrying amount of the
receivables sold. The allocation of carrying amount is based on the relative
fair value of the individual financial components sold and retained pursuant to
the transaction. The financial components typically consist of such items as the
interests sold, retained senior securities, retained subordinated securities,
retained interest only strips and retained servicing rights. No servicing asset
or liability has been recorded related to the securitization transactions
because the Company earns service fees at rates which approximate adequate
compensation.
Senior securities are typically valued at par while subordinated securities
are typically valued at a discount using an estimated market discount rate and
cash flow estimates which consider the effects prepayments and losses will have
on the timing of the subordinated interest cash flows. The fair value of
interest only strips represents the present value of future excess cash flows,
using the "cash-out" method. Such future cash flows are estimated using
valuation assumptions appropriate for the type of receivable and transaction
structure. The resulting estimated cash flows represent the difference between
the finance charge and fee income received from the obligors on the finance
receivables and the sum of the interest paid to the investors in the
asset-backed securities, credit losses, servicing fees and other expenses.
Significant valuation assumptions relate to the average lives of the receivables
sold, including the anticipated prepayment speeds and the anticipated credit
losses, as well as the appropriate market discount rate. Significant changes in
these assumptions could impact the recorded value of retained securitization
interests.
The securitization related securities are accounted for under Statement of
Financial Accounting Standards No. 115, Accounting for Certain Investments in
Debt and Equity Marketable Securities. Because such assets can be contractually
prepaid or otherwise settled in such a way that the holder would not recover all
of its recorded investment, the assets are classified as available-for-sale
investments and measured at fair value. Any unrealized holdings gains or losses
are reported, net of income tax effects, as a component of accumulated other
comprehensive income in the consolidated balance sheet until realized. On a
quarterly basis, the Company assesses the carrying value of its securitization
related securities for impairment. If a decline in fair value is deemed other
than temporary, the securities are adjusted to their fair value through a charge
to operations.
There can be no assurance that the Company's estimates used to determine
the fair value of the securitization related securities, including those used to
determine the related gains, will remain appropriate for the life of each
securitization.
43
<PAGE> 44
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Finance Receivables
Receivables origination and commitment fees and loan origination costs
generally are deferred and amortized as a component of finance charges over the
life of the related receivable. Receivables which are expected to be securitized
and sold are included in other assets as receivables held for sale and recorded
at the lower of cost or market. The aggregate method is used in determining the
lower of cost or market of receivables held for sale. Finance receivables
include the Company's share of aggregate rentals on lease financing transactions
and residual values, net of related unearned income. Lease financing
transactions are principally direct financing leases. Unearned income is
amortized under a method which substantially results in an approximately level
rate of return when related to the unrecovered lease investment. Gains and
losses from sales of residual values of leased equipment are included in finance
charges.
Allowance for Losses on Finance Receivables
The Company maintains an allowance for losses on finance receivables at an
amount that it believes is sufficient to provide for losses in its existing
receivables portfolios. The allowance is determined principally on the basis of
historical loss experience, and reflects management's judgment of the present
loss exposure at the end of the period considering economic conditions and the
nature and characteristics of the underlying finance receivables. The Company
records an allowance for losses when it believes the event causing the loss has
occurred. The allowance is evaluated on an aggregate basis considering, among
other things, the relationship of the allowance to net finance receivables and
historical net credit losses. Additions to the allowance are generally charged
to the provision for losses on finance receivables.
Finance receivables are charged to the allowance for losses when they are
deemed to be uncollectible. As set forth below, the Company's policy generally
provides for charge-off of various types of accounts on a contractual basis.
Consumer direct and other installment and credit card receivables are charged to
the allowance for losses when they become 180 days contractually delinquent. All
other finance receivables are charged to the allowance for losses when any of
the following conditions occur: (i) the related security has been converted or
destroyed; (ii) the related security has been repossessed and sold or held for
sale for one year; or (iii) the related security has not been repossessed and
the receivable has become contractually delinquent for one year. A contractually
delinquent account is one on which the customer has not made payments as
contractually agreed. Recoveries on losses previously charged to the allowance
are credited to the allowance at the time the recovery is collected.
Although the allowance for losses on finance receivables reflected in the
Company's consolidated balance sheet at December 31, 1999 is considered adequate
by the Company's management, there can be no assurance that this allowance will
prove to be adequate over time to cover ultimate losses in connection with the
Company's finance receivables. This allowance may prove to be inadequate due to
unanticipated adverse changes in the economy or discrete events adversely
affecting specific customers or industries. The Company's results of operations
and financial condition could be materially adversely affected to the extent
that the Company's allowance is insufficient to cover such changes or events.
Insurance Reserves
The reserves for future benefits and refunds upon cancellation of credit
life and health insurance and property and casualty insurance for the affiliate
insurance business are provided for in the unearned premium reserve for each
class of insurance. Affiliate insurance relates to insurance products
distributed through the finance affiliates. The Company classifies its
affiliated insurance reserves as a component of finance receivables because the
related policy benefits are generally included in the financed receivable
balance as shown in Note 6. The reserves for future benefits and refunds upon
cancellation of credit life and health insurance and property and casualty
insurance for the non-affiliate insurance business are provided for in accounts
payable and accruals for each class of insurance. In addition, reserves for
reported claims on credit accident and health
44
<PAGE> 45
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
insurance are established based on standard morbidity tables used in the
insurance business for such purposes. Claim reserves for reported property and
casualty insurance claims are based on estimates of costs and expenses to settle
each claim. Additional amounts of reserves, based on prior experience and
insurance in force, are provided for each class of insurance for claims which
have been incurred but not reported as of the balance sheet date.
Intangible Assets
Amounts of goodwill relating to acquisitions are being amortized using the
straight-line method over periods not exceeding forty years. Other intangible
assets, which are made up primarily of customer lists, operating agreements,
trademarks and credit card customer relationships are amortized using the
straight-line method over the assets' estimated useful lives ranging from five
to twenty years. The carrying value of goodwill and other intangible assets is
reviewed if the facts and circumstances suggest that it may be impaired. If the
review indicates that goodwill or the other intangible assets will not be
recoverable, as determined based on undiscounted cash flows, the carrying value
of the goodwill or the other intangible asset is reduced by the estimated
short-fall of discounted cash flows.
Foreign Currency
Assets and liabilities of foreign subsidiaries are translated at the rate
of exchange in effect on the balance sheet date; income and expenses are
translated at the average rate of exchange prevailing during the year. The
related balance sheet translation adjustments are reflected in the stockholders'
equity section of the consolidated balance sheet while the impact of foreign
currency changes on income and expense items are included in earnings.
Foreign currency transactions resulted in a net loss of approximately $6.1
million in the year ended December 31, 1999. Foreign currency transactions
resulted in a net gain of approximately $2.9 million in the year ended December
31, 1998 and a net loss of approximately $2.1 million during the year ended
December 31, 1997.
Income Taxes
Deferred tax assets and liabilities are determined based on the difference
between the financial statement and tax basis of assets and liabilities using
statutory tax rates in effect for the year in which the differences are expected
to reverse.
Cash and Cash Equivalents
The Company considers all highly liquid investments with a maturity of
three months or less when purchased to be cash equivalents. The amounts reported
in the consolidated balance sheet approximate fair value.
Segment Reporting
In 1998, the Company adopted Statement of Financial Accounting Standards
No. 131 ("SFAS 131") Disclosures about Segments of an Enterprise and Related
Information which determines reportable segments based upon how management
assesses performance. The Company does not currently report performance measures
to the chief operating decision maker based on a segment organization. Pursuant
to the provisions of SFAS 131, no segment disclosures are required because the
Company is not managed on a segment basis.
45
<PAGE> 46
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Derivative Financial Instruments
The Company uses derivative financial instruments for the purpose of
hedging specific exposures as part of its risk management program and generally
holds derivatives for purposes other than trading. Deferral (hedge) accounting
is applied only if the derivative reduces the risk of the underlying hedged item
and is designated at inception as a hedge with respect to the underlying hedged
item. Additionally, the derivative must result in cash flows that are expected
to be inversely correlated to those of the underlying hedged item. Such
instruments to date have been limited to foreign currency forward exchange,
currency swap, interest rate swap, treasury lock agreements, municipal bond
futures and treasury futures and option contracts. See Note 17 for additional
information related to derivative financial instruments.
Forward currency exchange agreements are used to hedge the Company's net
investment in certain Yen denominated subsidiaries. These agreements involve the
exchange of amounts based on a floating interest rate for amounts based on fixed
interest rates over the life of the agreements without an exchange of the actual
notional amount upon which payments are based. Accordingly, the differential
paid or received by the Company on these agreements is recognized as an
adjustment to interest expense over the term of the underlying transaction. The
related amount payable to or receivable from counterparties is included in
current liabilities or assets. Gains and losses on terminations of swap
agreements are deferred as an adjustment to the carrying amount of the
outstanding obligation and amortized as an adjustment to interest expense
related to the obligation over the remaining term of the original contract life
of the terminated swap agreement. In the event of the early extinguishments of a
designated obligation, any realized or unrealized gain or loss from the swap
would be recognized in income coincident with the extinguishment. Accordingly,
unrealized translation gains and losses on these agreements are recorded, net of
tax, as a separate component of accumulated other comprehensive income. The
economic discount on such agreements is recognized over the agreement life on a
straight-line basis as an adjustment to interest expense. The related amounts
due to or from counterparties are included in other liabilities or other assets.
Foreign currency swap and interest rate swap agreements are used to hedge
debt obligations and financing transactions. Accordingly, the differential paid
or received by the Company on these agreements is recognized as an adjustment to
interest expense over the term of the underlying transaction.
Treasury lock agreements are used to hedge anticipated asset securitization
transactions or debt issuances of the Company. Accordingly, the differential
paid or received by the Company on maturity of a treasury lock agreement is
recognized as an adjustment to interest expense over the term of the underlying
financing transaction.
Municipal bond futures are used to minimize fluctuations in the value of
preferred stock investments of the Company.
Treasury futures and option contracts are used to minimize fluctuations in
the value of certain investments classified as available-for-sale. Accordingly,
unrealized gains and losses on these agreements are recorded, net of tax, as a
separate component of accumulated other comprehensive income.
Recent Accounting Pronouncements
Statement of Financial Accounting Standards No. 133 ("SFAS 133"),
Accounting for Derivative Instruments and Hedging Activities, was issued by the
Financial Accounting Standards Board in June 1998 and was subsequently amended.
This Statement requires companies to record derivatives on the balance sheet as
assets or liabilities, measured at fair value. Generally, changes in the fair
value of derivatives must be recognized in income when they occur, except when
the derivative qualifies as a hedge in accordance with the standard. This
statement will be effective for the Company beginning January 1, 2001. The
Company has completed the process of evaluating various strategies which
management believes will qualify for hedge accounting treatment. During the
remainder of the year, the Company will transition to these new strategies
46
<PAGE> 47
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
and information systems as necessary in order to be fully compliant prior to
January 1, 2001. It is not anticipated that the implementation of SFAS 133 will
cause a material impact on the Company's operating results.
NOTE 3 -- SIGNIFICANT TRANSACTIONS
1999 Significant Acquisitions
In June 1999, First Capital acquired the Newcourt Credit Group automotive
fleet management business. The transaction included Newcourt Fleet Services,
which operates in Canada, and Newcourt Automotive Services Limited, which
operates in the United Kingdom. The fair market value of the total assets
acquired was approximately $460 million. First Capital contributed this business
to the Company as part of the August 30, 2000 contribution.
In February 1999, First Capital acquired the Shell Oil Proprietary Credit
Card program. The fair market value of the private label credit card receivables
acquired was approximately $260 million. The participation rights in the finance
receivables of this program were transferred to the Company as part of the
Contributed Entities contributed by First Capital on August 30, 2000.
On January 6, 1999, First Capital purchased the assets and assumed the
liabilities of Avco Financial Services, Inc. ("Avco") for $3.9 billion. First
Capital subsequently transferred substantially all of the consumer finance
operations of Avco to the Company, which at the time included approximately $9
billion in assets. This transfer was in the form of a $1.9 billion capital
contribution of certain Avco domestic assets, and the $4.3 billion sale at book
value of substantially all of Avco's remaining domestic and Puerto Rico net
assets to the Company. The sale was financed through a reduction in the
Company's outstanding notes receivable from First Capital. The remaining
international net assets of Avco were transferred to the Company as part of the
Contributed Entities contributed by First Capital on August 30, 2000. Avco's
product offerings included home equity lending, retail sales finance and
consumer loans, equipment, inventory and vendor finance, and credit and
collateral related insurance. All intangibles resulting from this transaction,
primarily consisting of goodwill, customer lists and trademarks, are being
amortized using the straight-line method. The Company, after giving affect for
the assets subsequently sold as described below, acquired approximately $6.0
billion in finance receivables, $2.1 billion in goodwill and $690 million in
other intangibles. In 1999, the Company expensed approximately $100 million in
Avco related goodwill and other intangible asset amortization. In addition, the
Company established an integration plan that identified the activities that
would not be continued after the acquisition and the cost of exiting those
activities. Those costs primarily consisted of severance costs and related
expenses, lease termination costs and other contractual liabilities. The total
amount of the integration cost reserve was approximately $146 million at the
date of the Avco acquisition. At December 31, 1999, the remaining integration
reserve balance was approximately $44 million. This amount was primarily
comprised of unpaid lease termination costs.
During 1999, the Company sold 156 former Avco branches (128 domestic and 28
Canadian). These sales were initiated pursuant to the Company's acquisition,
integration and capital planning activities. See the "Significant Dispositions"
section that follows for details on the sales.
During the first two quarters of 1999, the Company consolidated certain
Avco headquarters activities in the United States, the United Kingdom and
Canada, resulting in a reduction in the Company's workforce. In the United
States, Avco's headquarters in Costa Mesa, California, were closed in the second
quarter of 1999, as all corporate functions were consolidated with the Company's
headquarters in Irving, Texas. Most of the 400 jobs at Avco's headquarters were
eliminated. Internationally, the Company closed its United Kingdom headquarters
in Slough, England and consolidated functions into the existing Avco facilities
in Reading, England. In addition, the Company closed its Canadian consumer
finance headquarters in Toronto, Ontario and consolidated these functions into
Avco's Canadian headquarters in London, Ontario. Certain other
47
<PAGE> 48
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
facilities including the Avco Technology Center in Costa Mesa and Avco's Denver
Purchasing Center were also closed during 1999.
1998 Significant Acquisitions
In December 1998, First Capital acquired The Northland Company
("Northland") for approximately $660 million. Based in St. Paul, Minnesota,
Northland provides insurance products through Jupiter Holdings, Inc. and
mortgage banking, real estate management, brokerage and related services through
various other subsidiaries. First Capital acquired the insurance related
business of Northland only. Northland divested its other businesses prior to
acquisition. Northland became part of the Contributed Entities that First
Capital contributed to the Company on August 30, 2000.
In October 1998, First Capital purchased substantially all of the assets of
SPS Transaction Services, Inc. ("SPS"), including its wholly-owned subsidiaries,
SPS Payment Systems, Inc. and Hurley State Bank. In addition, First Capital
purchased certain receivables managed by SPS that were owned by an affiliate of
SPS, Mountain West Financial Corporation. The total purchase price was
approximately $1.4 billion. SPS processes credit card transactions, administers
consumer private-label credit card programs, processes commercial accounts
receivable and handles inbound telemarketing services. This transaction added
approximately $2.1 billion in managed credit card receivables. On August 30,
2000, First Capital contributed its ownership of SPS Payment Systems to the
Company as part of the Contributed Entities.
In April 1998, First Capital acquired DIC Finance Co. Ltd., a consumer
finance company based in Japan. The fair market value of total assets acquired
and liabilities assumed was approximately $1.9 billion and $1.3 billion,
respectively. As part of the August 30, 2000 contribution to the Company, First
Capital transferred its ownership of DIC Finance Co. Ltd. as a part of the
Contributed Entities.
In February 1998, First Capital acquired Beneficial Canada Holdings
Incorporated ("Beneficial"), the Canadian consumer finance subsidiary of
Beneficial Corporation. The fair market value of total assets acquired and
liabilities assumed was approximately $1.0 billion and $716 million,
respectively. Beneficial became part of the Contributed Entities that First
Capital contributed to the Company on August 30, 2000.
All of the transactions described above were accounted for as purchases,
and as such, the results of these operations are included in the consolidated
results of the Company from the respective acquisition dates.
The unaudited pro forma combined revenues and net earnings of the Company
including the above transactions were approximately $11.9 billion and $1.8
billion, respectively, for the year ended December 31, 1999 and $11.5 billion
and $1.3 billion, respectively, for the year ended December 31, 1998. These
unaudited pro forma results include the historical operating results of the
significant 1999 and 1998 acquisitions and dispositions related to these
acquisitions and assume that these transactions occurred at the beginning of
each applicable period. Certain adjustments, including additional common shares
outstanding and interest and amortization expenses associated with these
purchases are reflected in the pro forma results. This information has been
prepared for comparative purposes only, and is based on the historical operating
results of these entities prior to their acquisition by the Company and does not
include cost savings and other profit enhancement initiatives introduced by the
Company that management believes will be reflected in the post-acquisition
operating results. As a result, management does not believe that these pro forma
results are indicative of the actual results that would have occurred had the
acquisitions closed at the beginning of each period.
Other Acquisitions
In January 2000, First Capital, through its subsidiary, Associates National
Bank ("ANB"), entered into an agreement with KeyCorp, under which the companies
will jointly manage KeyCorp's credit card program. Additionally, First Capital
acquired KeyCorp's credit card receivables portfolio with a fair market value of
48
<PAGE> 49
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
$1.3 billion and intangible assets, primarily related to customer lists and
operating agreements, of approximately $350 million for $1.7 billion. Although
ANB maintains the relationship with KeyCorp, ACONA will receive revenues from
participation rights which were transferred to the Company as part of the August
30, 2000 contribution from First Capital.
In April 2000, First Capital acquired Arcadia Financial Ltd. ("Arcadia")
for approximately $195 million which approximated the fair value of the
intangible assets established in the acquisition. Subsequent to the acquisition,
First Capital contributed Arcadia to the Company. Arcadia had approximately $470
million in senior and subordinated notes at the time of the acquisition. At June
30, 2000, the Company managed approximately $3.4 billion of Arcadia's serviced
assets originated and sold with servicing retained prior to the acquisition.
Significant Dispositions
In July 1999, the Company sold the Network Transaction Services unit of its
Associates Commerce Solutions, Inc. subsidiary (formerly SPS Payment Systems,
Inc.) to Alliance Data Systems, a leading provider of electronic transaction
processing services for approximately $169 million.
In June 1999, the Company sold 41 of its Canadian consumer branches to
Commercial Credit Corporation CCC Limited, a subsidiary of Citigroup, Inc., for
approximately $155 million. Of these branches, 28 were acquired from Avco in
January 1999.
In March 1999, the Company sold 128 domestic consumer finance branches to
Commercial Credit Corporation, a subsidiary of Citigroup, Inc., for
approximately $640 million. All of these branches were acquired from Avco in
January 1999.
The earnings before provision for taxes recorded on the above dispositions
was included in investment and other income from January 1, 1999 through the
date of the related sale. The earnings before provision for taxes on the above
dispositions recorded in investment and other income during 1999 was
approximately $9 million.
NOTE 4 -- COMPREHENSIVE INCOME (LOSS)
The Company adopted Statement of Financial Accounting Standards No. 130
("SFAS 130"), Reporting Comprehensive Income, on January 1, 1998. SFAS 130
requires the reporting of all items which are required to be recognized under
generally accepted accounting standards as components of comprehensive income
(loss) in the financial statements. Accordingly, total comprehensive income for
the years ended 1999, 1998 and 1997 is reported in the Company's consolidated
statement of changes in stockholders' equity. Total accumulated other
comprehensive income is reported in the Company's consolidated balance sheet.
The components of accumulated other comprehensive income, net of tax, are
as follows (in millions):
<TABLE>
<CAPTION>
DECEMBER 31
------------------------
1999 1998 1997
------ ------ ------
<S> <C> <C> <C>
Foreign currency translation adjustments................... $144.9 $117.2 $168.3
Net unrealized (loss) gain on available-for-sale
securities............................................... (90.4) (9.8) 4.4
------ ------ ------
Accumulated other comprehensive income................... $ 54.5 $107.4 $172.7
====== ====== ======
</TABLE>
49
<PAGE> 50
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The components of other comprehensive loss are as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1999
--------------------------------
BEFORE TAX
TAX (EXPENSE)
AMOUNT BENEFIT AMOUNT
------- --------- ----------
<S> <C> <C> <C>
Foreign currency translation adjustments.............. $ 42.6 $(14.9) $ 27.7
Unrealized losses on available-for-sale securities:
Unrealized holding losses arising during the year... (125.2) 43.8 (81.4)
Reclassification for gains realized in net income... 1.2 (0.4) 0.8
------- ------ ------
Net unrealized losses............................ (124.0) 43.4 (80.6)
------- ------ ------
Other comprehensive loss............................ $ (81.4) $ 28.5 $(52.9)
======= ====== ======
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1998
--------------------------------
BEFORE TAX
TAX (EXPENSE) NET-OF-TAX
AMOUNT BENEFIT AMOUNT
------- --------- ----------
<S> <C> <C> <C>
Foreign currency translation adjustments.............. $ (78.6) $27.5 $(51.1)
Unrealized losses on available-for-sale securities:
Unrealized holding losses arising during the year... (26.5) 9.3 (17.2)
Reclassification for gains realized in net income... 4.6 (1.6) 3.0
------- ----- ------
Net unrealized losses.......................... (21.9) 7.7 (14.2)
------- ----- ------
Other comprehensive loss............................ $(100.5) $35.2 $(65.3)
======= ===== ======
</TABLE>
NOTE 5 -- INVESTMENTS IN DEBT AND EQUITY SECURITIES
Available-for-Sale Securities
Available-for-sale securities consist of retained securitization interests
(as described in Notes 2 and 6), bonds, notes and preferred stock and other
equity securities. Accordingly, the Company classifies these securities as
available-for-sale securities and adjusts their recorded value to market.
During 1999, gross realized gains and losses on sales of investments in
debt and equity securities amounted to $6.3 million and $11.4 million,
respectively. During 1998, gross realized gains and losses on sales of
investments in debt and equity securities amounted to $26.0 million and $2.4
million, respectively. Unrealized gains or losses are reported as a component of
accumulated other comprehensive income, net of tax.
50
<PAGE> 51
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following tables set forth, by type of security issuer, the amortized
cost, gross unrealized holding gains, gross unrealized holding losses, and
estimated market value at December 31, 1999 and 1998 (in millions):
<TABLE>
<CAPTION>
1999
-----------------------------------------------
GROSS GROSS
UNREALIZED UNREALIZED ESTIMATED
AMORTIZED HOLDING HOLDING MARKET
COST GAINS LOSSES VALUE
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
Retained securitization interests........... $3,423.4 $ -- $ (3.9) $3,419.5
Preferred stock............................. 708.3 13.5 (93.6) 628.2
Municipal bonds............................. 249.9 3.0 (4.0) 248.9
Other....................................... 36.7 -- -- 36.7
Insurance Subsidiaries
Mortgage-backed........................... 602.1 0.1 (15.9) 586.3
Municipal obligations..................... 417.1 0.1 (23.6) 393.6
Corporate obligations..................... 573.4 0.2 (17.9) 555.7
Preferred stock........................... 200.9 1.1 (16.2) 185.8
U.S. government obligations............... 317.9 0.2 (10.3) 307.8
Other..................................... 199.6 1.3 (5.4) 195.5
-------- ----- ------- --------
Total available-for-sale
securities...................... $6,729.3 $19.5 $(190.8) $6,558.0
======== ===== ======= ========
</TABLE>
<TABLE>
<CAPTION>
1998
-----------------------------------------------
GROSS GROSS
UNREALIZED UNREALIZED ESTIMATED
AMORTIZED HOLDING HOLDING MARKET
COST GAINS LOSSES VALUE
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
Retained securitization interests........... $3,870.8 $ 0.9 $ -- $3,871.7
Preferred stock............................. 718.7 2.4 (28.7) 692.4
Other....................................... 0.7 -- -- 0.7
Insurance Subsidiaries
Mortgage-backed........................... 567.9 3.7 (0.6) 571.0
Municipal obligations..................... 431.3 2.9 -- 434.2
Corporate obligations..................... 338.7 1.4 (0.4) 339.7
Preferred stock........................... 149.9 0.8 (0.6) 150.1
U.S. government obligations............... 108.9 0.9 (1.0) 108.8
Other..................................... 358.2 1.1 (0.4) 358.9
-------- ----- ------ --------
Total available-for-sale
securities...................... $6,545.1 $14.1 $(31.7) $6,527.5
======== ===== ====== ========
</TABLE>
51
<PAGE> 52
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The amortized cost and estimated market value of available-for-sale
securities at December 31, 1999 by contractual maturity are shown below (in
millions):
<TABLE>
<CAPTION>
1999
---------------------
ESTIMATED
AMORTIZED MARKET
COST VALUE
--------- ---------
<S> <C> <C>
Due in one year or less..................................... $ 107.9 $ 110.1
Due after one year through five years....................... 648.6 635.5
Due after five years through ten years...................... 642.0 615.2
Due after ten years......................................... 977.6 942.3
-------- --------
Subtotal.................................................. 2,376.1 2,303.1
Retained securitization interests........................... 3,423.4 3,419.5
Equity securities........................................... 929.8 835.4
-------- --------
Total............................................. $6,729.3 $6,558.0
======== ========
</TABLE>
Trading Securities
Trading securities consist of investments in equity securities which are
recorded at market value. Unrealized gains or losses on trading securities are
included in earnings. The estimated market value at December 31, 1999 and 1998
was $26.8 million and $20.8 million, respectively. Historical cost at December
31, 1999 and 1998 was $17.1 million and $15.5 million, respectively. On July 1,
1998, the Company's preferred stock investments of $582.5 million were
redesignated by management as available-for-sale securities. Previously,
preferred stock investments were designated as trading securities.
NOTE 6 -- FINANCE RECEIVABLES
Composition of Net Finance Receivables
At December 31, 1999 and 1998, net finance receivables consisted of the
following products (in millions):
<TABLE>
<CAPTION>
1999 1998
--------- ---------
<S> <C> <C>
Home equity................................................. $24,893.2 $22,458.2
Personal lending and retail sales finance................... 15,999.3 11,459.2
Truck and truck trailer..................................... 13,130.3 10,783.6
Equipment................................................... 6,301.4 5,444.6
Auto fleet leasing.......................................... 2,070.1 1,589.7
Credit card................................................. 1,427.2 2,672.4
Manufactured housing........................................ 46.0 31.6
Warehouse lending and other(1).............................. 1,320.0 1,268.4
--------- ---------
Finance receivables, net of unearned finance income ("net
finance receivables")(2)............................... 65,187.5 55,707.7
Allowance for losses on finance receivables................. (2,054.6) (1,891.2)
Insurance policy and claims reserves(3)..................... (985.9) (1,463.9)
--------- ---------
Finance receivables, net of unearned finance income,
allowance for losses and insurance policy and claims
reserves............................................... $62,147.0 $52,352.6
========= =========
</TABLE>
---------------
(1) Includes warehouse lending, government guaranteed lending and public
finance.
(2) Unearned finance income was approximately $4.7 billion and $3.9 billion at
December 31, 1999 and 1998, respectively.
(3) At December 31, 1998, insurance policy and claims reserves included
approximately $678 million of non-affiliate insurance reserves. The December
31, 1999 balance only includes affiliate insurance reserves: non-affiliate
insurance reserves of approximately $721 million are included in accounts
payable and accruals.
52
<PAGE> 53
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Securitizations and Sales of Finance Receivables
During 1999, approximately $1.6 billion of the Company's private label
credit card receivables were securitized and sold to a master trust.
Additionally, approximately $2.3 billion of the Company's investment in the
Bankcard securitization master trust formed in 1998 was sold during 1999. The
Company received $3.2 billion in proceeds from these transactions, of which $2.6
billion was in the fourth quarter, and retained securitization interests in the
master trust of approximately $770 million.
During the fourth quarter of 1999, the Company securitized and sold
approximately $2.4 billion of home equity receivables. The Company received
approximately $2.0 billion in proceeds from this transaction and retained
approximately $460 million in interests in the securitization trusts. Also,
during the fourth quarter of 1999, the Company sold a home equity receivables
portfolio of approximately $80 million.
During the fourth quarter of 1998, approximately $1.8 billion of the
Company's private label credit card receivables were securitized and sold to a
master trust. The Company received $1.3 billion in proceeds from the transaction
and retained a $500 million certificated interest in the master trust.
During the second quarter of 1998, approximately $5.2 billion of the
Company's U.S. bankcard credit card receivables were securitized and sold to a
master trust. The Company received $2.0 billion in proceeds from the transaction
and retained a $3.2 billion certificated interest in the master trust.
During the first quarter of 1998, approximately $235 million of home equity
lending receivables were also securitized and sold by the Company.
In the aggregate, the Company recorded a net gain of approximately $75
million in 1999 on the above transactions, of which approximately $68 million
was recorded in the fourth quarter. No significant net gain or loss was recorded
in the 1998 or 1997 securitization transactions.
In each of these transactions, the Company retained servicing
responsibilities for the receivables sold. The retained securitization
interests, as described in Notes 2 and 5, are classified as available-for-sale
investment securities on the consolidated balance sheet.
The table below summarizes the significant assumptions used to value the
Company's retained securitization interests at December 31, 1999:
<TABLE>
<CAPTION>
HOME
CREDIT EQUITY
CARD LENDING
------ -------
<S> <C> <C>
Weighted average discount rate(1)........................... 12% 10%
Projected prepayment rate................................... n/m 20-30%
Projected loss rate(2)...................................... 8-10% 8%
</TABLE>
---------------
(1) Represents the weighted average discount rate used to value the retained
interest components which include interest only strips and subordinated and
other retained interests.
(2) Loss rates are annualized and exclude recoveries for credit card and
cumulative for home equity.
The above assumptions are consistent with those used to determine the
initial retained interest valuation and the gains on 1999 securitization
transactions. In addition to the assumptions noted above, the Company utilized
certain transaction structures that included written put options to the
investors. These put options had the impact of reducing the securitization gains
recognized in 1999 by approximately $23 million. See Note 16 for additional
information.
53
<PAGE> 54
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Contractual Maturities of Net Finance Receivables
At December 31, 1999, contractual maturities of net finance receivables
were as follows (in millions):
<TABLE>
<CAPTION>
YEAR DUE TOTAL
-------- ---------
<S> <C>
2000........................................................ $15,231.6
2001........................................................ 10,096.7
2002........................................................ 7,630.3
2003........................................................ 6,061.0
2004 and thereafter......................................... 26,167.9
---------
$65,187.5
=========
</TABLE>
It is the Company's experience that a substantial portion of the loan
portfolio generally is renewed or repaid prior to contractual maturity dates.
The above maturity schedule should not be regarded as a forecast of future cash
collections.
Direct Financing Leases
Included in net finance receivables are direct financing leases as follows
(in millions):
<TABLE>
<CAPTION>
DECEMBER 31
----------------------
1999 1998
--------- ---------
<S> <C> <C>
Minimum lease rentals....................................... $ 7,766.4 $ 6,841.8
Unearned finance income..................................... (1,143.5) (1,016.0)
--------- ---------
Net investment in direct financing leases................... $ 6,622.9 $ 5,825.8
========= =========
</TABLE>
Future net minimum lease rentals on direct financing leases for each of the
years succeeding December 31, 1999 are as follows (in millions):
2000 -- $1,884.9; 2001 -- $1,333.9; 2002 -- $1,231.1; 2003 -- $1,111.4;
2004 -- $619.1 and 2005 and thereafter -- $442.5.
Dispersion of Finance Receivables
The Company has geographically dispersed finance receivables. At December
31, 1999, approximately 76% of the Company's Owned Basis total receivables were
dispersed across the United States, and the remaining 24% were in foreign
countries. Of the total receivables, 11% were in Japan, 9% in California, 7% in
Texas, 6% in Canada and 5% in Florida; no other individual state or foreign
country had more than 4%.
Information About Geographic Areas
Finance charges by geographic area are as follows (in millions):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
--------------------------------
1999 1998 1997
-------- -------- --------
<S> <C> <C> <C>
Finance charges
United States...................................... $5,963.9 $5,867.2 $6,475.5
Japan.............................................. 1,628.5 1,042.7 696.1
Canada............................................. 553.8 256.5 94.7
United Kingdom..................................... 424.6 215.6 146.0
All other.......................................... 101.3 34.9 13.7
-------- -------- --------
Consolidated finance charges.................... $8,672.1 $7,416.9 $7,426.0
======== ======== ========
</TABLE>
54
<PAGE> 55
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Information About Major Customers
The Company has no customer that represents greater than 10% of total
revenue.
NOTE 7 -- ALLOWANCE FOR LOSSES ON FINANCE RECEIVABLES
Changes in the allowance for losses on finance receivables during the
periods indicated were as follows (in millions):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
-----------------------------------
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Balance at beginning of period.................... $ 1,891.2 $ 1,871.8 $ 1,543.1
Provision for losses............................ 1,375.6 1,227.6 1,348.1
Recoveries on receivables charged off........... 240.2 221.2 220.8
Losses sustained................................ (1,593.1) (1,352.1) (1,419.6)
Reserves of receivables sold or held for
securitization(1)............................ (187.2) (359.4) --
Reserves of acquired businesses and other....... 327.9 282.1 179.4
--------- --------- ---------
Balance at end of period.......................... $ 2,054.6 $ 1,891.2 $ 1,871.8
========= ========= =========
</TABLE>
---------------
(1) The reserves related to receivables sold during 1997 were not significant.
NOTE 8 -- TRANSACTIONS AND BALANCES WITH RELATED PARTIES
Notes receivable from related parties include advances provided by the
Company to First Capital and certain affiliates. These transactions initially
are structured as unsecured non-interest bearing lines of credit. If the amount
advanced remains outstanding at month-end, such amount is automatically
converted into an unsecured, interest bearing demand note. The weighted average
interest rate at December 31, 1999 and 1998 was 8.14% and 5.18%, respectively.
During the years ended December 31, 1999, 1998 and 1997 interest income on notes
receivable from related parties was $311.5 million, $261.8 million and $9.6
million, respectively.
Notes payable to related parties include advances given to the Company by
First Capital and its affiliates. These transactions initially are structured as
unsecured non-interest bearing lines of credit. If the amount advanced remains
outstanding at month-end, such amount is automatically converted into an
unsecured, interest bearing demand note. The weighed average interest rate at
December 31, 1999 and 1998 was 5.71% and 5.22%, respectively. During the years
ended December 31, 1999 and 1998, interest expense on notes payable to related
parties was $136.4 million and $25.6 million, respectively.
First Capital is dependent upon the operations of the Company to provide
for its debt service. As of December 31, 1999, First Capital's consolidated debt
obligations consisted of unsecured short-term notes payable of $27.3 billion and
long-term debt of $41.4 billion. These amounts include the Company's unsecured
short-term notes payable of $17.6 billion and long-term debt of $40.0 billion.
As First Capital has only limited operations separate from the Company, its
incremental debt obligations will be serviced primarily through dividends from
the Company.
At December 31, 1999, the Company's current income tax payable to First
Capital amounted to $235.9 million. At December 31, 1998, the Company's income
tax receivable from First Capital amounted to $83.2 million.
The Company receives a fee for services it provides to First Capital.
During the years ended December 31, 1999, 1998 and 1997, the Company received
$25.1 million, $25.3 million and $15.0 million, respectively in fees for these
services.
55
<PAGE> 56
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
During 1999, the Company transferred its Balboa Life and Casualty Insurance
Group and consumer and commercial finance operations in Australia and New
Zealand to First Capital. These operations were subsequently sold by First
Capital. The 1999 net earnings of $46.3 million recorded by these operations
were included in these restated financial statements and subsequently
distributed to First Capital through a non-cash transaction.
In March 1998, approximately $650 million of equipment finance receivables
were sold, at book value, to First Capital. No gain or loss was recorded on the
sale.
At December 31, 1999 and 1998, net finance receivables included
participation in credit card receivables owned or originated by ANB and Hurley
State Bank ("HSB"), affiliates of the Company. These receivables were acquired
at par value. The balances of these receivables were $621.6 million and $2.0
billion at December 31, 1999 and 1998, respectively.
The Company provided certain emergency roadside assistance and auto club
services and employee relocation services to Ford. Revenues related to these
services while the Company was a subsidiary of Ford were $33.8 million and $36.0
million for the years ended December 31, 1998 and 1997, respectively.
NOTE 9 -- OTHER ASSETS
The components of other assets at December 31, 1999 and 1998 were as
follows (in millions):
<TABLE>
<CAPTION>
1999 1998
-------- --------
<S> <C> <C>
Goodwill, net............................................... $3,581.7 $1,767.5
Notes and other receivables................................. 2,058.9 1,143.7
Other intangible assets, net................................ 1,359.4 662.2
Property and equipment...................................... 491.4 265.0
Collateral held for resale.................................. 372.5 425.0
Relocation client advances.................................. 185.4 171.8
Other....................................................... 299.5 335.8
-------- --------
Total............................................. $8,348.8 $4,771.0
======== ========
</TABLE>
Reductions as a result of goodwill amortization were $119.6 million and
$60.5 million for 1999 and 1998, respectively. Reductions as a result of other
intangible asset amortization were $87.2 million and $25.8 million for 1999 and
1998, respectively. Goodwill and other intangible assets are net of accumulated
amortization of $513.4 million and $354.7 million at December 31, 1999 and 1998,
respectively, and related deferred tax liabilities. Other changes in the amount
of goodwill were principally due to changes in foreign exchange rates which
impact the translation of foreign currency denominated goodwill recorded on the
books of the Company's international subsidiaries.
56
<PAGE> 57
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 10 -- CREDIT FACILITIES
At December 31, 1999, the Company had the following amount available under
its credit facilities (in millions):
<TABLE>
<CAPTION>
FACILITY
AMOUNTS(1)
----------
<S> <C>
Domestic
Lines of credit........................................... $ 4,272.8
Syndicated credit facilities.............................. 7,955.0
---------
Total domestic.................................... 12,227.8
Foreign
Lines of credit........................................... 19.3
Syndicated credit facilities.............................. 2,821.1
---------
Total foreign..................................... 2,840.4
---------
Total domestic and foreign........................ $15,068.2
=========
</TABLE>
---------------
(1) Included in these amounts are $210 million and $2.2 billion of lines of
credit and syndicated credit facilities, respectively, that are available to
either First Capital or ACONA.
Lines of credit and syndicated credit facilities may be withdrawn only
under certain standard conditions, including, as to the credit facilities
identified above, failure to pay principal or interest when due, breach of
representations, warranties or covenants, default on other debt, or bankruptcy
or other insolvency-type proceedings. As to the credit facilities of the foreign
operations, in addition to the foregoing standard conditions, certain facilities
contain provisions which prohibit withdrawals as a result of any material
adverse changes in the financial conditions of such operations. The Company
principally pays fees for the availability of its credit facilities. These
credit facilities are used to support commercial paper borrowings and utilized
uncommitted lines of credit.
Limitation on Minimum Tangible Net Worth
Restrictions defined in certain syndicated credit facilities require the
Company to maintain a minimum tangible net worth, as defined, of $2.5 billion.
At December 31, 1999, the Company's tangible net worth, as defined in the
syndicated credit facilities, was approximately $9.9 billion.
NOTE 11 -- NOTES PAYABLE
Commercial paper notes are issued by the Company in the minimum amount of
$100,000 with terms generally from one to 270 days. Bank loan terms range from
one to 365 days.
Information pertaining to the Company's commercial paper notes and bank
loans is set forth below for the periods indicated (dollar amounts in millions):
<TABLE>
<CAPTION>
COMMERCIAL BANK
PAPER NOTES LOANS
----------- --------
<S> <C> <C>
Domestic Notes Payable
Ending balance at December 31, 1999....................... $ 9,365.2 $ 990.7
Weighted average interest rate at December 31, 1999....... 5.65% 4.92%
Ending balance at December 31, 1998....................... $15,105.4 $1,070.7
Weighted average interest rate at December 31, 1998....... 5.16% 6.05%
</TABLE>
57
<PAGE> 58
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
<CAPTION>
COMMERCIAL BANK
PAPER NOTES LOANS
----------- --------
<S> <C> <C>
Foreign Notes Payable
Ending balance at December 31, 1999....................... $ 7,000.9 $ 240.8
Weighted average interest rate at December 31, 1999....... 5.58% 3.75%
Ending balance at December 31, 1998....................... $ 3,565.7 $ 494.8
Weighted average interest rate at December 31, 1998....... 5.28% 4.29%
Total Notes Payable
Ending balance at December 31, 1999....................... $16,366.1 $1,231.5
Weighted average interest rate at December 31, 1999....... 5.62% 4.69%
Ending balance at December 31, 1998....................... $18,671.1 $1,565.5
Weighted average interest rate at December 31, 1998....... 5.18% 5.49%
</TABLE>
NOTE 12 -- LONG-TERM DEBT
Outstanding balances of long-term debt at December 31 were as follows (in
millions):
<TABLE>
<CAPTION>
1999
WEIGHTED
1999 INTEREST AVERAGE MATURITIES
RATE RANGE RATE THROUGH 1999 1998
------------- -------- ---------- --------- ---------
<S> <C> <C> <C> <C> <C>
Senior Notes:
Domestic:
Notes........................ 5.25%-11.40% 6.11% 2037 $33,292.0 $32,380.2
Foreign:
Japan........................ 1.23%- 8.00% 2.57% 2004 2,062.2 1,889.5
All other foreign............ 0.22%-32.00% 5.61% 2004 4,180.5 2,092.5
--------- ---------
6,242.7 3,982.0
--------- ---------
Total senior notes...... 39,534.7 36,362.2
Subordinated and Capital Notes:
Domestic:
Subordinated................. 6.88%- 8.15% 7.25% 2009 425.0 425.0
Capital...................... 4.68%- 9.00% 6.73% 2002 0.2 0.3
--------- ---------
Total subordinated and
capital debt notes.... 425.2 425.3
--------- ---------
Total long-term debt.... $39,959.9 $36,787.5
========= =========
</TABLE>
The weighted average interest rate for total long-term debt was 5.81% at
December 31, 1999 and 6.28% at December 31, 1998.
In 1999, the Company issued a $500 million senior note to a trust which in
turn issued $500 million in trust securities to an institutional investor in a
private transaction. The trust securities and senior notes mature in 2002.
In 1997, the Company issued a $500 million senior note to a trust which in
turn issued $500 million in trust securities to institutional investors. The
trust securities and senior notes mature in September 2000.
Long-term borrowing maturities during the next five years, including the
current portion of notes payable after one year are: 2000, $7,975.2 million;
2001, $7,052.8 million; 2002, $7,743.5 million; 2003, $5,815.1 million; 2004,
$3,514.4 million and 2005 and thereafter, $7,858.9 million. Certain debt issues
are subject to put or
58
<PAGE> 59
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
call redemption provisions whereby repayment may be required prior to the
maturity date. As applicable, the amount of the option premium received by the
Company is deferred and amortized over the expected life of the debt obligation.
NOTE 13 -- INCOME TAXES
The following table sets forth the components of the provision for income
taxes and deferred income tax (benefit) for the periods indicated (in millions):
<TABLE>
<CAPTION>
UNITED STATES
FEDERAL STATE FOREIGN TOTAL
------- ----- ------- --------
<S> <C> <C> <C> <C>
Year Ended December 31, 1999
Current......................................... $748.0 $39.4 $228.3 $1,015.7
Deferred........................................ (10.4) -- 79.2 68.8
------ ----- ------ --------
$737.6 $39.4 $307.5 $1,084.5
====== ===== ====== ========
Year Ended December 31, 1998
Current......................................... $512.5 $31.9 $183.8 $ 728.2
Deferred........................................ 3.3 -- 26.2 29.5
------ ----- ------ --------
$515.8 $31.9 $210.0 $ 757.7
====== ===== ====== ========
Year Ended December 31, 1997
Current......................................... $485.0 $34.3 $159.7 $ 679.0
Deferred........................................ (16.9) -- (17.3) (34.2)
------ ----- ------ --------
$468.1 $34.3 $142.4 $ 644.8
====== ===== ====== ========
</TABLE>
At December 31, 1999 and 1998, the components of the Company's net deferred
tax asset (liability) were as follows (in millions):
<TABLE>
<CAPTION>
1999 1998
--------- ---------
<S> <C> <C>
Deferred tax assets:
Provision for losses on finance receivables and other..... $ 1,610.6 $ 925.9
Foreign tax credits....................................... 95.4 35.7
Postretirement and other employee benefits................ 98.9 57.1
--------- ---------
1,804.9 1,018.7
Deferred tax liabilities:
Leasing transactions...................................... (626.3) (512.8)
Goodwill.................................................. (369.1) (278.6)
Finance revenue and other................................. (532.6) (242.6)
--------- ---------
(1,528.0) (1,034.0)
--------- ---------
Net deferred tax asset (liability)..................... $ 276.9 $ (15.3)
========= =========
</TABLE>
Prior to the Spin-Off in April of 1998, First Capital and its subsidiaries
were included in the consolidated federal income tax return of Ford. First
Capital and its subsidiaries filed a consolidated First Capital federal income
tax return for the period of April 8, 1998 through December 31, 1998. The
provision for income taxes of the Company for both the period before the
Spin-Off and after the Spin-Off was computed on a consolidated, sub-group basis.
59
<PAGE> 60
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The effective tax rate differed from the statutory United States federal
income tax rate as follows:
<TABLE>
<CAPTION>
% OF PRETAX INCOME
YEAR ENDED
DECEMBER 31
------------------
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Statutory tax rate.......................................... 35.0% 35.0% 35.0%
State tax rate.............................................. 0.9 1.0 1.3
Non-deductible goodwill..................................... 0.9 0.7 0.6
Other....................................................... 0.2 (0.1) (0.2)
---- ---- ----
Effective tax rate........................................ 37.0% 36.6% 36.7%
==== ==== ====
</TABLE>
Effective with the April 1998 Spin-Off, Ford and First Capital entered into
an amended and restated tax sharing agreement which, among other matters,
required First Capital to pay a net amount of $22.4 million effectively settling
certain amounts due to and from Ford.
NOTE 14 -- LEASE COMMITMENTS
Leases on the Company's branch and operating center facilities are
primarily short-term and generally provide for renewal options not exceeding the
initial term. Total rent expense for the years ended December 31, 1999, 1998 and
1997 was $206.2 million, $162.7 million, and $135.0 million, respectively.
Minimum rental commitments as of December 31, 1999 for all noncancelable leases
(primarily office leases) for the years ending December 31, 2000, 2001, 2002,
2003 and 2004 are $127.4 million, $100.3 million, $57.6 million, $37.4 million
and $44.9 million, respectively, and $45.1 million thereafter.
NOTE 15 -- EMPLOYEE BENEFITS
Pension and Other Post-Retirement Benefits
The Company participates in various qualified and non-qualified pension and
other post retirement benefit plans (the "Plan" or "Plans") sponsored by First
Capital, which together cover substantially all United States-based employees
who meet certain eligibility requirements. The benefits of such plans can be
modified or terminated at the discretion of First Capital. The health care plans
are contributory, with participants' contributions adjusted annually; the life
insurance plans are also contributory.
60
<PAGE> 61
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The funded status of these Plans is as follows (dollars in millions):
<TABLE>
<CAPTION>
PENSION BENEFITS OTHER BENEFITS
----------------- -----------------
1999 1998 1999 1998
------- ------- ------- -------
<S> <C> <C> <C> <C>
Change in benefit obligation:
Benefit obligation at beginning of year.......... $562.8 $492.7 $ 123.4 $ 129.8
Service cost................................... 36.5 24.7 9.0 5.9
Interest cost.................................. 37.5 32.7 10.2 7.4
Plan participants' contributions............... -- -- 0.4 0.2
Plan amendment................................. (1.2) -- (18.3) --
Acquisition.................................... -- -- 32.5 --
Actuarial (gains)/losses....................... (88.7) 24.6 (20.6) (16.7)
Benefits paid.................................. (15.1) (11.9) (4.5) (3.2)
------ ------ ------- -------
Benefit obligation at end of year........... $531.8 $562.8 $ 132.1 $ 123.4
====== ====== ======= =======
Change in plan assets:
Fair value of plan assets at beginning of
year........................................ $538.6 $473.5 $ -- $ --
Actual return on plan assets................... 101.2 75.8 -- --
Employer contributions......................... 29.9 1.2 4.1 3.0
Plan participants' contributions............... -- -- 0.4 0.2
Benefits paid.................................. (15.1) (11.9) (4.5) (3.2)
------ ------ ------- -------
Fair value of plan assets at end of year.... $654.6 $538.6 $ -- $ --
====== ====== ======= =======
Funded status.................................. $122.8 $(24.2) $(132.1) $(123.4)
Unrecognized net transition obligation......... 1.4 1.7 -- --
Unrecognized net actuarial (gain)/loss......... (137.8) 13.8 (27.4) (6.7)
Unrecognized prior service cost................ -- 1.5 (17.7) (0.9)
------ ------ ------- -------
Net amount recognized....................... $(13.6) $ (7.2) $(177.2) $(131.0)
====== ====== ======= =======
Amounts recognized in the consolidated balance
sheet:
Prepaid benefit cost........................... $ 25.4 $ 25.4 $ -- $ --
Accrued benefit liability...................... (46.0) (41.6) (177.2) (131.0)
Intangible asset............................... 7.0 9.0 -- --
------ ------ ------- -------
Net amount recognized....................... $(13.6) $ (7.2) $(177.2) $(131.0)
====== ====== ======= =======
Weighted-average assumptions as of December 31:
Discount rate.................................. 7.75% 6.50% 7.75% 6.50%
Expected return on plan assets................. 9.00% 9.00% --% --%
Rate of compensation increase.................. 5.00% 5.00% --% --%
</TABLE>
For measurement purposes, a 10.0% annual rate of increase in the per capita
cost of covered health care benefits was assumed for 1999. The rate was assumed
to decrease gradually to 5.5% by 2010 and remain at that level thereafter.
Additionally, no future increase in retiree premiums was assumed.
The pension plan assets are allocated 72.1% to equity securities and 27.9%
to debt securities at December 31, 1999.
61
<PAGE> 62
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The net periodic pension cost for the years indicated includes the
following components (in millions):
<TABLE>
<CAPTION>
PENSION BENEFITS OTHER BENEFITS
--------------------- ---------------------
1999 1998 1997 1999 1998 1997
----- ----- ----- ----- ----- -----
<S> <C> <C> <C> <C> <C> <C>
Components of net periodic benefit cost:
Service cost.......................... $36.5 $24.7 $20.1 $ 9.0 $ 5.9 $ 7.1
Interest cost......................... 37.5 32.7 29.4 10.2 7.4 8.2
Expected return on plan assets........ (43.0) (37.1) (31.2) -- -- --
Amortization of transition
liability.......................... 0.3 0.3 0.3 -- -- --
Amortization of prior service cost.... 0.3 1.6 1.6 (1.5) (1.5) (1.5)
Recognized net actuarial (gain)
loss............................... 4.6 2.2 2.6 0.1 (0.2) 0.1
----- ----- ----- ----- ----- -----
Net periodic benefit cost........ $36.2 $24.4 $22.8 $17.8 $11.6 $13.9
===== ===== ===== ===== ===== =====
</TABLE>
For the pension plans with accumulated benefit obligations in excess of
plan assets, the projected benefit obligation and accumulated benefit obligation
were $54.9 million and $40.8 million, respectively, as of December 31, 1999 and
$53.5 million and $41.6 million, respectively, as of December 31, 1998. The
assets of these plans had no fair value as of December 31, 1999 and 1998.
Assumed health care cost trend rates have a significant effect on the
amounts reported for the health care plans. A one-percentage-point change in the
assumed health care cost trend rates would have the following effects (in
millions):
<TABLE>
<CAPTION>
1-PERCENTAGE- 1-PERCENTAGE-
POINT POINT
INCREASE DECREASE
------------- -------------
<S> <C> <C>
Effect on total of service and interest cost components..... $1.9 $(1.9)
Effect on post-retirement benefit obligations............... 10.7 (10.6)
</TABLE>
The Company also participates in two qualified pension plans sponsored by
First Capital, which cover substantially all of the employees of its Japan
operations who meet certain eligibility requirements. For the year ended
December 31, 1999 the Company's net periodic benefit cost of these plans was
$4.7 million. As of December 31, 1999 the total benefit obligation and fair
value of plan assets was $26.7 million and $28.3 million, respectively.
Associates Savings and Profit-Sharing Plan
The Company participates in a defined contribution plan sponsored by First
Capital that covers substantially all United States-based employees who meet
certain eligibility requirements, is intended to provide assistance in
accumulating personal savings for retirement and is designed to qualify for
favorable tax treatment under Sections 401(a) and 401(k) of the United States
Internal Revenue Code of 1986, as amended. For the years ended December 31,
1999, 1998 and 1997, the Company's pre-tax contributions to the plan were $41.8
million, $31.0 million and $24.9 million, respectively. Among other options, the
plan provides as an investment option the Associates Stock Fund which invests
principally in First Capital's Class A Common Stock.
Associates Discounted Employee Stock Purchase Plan
The Company participates in a discounted employee stock purchase plan
which, beginning in 1999, allows employees to purchase Class A Common Stock of
First Capital at a discount. The price of the stock is discounted 15% from the
closing price at the lower of the beginning or the end of the offering period.
62
<PAGE> 63
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
INCENTIVE COMPENSATION PROGRAMS
The Company participates in the following compensation plans covering
certain officers and employees:
Incentive Compensation Plan and Long-Term Performance Plan
The Company participates in the Incentive Compensation Plan (the "ICP")
sponsored by First Capital, which beginning in 1997 has provided for corporate
annual performance pay bonuses, in addition to other types of compensation. The
bonuses are paid out of one of two pools. The size of each bonus pool is
determined based, in part, on the performance of the Company. Prior to 1997,
corporate annual performance pay bonuses were provided under the Corporate
Annual Performance Plan, which was a separate plan prior to being incorporated
into the ICP in 1997. The Long Term Performance Plan ("LTPP") for 1999 was a
long term cash incentive plan. The size of the LTPP incentive pool was
determined for the performance period ending December 31, 1999, based, in part,
on the success of the Company in achieving a target level of profits established
for each year of the performance period, with such annual performance then
averaged for the performance period. Bonuses reflect individual participants'
performance during the applicable performance period. Amounts charged to expense
for these bonus plans amounted to $31.6 million, $29.0 million and $25.1 million
during the years ended December 31, 1999, 1998 and 1997, respectively.
On March 8, 1999, the Compensation Committee adopted the Shareholder
Interest Bonus Plan (the "SIB") to replace the LTPP. The SIB is intended to more
closely align long-term compensation of the executive officers of the Company,
to the performance of the Class A Common Stock of First Capital. SIB awards are
based on First Capital's performance over a three-year period. The first
three-year performance period is 1999 through 2001, with the first SIB awards
payable in 2002. Final LTPP bonuses will be paid in 2001 and discontinued
thereafter as SIB awards become payable. There were no expenses related to this
plan in 1999.
Deferred Compensation Plan
The Company participates in the Deferred Compensation Plan (the "DCP"), a
non-qualified defined contribution plan. Under the DCP, participants may elect
to defer payment of current cash compensation. Deferred amounts are deemed
invested as the participants elect among available investment measures, but no
actual investments are made. Among the available investment measures is a deemed
investment in First Capital Class A Common Stock, with the value of the deferred
amount adjusted to reflect the performance of First Capital Class A Common
Stock.
Stock-Based Compensation Plans
The ICP also includes an equity compensation plan, formerly know as the
Long-Term Equity Compensation Plan, which was established in 1996 and amended
and merged into the ICP effective January 1, 1997. In conjunction with the ICP,
employees may receive nonqualified or incentive stock options, stock
appreciation rights, restricted stock, performance units or performance shares.
Through December 31, 1999, First Capital had only issued non-qualified stock
options and restricted stock under the ICP.
Accounting for Stock-Based Compensation Plans -- First Capital has elected
to apply Accounting Principles Board Opinion 25 ("APB 25") rather than the
optional provisions of Statement of Financial Accounting Standards No. 123
("SFAS 123") in accounting for its stock-based compensation plans. Had the
compensation cost of First Capital's stock-based compensation plans been
determined based on the optional provisions of SFAS 123, in the years ended
December 31, 1999, 1998 and 1997 the Company's net income would have been
$1,807.3 million, $1,291.8 million and $1,102.7 million, respectively. The fair
value of stock options was estimated at the date of grant using a Black-Scholes
option pricing model with the following weighted-average assumptions for 1999,
1998 and 1997: risk-free interest rates of 4.72%, 5.59% and 6.24%,
63
<PAGE> 64
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
respectively; dividend yields of 0.52%, 0.58% and 0.51%, respectively; expected
stock volatility of 34.83%, 21.28% and 22.00%, respectively; and a
weighted-average expected life of the options of 4 years.
NOTE 16 -- COMMITMENTS, CONTINGENCIES AND LEGAL PROCEEDINGS
The Company grants revolving lines of credit to certain of its credit card
and other revolving customers. At December 31, 1999, the unused portion of these
lines aggregated $56.1 billion.
The Company also grants lines of credit to certain dealers of trucks and
construction equipment. At December 31, 1999, the unused portion of these lines
aggregated $242.4 million.
Various legal actions and proceedings and claims are pending or may be
instituted or asserted in the future against the Company and its subsidiaries.
Certain of the pending legal actions are, or purport to be, class actions. Some
of the foregoing matters involve or may involve compensatory, punitive or treble
damage claims which, if adversely held against the Company, would require large
expenditures or could affect the manner in which the Company conducts its
business.
In addition, the Company, like many other companies that operate in
regulated businesses, is from time to time the subject of various governmental
inquiries and investigations. The Company is currently the subject of certain
investigations and inquiries by federal and state governmental authorities
relating generally to the Company's lending practices. The Company does not have
sufficient information to predict with certainty the ultimate outcome of such
investigations and inquiries or their ultimate effect, if any, on the Company's
results of operations or financial condition or the manner in which the Company
operates its business.
Legal actions, governmental inquiries and investigations are subject to
many uncertainties, and the outcome of individual matters is not predictable
with assurance. Some of the matters discussed in the foregoing paragraphs could
be decided unfavorably to the Company or the subsidiary involved and could
require the Company or such subsidiary to pay damages or make other expenditures
in amounts or a range of amounts that cannot be estimated at December 31, 1999.
The Company does not reasonably expect, based on its analysis, that any adverse
outcome from such matters would have a material effect on future consolidated
financial statements for a particular year, although such an outcome is
possible.
To broaden its investor base and improve execution in connection with its
asset securitization program, the Company wrote "put options" which require it
to purchase, upon request of the holders, securities issued in three
securitization transactions. These put options include: a put option,
exercisable any time after February 17, 2000, with respect to an aggregate of up
to $500 million principal amounts of certificates backed by credit card
receivables; a put option, exercisable at any time after June 15, 2000, with
respect to an aggregate of up to approximately $1 billion principal amount of
notes secured by home equity loan receivables, only to the extent the
securitization trust cannot meet its obligation under a separate put option by
the trust which is exercisable at any time after March 15, 2000, and a put
option, exercisable at any time after June 15, 2000, with respect to an
aggregate of up to approximately $1 billion principal amount of notes secured by
home equity loan receivables only to the extent the securitization trust cannot
meet its obligation under a separate put option issued by the trust. On April
17, 2000, the put option relating to the credit card receivables was exercised
and ACONA repurchased $500 million in finance receivables. Such receivables were
securitized in a separate transaction in May 2000. The resulting change in value
of the related retained interests was not significant. In each case, if
exercised, the Company will be obligated to purchase the certificates or notes
at par plus accrued interest. The Company has recorded liabilities totaling
approximately $23 million in connection with these options. In addition, in
September 1999, the Company wrote a put option in conjunction with a First
Capital manufactured housing finance receivable securitization transaction which
allows the $2 billion related trust securities to be put back to the Company at
par annually beginning in October 2000. The Company received approximately $10
million from First Capital for the fair value of the
64
<PAGE> 65
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
put option. Subsequent to their initial issuance, such options are marked to
market with the fluctuation being reflected in the statement of earnings.
NOTE 17 -- FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISKS
The Company maintains cash, cash equivalents, investments and certain other
financial instruments with various major financial institutions. To the extent
such deposits exceed maximum insurance levels, they are uninsured.
The Company uses derivative financial instruments for the purpose of
hedging specific exposures as part of its risk management program. Instruments
currently used by the Company are foreign currency forward exchange, currency
swap, interest rate swap, interest rate option, municipal bond and treasury
futures and option contracts. All of these instruments are held for purposes
other than trading.
Prior to the contribution of the Contributed Entities on August 30, 2000,
First Capital used foreign currency forward exchange contracts to hedge its net
investment in one of the Contributed Entities. As a result of the contribution,
First Capital intends to assign to ACONA these contracts, or to enter into
corresponding intercompany agreements with ACONA for such contracts. Therefore,
these financial statements have been restated for all periods presented to
reflect the effects of such hedging instruments as if such instruments had been
contributed to ACONA in conjunction with the Contributed Entities. Under these
agreements, the Company will be obligated to deliver specific foreign currencies
in exchange for United States dollars at varying times over the next five years.
The aggregate notional amount of these agreements at December 31, 1999 and 1998
was $2.8 billion and $2.5 billion, respectively. The fair value of such
agreements at December 31, 1999 and 1998 would have been a liability of $389.0
million and $134.4 million, respectively. The effect of including these forward
exchange contracts or intercompany agreements on interest expense in the
Company's restated financial statements was not significant.
Foreign currency swap agreements have been designated for accounting
purposes as hedges of specific foreign currency exposures under certain debt
obligations. Under these agreements, the Company and the agreement counter
parties are obligated to exchange specific foreign currencies at varying times
over the next four years. The aggregate notional amount of these agreements at
December 31, 1999 and 1998 was $5.9 billion and $4.4 billion, respectively. The
fair value of such agreements at December 31, 1999 and 1998 would have been a
liability of $307.9 million and $118.5 million, respectively.
Interest rate swap agreements are used by the Company to hedge the effect
of interest rate movements on existing debt. The aggregate notional amount of
interest rate swap agreements at December 31, 1999 was $9.2 billion. The fair
value of such agreements at December 31, 1999 would have been a liability of
$46.7 million. These agreements mature on varying dates over the next 19 years.
In addition, treasury lock agreements were used by the Company at December 31,
1998 to hedge the effect of interest rate movements on anticipated debt
issuances. The aggregate notional amount of interest rate swap and treasury lock
agreements at December 31, 1998 was $3.5 billion. The fair value of such
agreements at December 31, 1998 would have been a liability of $65.0 million.
Treasury futures and option contracts are used to minimize fluctuations in
the value of preferred stock investments. The aggregate notional amount of
futures and option contracts at December 31, 1999 and 1998 was $536.2 million
and $720.6 million, respectively. The fair value of these contracts would have
been an asset of $12.4 million and a liability of $5.2 million at December 31,
1999 and 1998, respectively. Such contracts mature on varying dates through
2000.
Municipal bond futures are used to minimize fluctuations in the value of
municipal bond investments. The aggregate notional amount of municipal bond
futures contracts at December 31, 1999 was $180.1 million. The fair value of
these contracts would have been an asset of $2.4 million at December 31, 1999.
Such
65
<PAGE> 66
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
contracts mature on varying dates through 2000. The Company did not hold
municipal bond futures during 1998.
NOTE 18 -- FAIR VALUE OF FINANCIAL INSTRUMENTS
The information provided below is required by Statement of Financial
Accounting Standards No. 107, Disclosures about Fair Value of Financial
Instruments. Amounts disclosed represent estimates of fair values at a
particular point in time. Significant assumptions regarding economic conditions,
loss experience and risk characteristics associated with particular financial
instruments and other factors were used for purposes of this disclosure. These
assumptions are subjective in nature and involve matters of judgment. Changes in
assumptions could have a material impact on these estimates.
At December 31, 1999 and 1998, the carrying value and estimated fair value
of certain of the Company's financial instruments were as follows (in millions):
<TABLE>
<CAPTION>
1999 1998
---------------------- ----------------------
CARRYING ESTIMATED CARRYING ESTIMATED
VALUE FAIR VALUE VALUE FAIR VALUE
--------- ---------- --------- ----------
<S> <C> <C> <C> <C>
Cash and cash equivalents(1)............. $ 1,102.2 $ 1,102.2 $ 3,790.1 $ 3,790.1
Investment securities(2)................. 6,584.8 6,584.8 6,548.3 6,548.3
Net finance receivables(3)............... 65,187.5 69,122.8 55,707.7 60,016.4
Notes payable(1)
Commercial paper....................... 16,366.1 16,366.1 18,671.1 18,671.1
Bank loans............................. 1,231.5 1,231.5 1,565.5 1,565.5
Long-term debt(4)........................ 39,959.9 39,528.1 36,787.5 38,109.4
</TABLE>
---------------
(1) The estimated fair value approximates their carrying value.
(2) Estimated market values of investment securities are based on quoted market
prices. If quoted prices are not available, the fair value was estimated by
discounting the expected cash flows from the investments at discount rates
which approximate the rates that would achieve an expected return on assets
with similar risk characteristics.
(3) In order to determine the fair values of loans, the loan portfolio was
segmented based on loan type, credit quality and repricing characteristics.
The fair value was estimated by discounting the expected cash flows from
such loans at discount rates which approximate gross finance charge rates
that would achieve an expected return on assets with similar risk
characteristics. The estimated fair value of the credit card receivables was
based on the Company's experience in pricing similar portfolios for
acquisition purposes.
(4) The fair value of long-term debt was determined by discounting expected cash
flows at discount rates currently available to the Company for debt with
similar terms and remaining maturities.
See Note 17 for fair value information regarding derivative financial
instruments.
NOTE 19 -- UNAUDITED QUARTERLY FINANCIAL DATA
The following table sets forth the unaudited quarterly results of
operations (in millions, except earnings per share):
<TABLE>
<CAPTION>
1999
-------------------------------------------
FOURTH THIRD SECOND FIRST
QUARTER QUARTER QUARTER QUARTER
---------- -------- -------- --------
<S> <C> <C> <C> <C>
Finance charges............................. $2,250.1 $2,166.7 $2,113.0 $2,142.3
Interest expense............................ 886.0 855.4 847.0 808.3
Earnings before provision for income
taxes..................................... 839.1 762.1 701.3 628.7
Provision for income taxes.................. 303.1 277.2 270.4 233.8
Net earnings................................ 536.0 484.9 430.9 394.9
</TABLE>
66
<PAGE> 67
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
<CAPTION>
1998
-----------------------------------------
FOURTH THIRD SECOND FIRST
QUARTER QUARTER QUARTER QUARTER
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Finance charges.............................. $1,895.8 $1,799.3 $1,764.4 $1,957.4
Interest expense............................. 783.4 770.1 760.9 732.8
Earnings before provision for income taxes... 565.2 539.0 487.8 477.0
Provision for income taxes................... 209.4 197.2 176.0 175.1
Net earnings................................. 355.8 341.8 311.8 301.9
</TABLE>
NOTE 20 -- SUBSEQUENT EVENT
In August 2000, following the contribution of the Contributed Entities to
ACONA, the Company declared a dividend to First Capital in the amount of
approximately $3.0 billion.
On September 5, 2000, First Capital and Citigroup Inc. entered into an
agreement and plan of merger whereby First Capital will be merged with and into
Citigroup Inc. (the "Agreement"). Under the Agreement, which was filed as a Form
8-K dated September 6, 2000, holders of First Capital common stock will receive
0.7334 shares of Citigroup Inc. common stock for each share of First Capital
common stock.
67
<PAGE> 68
(II) ASSOCIATES CORPORATION OF NORTH AMERICA
INDEX TO FINANCIAL STATEMENTS
For purposes of Rule 412 of the Securities Act of 1933, the following
modifies and supercedes the corresponding Items of the Company's Form 10-Q for
the quarter ended June 30, 2000:
<TABLE>
<CAPTION>
PAGE
----
<S> <C> <C>
Item 1. Financial Statements
- Consolidated Statement of Earnings for the six months
ended June 30, 2000 and 1999 and for the three months ended
June 30, 2000 and 1999 (Unaudited)........................ 69
- Consolidated Balance Sheet at December 31, 1999 (Audited)
and at June 30, 2000 (Unaudited)............................ 70
- Consolidated Statement of Cash Flows for the six months
ended June 30, 2000 and 1999 (Unaudited).................... 71
- Notes to Consolidated Financial Statements................ 72
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 78
Item 3. Quantitative and Qualitative Disclosures About Market
Risk........................................................ 81
</TABLE>
68
<PAGE> 69
ITEM 1. FINANCIAL STATEMENTS
ASSOCIATES CORPORATION OF NORTH AMERICA
CONSOLIDATED STATEMENT OF EARNINGS
(IN MILLIONS)
(UNAUDITED)
<TABLE>
<CAPTION>
SIX MONTHS ENDED THREE MONTHS ENDED
JUNE 30 JUNE 30
-------------------- --------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
REVENUE
Finance charges.................................. $4,517.8 $4,255.3 $2,292.6 $2,113.0
Servicing related income......................... 938.6 498.8 535.0 279.3
Insurance premiums............................... 550.0 513.0 277.2 258.9
Investment and other income...................... 532.1 413.8 355.5 248.2
-------- -------- -------- --------
6,538.5 5,680.9 3,460.3 2,899.4
EXPENSES
Interest expense................................. 1,861.0 1,655.3 1,032.3 847.0
Operating expenses............................... 1,986.4 1,813.4 1,018.8 909.1
Provision for losses on finance receivables...... 864.1 663.3 457.1 326.8
Insurance benefits paid or provided.............. 269.5 218.9 144.0 115.2
-------- -------- -------- --------
4,981.0 4,350.9 2,652.2 2,198.1
EARNINGS BEFORE PROVISION FOR INCOME TAXES....... 1,557.5 1,330.0 808.1 701.3
PROVISION FOR INCOME TAXES....................... 569.8 504.2 294.6 270.4
-------- -------- -------- --------
NET EARNINGS..................................... $ 987.7 $ 825.8 $ 513.5 $ 430.9
======== ======== ======== ========
</TABLE>
See notes to consolidated interim financial statements.
69
<PAGE> 70
ASSOCIATES CORPORATION OF NORTH AMERICA
CONSOLIDATED BALANCE SHEET
(DOLLARS IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
JUNE 30 DECEMBER 31
2000 1999
----------- -----------
(UNAUDITED)
<S> <C> <C>
ASSETS
CASH AND CASH EQUIVALENTS................................... $ 814.2 $ 1,102.2
INVESTMENTS IN DEBT AND EQUITY SECURITIES................... 7,537.2 6,584.8
FINANCE RECEIVABLES, net of unearned finance income,
allowance for losses and insurance policy and claims
reserves.................................................. 64,209.4 62,147.0
NOTES RECEIVABLE FROM RELATED PARTIES....................... 732.7 --
OTHER ASSETS................................................ 10,346.5 8,348.8
--------- ---------
Total assets...................................... $83,640.0 $78,182.8
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
NOTES PAYABLE
Commercial Paper.......................................... $21,847.8 $16,366.1
Bank Loans................................................ 228.4 1,231.5
NOTES PAYABLE DUE TO RELATED PARTIES........................ 2,042.8 3,189.6
ACCOUNTS PAYABLE AND ACCRUALS............................... 3,781.6 4,001.2
LONG-TERM DEBT
Senior Notes.............................................. 40,742.0 39,534.7
Subordinated and Capital Notes............................ 455.2 425.2
--------- ---------
41,197.2 39,959.9
STOCKHOLDERS' EQUITY
Class B Common Stock, $100 par value, 2,000,000 shares
authorized, 1,000,000 shares issued and outstanding.... 100.0 100.0
Common Stock, no par value, 5,000 shares authorized, 260
shares issued and outstanding, at stated value......... 47.0 47.0
Paid in Capital........................................... 6,405.8 6,106.3
Retained Earnings......................................... 8,067.4 7,126.7
Accumulated Other Comprehensive Income.................... (78.0) 54.5
--------- ---------
Total stockholders' equity........................ 14,542.2 13,434.5
--------- ---------
Total liabilities and stockholders' equity........ $83,640.0 $78,182.8
========= =========
</TABLE>
See notes to consolidated interim financial statements.
70
<PAGE> 71
ASSOCIATES CORPORATION OF NORTH AMERICA
CONSOLIDATED STATEMENT OF CASH FLOWS
(IN MILLIONS)
(UNAUDITED)
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30
-------------------------
2000 1999
----------- -----------
<S> <C> <C>
Cash Flows from Operating Activities
Net earnings.............................................. $ 987.7 $ 825.8
Adjustments to reconcile net earnings for non-cash and
other operating activities:
Provision for losses on finance receivables............ 864.1 663.3
Amortization of goodwill and other intangible assets... 118.3 97.2
Depreciation and other amortization.................... 191.6 132.5
Other operating activity............................... (2,132.6) 1,066.6
---------- ----------
Net cash provided from operating activities............ 29.1 2,785.4
---------- ----------
Cash Flows from Investing Activities
Finance receivables originated............................ (27,831.3) (29,734.5)
Acquisition of loan portfolio and other finance
businesses, net........................................ (2,169.7) (1,444.8)
Proceeds from securitizations of finance receivables...... 2,327.7 649.0
Sale of finance businesses and branches................... -- 833.4
Finance receivables liquidated............................ 22,792.6 25,964.8
Increase in notes receivable from related parties......... (3,174.9) 2,948.8
Other investing activities................................ 318.2 (5,199.7)
---------- ----------
Net cash used for investing activities............ (7,737.4) (5,983.0)
---------- ----------
Cash Flows from Financing Activities
Issuance of long-term debt................................ 7,797.7 8,303.8
Retirement of long-term debt.............................. (6,999.4) (4,583.2)
Increase (decrease) in notes payable...................... 4,167.2 (2,700.8)
Cash dividends............................................ (47.0) (8.4)
Cash contributions from parent............................ 3.7 392.5
Increase in notes payable to related parties.............. 2,501.8 1,218.3
---------- ----------
Net cash provided from financing activities....... 7,424.0 2,622.2
---------- ----------
Effect of foreign currency translation adjustment on cash... (3.7) 28.4
---------- ----------
Decrease in cash and cash equivalents....................... (288.0) (547.0)
Cash and cash equivalents at beginning of the period........ 1,102.2 3,790.1
---------- ----------
Cash and cash equivalents at end of the period.............. $ 814.2 $ 3,243.1
========== ==========
</TABLE>
See notes to consolidated interim financial statements.
71
<PAGE> 72
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED INTERIM FINANCIAL STATEMENTS
NOTE 1 -- THE COMPANY
Associates Corporation of North America ("ACONA" or the "Company"), a
Delaware corporation, is a wholly-owned subsidiary and the principal operating
unit of Associates First Capital Corporation ("First Capital"). The Company is a
leading diversified finance organization providing finance, leasing, insurance
and related services to individual consumers and businesses in the United States
and internationally. All of the outstanding common stock of the Company is
directly or indirectly owned by First Capital.
NOTE 2 -- BASIS OF PRESENTATION AND CONSOLIDATION
The consolidated financial statements include the accounts of the Company
and its subsidiaries after elimination of all significant intercompany balances
and transactions. These statements have been prepared in accordance with
generally accepted accounting principles for interim financial information and
with the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles for complete financial statements.
Certain prior period financial statement amounts have been reclassified to
conform to the current period presentation.
In the opinion of management, all adjustments, consisting only of normal,
recurring accruals, necessary to present fairly the results of operations and
financial position have been made. The financial position and results of
operations as of and for any interim period are unaudited and not necessarily
indicative of the results of operations for a full year. These consolidated
interim financial statements should be read in conjunction with the restated
consolidated financial statements and footnotes thereto for the year ended
December 31, 1999, included in this Form 8-K.
On December 31, 1999, First Capital contributed its wholly-owned
subsidiary, Associates World Capital Corporation ("AWCC"), to the Company. AWCC,
through its principal operating subsidiary Associates First Capital B.V., issues
unsecured debt which is used to fund certain international consumer and
commercial finance operations.
On August 30, 2000, First Capital contributed several of its wholly-owned
subsidiaries to the Company. The subsidiaries include ACONA B.V., AIC Associates
Canada Holdings, Inc., Associates Capital Corporation of Canada, Associates
Credit Card Services, Inc., Associates International Holdings Corporation, Avco
Financial Services Limited, The Northland Company and several other less
significant subsidiaries, collectively referred to hereafter as "Contributed
Entities". The Contributed Entities are a group of diversified financial
services companies providing finance, leasing, insurance and related services to
individual consumers and businesses in the United States and international
markets, including Japan, Canada and the United Kingdom. The revenues, pre-tax
earnings and stockholders' equity of the Contributed Entities were approximately
$4.7 billion, $1.1 billion and $3.9 billion, respectively, as of and for the
year ended December 31, 1999. The revenues and pre-tax earnings of the
Contributed Entities for the six months ended June 30, 2000 and 1999 were $2.7
billion and $0.6 billion and $2.1 billion and $0.4 billion, respectively. The
consolidated financial statements of the Company have been restated
retroactively to reflect the results of these contributions in a manner similar
to a pooling-of-interests in accordance with generally accepted accounting
principles, and are filed as exhibits to this Form 8-K. Upon consummation of
these contributions, these restated financial statements became the historical
consolidated financial statements of the Company, and such related financial
statements modify and supercede the consolidated financial statements and
related financial information and other disclosures of ACONA contained in its
Form 10-K for the year ended December 31, 1999 and its Form 10-Q for the six
months ended June 30, 2000. The contribution of the Contributed Entities to the
Company increased revenues by $4.3 billion, $2.0 billion and $1.0 billion for
the years ended December 31, 1999, 1998 and 1997, respectively, and increased
net earnings by $742.2 million, $337.1 million and $213.3 million in 1999, 1998
and 1997, respectively. The contribution increased revenues
72
<PAGE> 73
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED INTERIM FINANCIAL STATEMENTS -- (CONTINUED)
for the six months ended June 30, 2000 and 1999 by $2.7 billion and $2.0
billion, respectively, and increased net earnings by $413.3 million and $294.1
million, respectively.
In addition, First Capital intends to assign to ACONA certain of its
outstanding foreign currency forward exchange contracts or to enter into
corresponding intercompany agreements with ACONA for such contracts, as well as
for any foreign denominated debt issued by First Capital, all of which are
designated as hedges of its net investment in one of the foreign currency
denominated Contributed Entities (see Note 10). The financial statements of
ACONA contained in this Form 8-K have been restated to reflect the effects of
such hedging instruments for all periods presented, as if such instruments had
been contributed to ACONA in conjunction with the Contributed Entities.
Prior to First Capital's acquisition by Ford Motor Company ("Ford") in
1989, all of the international and domestic finance operations were owned by
ACONA. When Ford acquired First Capital in 1989, Ford transferred ACONA's
ownership in the international operations to certain subsidiaries of Ford. The
contribution as described herein returns ACONA to its former operational
structure while solidifying First Capital's global funding presence under ACONA.
Further, management believes the contribution of the Contributed Entities
(defined above) will enhance ACONA's liquidity, access and execution in the
global capital markets.
In conjunction with the contribution of the Contributed Entities, AIHC sold
the Class B common stock of ACONA at par value to First Capital in July 2000,
who immediately contributed the shares to Associates Holding Corporation, a
Delaware Corporation and a subsidiary of First Capital. The financial statements
have been restated to reflect the sale of the Class B common stock as if it had
occurred at the earliest date presented.
In order to more clearly define the names of the participants of the
transaction, unless the context otherwise requires, (i) "ACONA" or the "Company"
refers to Associates Corporation of North America and its consolidated
subsidiaries after giving effect to the contribution of the Contributed
Entities, (ii) "First Capital" refers to Associates First Capital Corporation
and its consolidated subsidiaries, and (iii) "Contributed Entities" refers to
the entities contributed to ACONA on August 30, 2000, as defined above.
The preparation of these consolidated financial statements in conformity
with generally accepted accounting principles requires the use of management
estimates. These estimates are subjective in nature and involve matters of
judgment. Actual results could differ from these estimates.
NOTE 3 -- SIGNIFICANT TRANSACTIONS
In January 2000, First Capital, through its subsidiary, Associates National
Bank ("ANB"), entered into an agreement with KeyCorp, under which the companies
will jointly manage KeyCorp's credit card program. Additionally, First Capital
acquired KeyCorp's credit card receivables portfolio with a fair market value of
$1.3 billion and intangible assets, primarily related to customer lists and
operating agreements, of approximately $350 million for $1.7 billion. Although
ANB maintains the relationship with KeyCorp, ACONA will receive revenues from
participation rights which were transferred to the Company as part of the August
30, 2000 contribution from First Capital.
In April 2000, First Capital acquired Arcadia Financial Ltd. ("Arcadia")
for approximately $195 million which approximated the fair value of the
intangible assets established in the acquisition. Subsequent to the acquisition,
First Capital contributed Arcadia to the Company. Arcadia had approximately $470
million in senior and subordinated notes at the time of the acquisition. At June
30, 2000, the Company managed approximately $3.4 billion of Arcadia's serviced
assets originated and sold with servicing retained prior to the acquisition.
73
<PAGE> 74
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED INTERIM FINANCIAL STATEMENTS -- (CONTINUED)
The transactions described above were accounted for as purchases, and as
such, the results of these operations are included in the consolidated results
of the Company from the respective acquisition dates. The allocation of the
purchase price is based upon preliminary estimates and may be revised as
additional information is available.
In July 2000, First Capital completed the purchase of approximately $630
million in credit card receivables from Zale Corporation ("Zale") and entered
into an operating agreement for Zale's on-going credit card business. These
receivables were participated to the Company through a participation agreement
with a subsidiary of First Capital.
NOTE 4 -- COMPREHENSIVE INCOME (LOSS)
The components of accumulated other comprehensive income (loss), net of
tax, are as follows (in millions):
<TABLE>
<CAPTION>
JUNE 30 DECEMBER 31
2000 1999
------- -----------
<S> <C> <C>
Foreign currency translation adjustments.................... $ 27.0 $144.9
Net unrealized loss on available-for-sale securities, net of
tax....................................................... (105.0) (90.4)
------- ------
Accumulated other comprehensive income (loss)............. $ (78.0) $ 54.5
======= ======
</TABLE>
Comprehensive income, net of tax, for the six and three-month periods ended
June 30, 2000 and 1999, consisted of the following components (in millions):
<TABLE>
<CAPTION>
SIX MONTHS ENDED THREE MONTHS
JUNE 30 ENDED JUNE 30
----------------- ---------------
2000 1999 2000 1999
------- ------- ------ ------
<S> <C> <C> <C> <C>
Net earnings....................................... $987.7 $825.8 $513.5 $430.9
Foreign currency translation adjustments........... (117.9) (19.3) (98.9) (53.3)
Net unrealized loss on available-for-sale
securities....................................... (14.6) (37.8) (11.1) (56.6)
------ ------ ------ ------
Comprehensive income............................. $855.2 $768.7 $403.5 $321.0
====== ====== ====== ======
</TABLE>
NOTE 5 -- INVESTMENTS IN DEBT AND EQUITY SECURITIES
Available-for-sale securities consist of retained securitization interests,
bonds, notes and preferred stock and other equity securities primarily held by
the Company's insurance subsidiaries. Accordingly, the Company classifies these
debt and equity securities as available-for-sale securities and adjusts their
recorded value to market. The estimated market value at June 30, 2000 and
December 31, 1999 was $7.5 billion and $6.6 billion, respectively. The amortized
cost at June 30, 2000 and December 31, 1999 was $7.7 billion and $6.7 billion,
respectively. Realized gains or losses on sales are included in investment and
other income. Unrealized gains or losses are included, net of tax, in
accumulated other comprehensive income.
74
<PAGE> 75
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED INTERIM FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 6 -- FINANCE RECEIVABLES
At June 30, 2000 and December 31, 1999, finance receivables consisted of
the following (in millions):
<TABLE>
<CAPTION>
JUNE 30 DECEMBER 31
2000 1999
--------- -----------
<S> <C> <C>
Home equity................................................. $26,151.3 $24,893.2
Personal lending and retail sales finance................... 16,356.0 15,999.3
Truck and truck trailer..................................... 12,722.3 13,130.3
Equipment................................................... 6,348.1 6,301.4
Auto fleet leasing.......................................... 2,192.6 2,070.1
Credit card................................................. 1,903.1 1,427.2
Manufactured housing........................................ -- 46.0
Warehouse lending, government guaranteed lending and
municipal finance......................................... 1,567.0 1,320.0
--------- ---------
Finance receivables, net of unearned finance income of
approximately $4.6 billion at June 30, 2000 and $4.7
billion at December 31, 1999 ("net finance
receivables").......................................... 67,240.4 65,187.5
Allowance for losses on finance receivables................. (2,067.1) (2,054.6)
Insurance policy and claims reserves........................ (963.9) (985.9)
--------- ---------
Finance receivables, net of unearned finance income,
allowance for losses and insurance policy and claims
reserves............................................... $64,209.4 $62,147.0
========= =========
</TABLE>
During the six months ended June 30, 2000, the Company securitized and sold
a home equity receivables portfolio, a credit card receivables portfolio and an
automobile retail sales finance receivables portfolio totaling $2.7 billion and
retained interests in the related securitization trusts totaling approximately
$473 million. Pre-tax gains of approximately $53 million were recorded on these
transactions.
NOTE 7 -- ALLOWANCE FOR LOSSES ON FINANCE RECEIVABLES
Changes in the allowance for losses on finance receivables during the
periods indicated were as follows (in millions):
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30 YEAR ENDED
------------------- DECEMBER 31
2000 1999 1999
-------- -------- -----------
<S> <C> <C> <C>
Balance at beginning of period....................... $2,054.6 $1,891.2 $ 1,891.2
Provision for losses............................... 864.1 663.3 1,375.6
Recoveries on receivables charged off.............. 141.9 141.8 240.2
Losses sustained................................... (914.5) (782.9) (1,593.1)
Reserves of receivables sold and held for
securitization.................................. (11.2) (151.2) (187.2)
Reserves of acquired businesses and other.......... (67.8) 260.7 327.9
-------- -------- ---------
Balance at end of period............................. $2,067.1 $2,022.9 $ 2,054.6
======== ======== =========
</TABLE>
NOTE 8 -- RELATED PARTIES
The notes receivable from related parties initially are structured as
unsecured non-interest bearing lines of credit. If the amount advanced remains
outstanding at month-end, such amount is automatically converted into an
unsecured, interest bearing demand note. The weighted average interest rate at
June 30, 2000 and 1999
75
<PAGE> 76
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED INTERIM FINANCIAL STATEMENTS -- (CONTINUED)
was 7.64% and 7.12%, respectively. During the six months ended June 30, 2000 and
1999, interest income on notes receivable from related parties was $183.0
million and $142.9 million, respectively.
The notes payable to related parties initially are structured as unsecured
non-interest bearing lines of credit. If the amount advanced remains outstanding
at month-end, such amount is automatically converted into an unsecured, interest
bearing demand note. The weighted average interest rate at June 30, 2000 and
1999 was 6.56% and 5.07%, respectively. During the six months ended June 30,
2000 and 1999, interest expense on notes payable to related parties was $160.3
million and $53.2 million, respectively.
NOTE 9 -- OTHER ASSETS
The components of other assets at June 30, 2000 and December 31, 1999 were
as follows (in millions):
<TABLE>
<CAPTION>
JUNE 30 DECEMBER 31
2000 1999
--------- -----------
<S> <C> <C>
Goodwill, net............................................... $ 3,465.0 $3,581.7
Finance receivables held for sale or securitization......... 1,979.4 153.0
Other intangible assets, net................................ 1,884.4 1,359.4
Notes and other receivables................................. 1,398.8 1,905.9
Property and equipment...................................... 553.3 491.4
Collateral held for resale.................................. 521.2 372.5
Relocation client advances.................................. 235.3 185.4
Other....................................................... 309.1 299.5
--------- --------
Total............................................. $10,346.5 $8,348.8
========= ========
</TABLE>
NOTE 10 -- DERIVATIVE FINANCIAL INSTRUMENTS
The Company uses derivative financial instruments for the purpose of
hedging specific exposures as part of its risk management program. Instruments
currently used by the Company are foreign currency forward exchange, currency
swap, interest rate swap, interest rate option, municipal bond and treasury
futures and option contracts. All of these instruments are held for purposes
other than trading.
Prior to the contribution of the Contributed Entities on August 30, 2000,
First Capital used foreign currency forward exchange contracts and foreign
currency denominated debt obligations to hedge its net investment in one of the
Contributed Entities. As a result of the contribution, First Capital intends to
assign to ACONA these forward exchange contracts or to enter into corresponding
intercompany agreements with ACONA for such contracts as well as for any foreign
denominated debt issued by First Capital. These agreements had a notional amount
of $2.4 billion and $2.8 billion at June 30, 2000 and December 31, 1999,
respectively. The fair value of these agreements at June 30, 2000 and December
31, 1999 would have been an asset of $11.1 million and a liability of $389.0
million, respectively. Therefore, these financial statements have been restated
for all periods presented to include the effects of such hedging instruments as
if such instruments had been contributed to ACONA in conjunction with the
Contributed Entities. Under these foreign currency forward exchange agreements,
the Company is obligated to deliver specific foreign currencies in exchange for
United States dollars at varying times over the next year. The aggregate
notional amount of these agreements at June 30, 2000 and December 31, 1999 was
$2.9 billion and $2.8 billion, respectively. The fair value of such agreements
at June 30, 2000 and December 31, 1999 would have been an asset of $14.5 million
and a liability of $389.0 million, respectively. The aggregate amount of foreign
currency denominated debt obligations designated as hedges of the Company's net
investment in its foreign subsidiary was $225.5 million at June 30, 2000, which
approximated fair value. The Company did not utilize foreign currency
denominated debt as a hedge of its net investment at December 31, 1999. The
effect of including these hedge instruments on interest expense in the Company's
restated financial statements was not significant.
76
<PAGE> 77
ASSOCIATES CORPORATION OF NORTH AMERICA
NOTES TO CONSOLIDATED INTERIM FINANCIAL STATEMENTS -- (CONTINUED)
Foreign currency swap agreements have been designated for accounting
purposes as hedges of specific foreign currency exposures under certain debt
obligations. Under these agreements, the Company and the agreement
counterparties are obligated to exchange specific foreign currencies at varying
times over the next 4 years. The aggregate notional amount of these agreements
at June 30, 2000 and December 31, 1999 was $7.0 billion and $5.9 billion,
respectively. The fair value of such agreements at June 30, 2000 and December
31, 1999 would have been a liability of $303.0 million and $307.9 million,
respectively.
Interest rate swap and interest rate option agreements are used by the
Company to hedge the effect of interest rate movements on existing debt and
anticipated debt and asset securitization transactions. The aggregate notional
amount of interest rate swap agreements at June 30, 2000 and December 31, 1999
was $13.0 billion and $9.2 billion, respectively. The fair value of such
agreements at June 30, 2000 and December 31, 1999 would have been a liability of
$50.7 million and $46.3 million, respectively. The aggregate notional amount of
interest rate option agreements was $1.5 billion at June 30, 2000. The fair
value of such agreements would have been an asset of $1.2 million at June 30,
2000. Interest rate swap and interest rate option agreements mature on varying
dates over the next 30 years.
Treasury futures and option contracts are used to minimize fluctuations in
the value of preferred stock investments. The aggregate notional amount of
futures and option contracts at June 30, 2000 and December 31, 1999 was $308.9
million and $536.2 million, respectively. The fair value of these contracts
would have been a liability of $1.9 million and an asset of $12.4 million at
June 30, 2000 and December 31, 1999, respectively. Such contracts mature on
varying dates through 2000.
Municipal bond futures are used to minimize fluctuations in the value of
municipal bond investments. The aggregate notional amount of municipal bond
futures contracts at June 30, 2000 and December 31, 1999 was $243.7 million and
$180.1 million, respectively. The fair value of these contracts would have been
a liability of $5.0 million at June 30, 2000 and an asset of $2.4 million at
December 31, 1999. Such contracts mature on varying dates through 2000.
NOTE 11 -- SUBSEQUENT EVENT
In August 2000, following the contribution of the Contributed Entities to
ACONA, the Company declared a dividend to First Capital in the amount of
approximately $3.0 billion.
On September 5, 2000, First Capital and Citigroup Inc. entered into an
agreement and plan of merger whereby First Capital will be merged with and into
Citigroup Inc. (the "Agreement"). Under the Agreement, which was filed as a Form
8-K dated September 6, 2000, holders of First Capital common stock will receive
0.7334 shares of Citigroup Inc. common stock for each share of First Capital
common stock.
77
<PAGE> 78
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis has been prepared in accordance with
General Instruction H. 2)(a) to Form 10-Q, and should be read in conjunction
with the consolidated financial statements of the Company and the related notes
thereto.
RESULTS OF OPERATIONS
The discussion that follows includes amounts reported in the historical
financial statements ("Owned Basis") adjusted on a pro forma basis to include
certain effects of receivables held for securitization and receivables sold with
servicing retained ("Managed Basis"). This presentation excludes the receivables
of Arcadia securitized prior to the acquisition of Arcadia by First Capital and
subsequent contribution to the Company. Prior to the second quarter of 2000 and
prior to the contribution of the Contributed Entities, the Company discussed the
results of operations on an Owned Basis. Management believes the discussion of
proforma Managed Basis information is useful in evaluating the Company's
operating performance due to increased securitization activity during 1999 and
2000. Prior period amounts have been restated to reflect the current period
presentation. On an Owned Basis, the net earnings on the Company's retained
securitization interests and receivables held for securitization or sale, as
well as gains from subsequent sales in revolving securitization structures, are
included in servicing related income in the consolidated statement of earnings.
On a proforma Managed Basis, these earnings are reclassified and presented as if
the receivables had neither been held for securitization nor sold. The initial
gains recorded on securitization transactions are recorded in investment and
other income on both an Owned and Managed Basis.
The following tables contain selected Managed Basis financial information
(in millions):
<TABLE>
<CAPTION>
SIX MONTHS ENDED THREE MONTHS ENDED
JUNE 30 JUNE 30
-------------------- --------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Finance charges........................... $6,087.1 $5,182.0 $3,135.8 $2,615.7
Insurance premiums........................ 550.0 513.0 277.2 258.9
Investment and other income............... 532.1 413.8 355.5 248.2
-------- -------- -------- --------
Total revenue................... 7,169.2 6,108.8 3,768.5 3,122.8
-------- -------- -------- --------
Interest expense.......................... 2,145.5 1,747.7 1,176.4 893.3
Operating expenses........................ 1,986.4 1,813.4 1,018.8 909.1
Provision for losses...................... 1,210.3 998.8 621.2 503.9
Insurance benefits paid or provided....... 269.5 218.9 144.0 115.2
-------- -------- -------- --------
Total expenses.................. 5,611.7 4,778.8 2,960.4 2,421.5
Earnings before provision for income
taxes................................... 1,557.5 1,330.0 808.1 701.3
Provision for income taxes................ 569.8 504.2 294.6 270.4
-------- -------- -------- --------
Net earnings.............................. $ 987.7 $ 825.8 $ 513.5 $ 430.9
======== ======== ======== ========
</TABLE>
<TABLE>
<CAPTION>
JUNE 30 DECEMBER 31
2000 1999
--------- -----------
<S> <C> <C>
Net Finance Receivables
End of period............................................. $83,236.1 $77,139.3
Average................................................... 80,187.7 73,301.0
Total Assets
End of period............................................. $94,003.8 $86,944.3
Average................................................... 90,474.0 84,263.8
</TABLE>
Net Earnings
Net earnings on an owned and managed basis increased to $987.7 million for
the six-month period ended June 30, 2000 from $825.8 million for the same period
in the previous year. Net earnings increased for the
78
<PAGE> 79
three-month period ended June 30, 2000 to $513.5 million as compared to $430.9
million in the prior year period. The principal factors that influenced the
changes in the Company's net earnings are described in the sections that follow.
Finance Charges
Finance charge revenue on a Managed Basis increased for the six and
three-month periods ended June 30, 2000, compared to the same periods in the
prior year, principally as a result of growth in average managed finance
receivables outstanding. Finance charge revenue as a percentage of average
managed finance receivables ("Finance Charge Ratio") increased to 15.18% and
15.40% for the six and three-month periods ended June 30, 2000, respectively,
from 14.74% and 14.88% for the comparable periods in 1999. The increase in the
Finance Charge Ratio was primarily due to higher new business yields in response
to the rising interest rate environment and a shift in product mix toward a
higher percentage of unsecured managed finance receivables to total managed
finance receivables during both comparative periods. Unsecured portfolios
generally have higher finance charge rates than secured portfolios.
Interest Expense -- Managed Basis
Managed Basis interest expense increased to $2.1 billion and $1.2 billion
for the six and three-month periods ended June 30, 2000, respectively, from $1.7
billion and $0.9 billion for the respective six and three-month periods ended
June 30, 1999. This increase was primarily due to an increase in average debt
outstanding for each of the comparative periods. The increase in average debt
outstanding principally resulted from the growth in average net finance
receivables. Debt is the primary source of funding to support the Company's
growth in net finance receivables. In addition, an increase in the Company's
total average borrowing rate in both comparable periods also contributed to the
increase.
Net Interest Margin -- Managed Basis
As a result of the factors discussed in the finance charges and interest
expense sections above, Managed Basis net interest margin increased to $3.9
billion and $2.0 billion for the six and three-month periods ended June 30,
2000, respectively, compared to $3.4 billion and $1.7 billion for the comparable
periods in the prior year. The Company's Managed Basis net interest margin
expressed as a ratio to average managed finance receivables also improved to
9.83% and 9.62% for the six and three-month periods ended June 30, 2000,
respectively, compared to 9.77% and 9.80% for the comparable periods in the
prior year.
Investment and Other Income -- Managed Basis
Investment and other income, on a Managed Basis, was $532.1 million and
$355.5 million for the six and three-month periods ended June 30, 2000,
respectively, compared to $413.8 million and $248.2 million for the comparable
periods in 1999. The increase in investment and other income is due primarily to
securitization gains of approximately $53 million in the six months ended June
30, 2000 and an increase in interest income on notes receivable from related
parties.
Operating Expenses
Six and three-month operating expenses for the periods ended June 30, 2000
were higher on a dollar basis than in the corresponding periods in 1999,
reflecting growth in the size of the Company and business mix. Operating
expenses as a percentage of average managed finance receivables ("Operating
Expense Ratio") decreased to 4.95% and 5.00% for the six and three months ended
June 30, 2000, respectively, compared to 5.16% and 5.17% for the same periods in
the prior year.
The Company's efficiency ratio, measured as the ratio of total Managed
Basis operating expenses divided by total Managed Basis revenue net of Managed
Basis interest expense and insurance benefits paid or provided, was 41.8% and
41.7% for the six and three-month periods ended June 30, 2000, respectively,
compared to 43.8% and 43.0% for the same periods in the prior year. The decrease
in the efficiency ratio for both periods is primarily related to the integration
and other costs of the Avco acquisition, including amortization of goodwill and
other intangible assets, during the six and three months ended June 30, 1999.
79
<PAGE> 80
Provision for Losses
The Company's Managed Basis provision for losses increased to $1.2 billion
for the first six months of 2000 from $1.0 billion for the same period in 1999.
The provision for losses for the three-month period ended June 30, 2000
increased to $621.2 million from $503.9 million in the prior year period. In
both periods, the provision increased principally as a result of increased
Managed Basis net credit losses.
Total Managed Basis net credit losses as a percentage of average managed
finance receivables (the "Loss Ratio") were 2.79% and 2.74% for the six and
three-month periods ended June 30, 2000, respectively, compared to 2.78% and
2.83% for the same periods in 1999. The decrease in the Loss Ratio for the three
months ended June 30, 2000 was primarily due to a decrease in loss rates in the
home equity, personal lending and credit card receivables portfolios.
FINANCIAL CONDITION
Managed finance receivables increased $6.1 billion to $83.2 billion during
the six-month period ended June 30, 2000 primarily due to the Arcadia
transaction described in Note 3 of the financial statements and growth in the
home equity portfolio.
Composite 60+days contractual delinquency from operations was 2.61% of
gross managed finance receivables at June 30, 2000, compared to 2.83% at
December 31, 1999. This decrease is primarily a result of lower delinquencies in
the home equity, personal lending and credit card portfolios.
Company management believes the allowance for losses at June 30, 2000 is
sufficient to provide adequate coverage against losses in its portfolios.
Liquidity/Capital Resources
Through its asset and liability management function, the Company maintains
a disciplined approach to the management of liquidity, capital, interest rate
risk and foreign exchange risk. The Company has a formal process for managing
its liquidity to ensure that funds are available at all times to meet the
Company's commitments.
The Company's principal sources of cash are proceeds from the issuance of
short- and long-term debt, cash provided from the Company's operations and asset
securitizations. Management believes that the Company has available sufficient
liquidity to support its operations from a combination of cash provided from
operations, external borrowings and asset securitizations. The company maintains
an effective shelf registration statement for the issuance of debt related
securities with remaining capacity of $1.1 billion. In July 2000, the Company
filed a shelf registration statement for the issuance of debt related securities
with a capacity of $16.1 billion.
A principal strength of the Company is its ability to access the global
debt and equity markets in a cost-efficient manner. Continued access to the
public and private debt markets is critical to the Company's ability to continue
to fund its operations. The Company seeks to maintain a conservative liquidity
position and actively manages its liability and capital levels, debt maturities,
diversification of funding sources and asset liquidity to ensure that it is able
to meet its obligations as they mature. The Company's domestic operations are
principally funded through domestic and international borrowings and asset
securitizations. The Company's foreign subsidiaries are principally financed
through private and public debt borrowings in the transactional currency and
fully hedged intercompany borrowings.
At June 30, 2000, the Company had short- and long-term debt outstanding of
$22.1 billion and $41.2 billion, respectively. Short-term debt principally
consists of commercial paper and represents the Company's primary source of
short-term liquidity. Long-term debt principally consists of senior unsecured
long-term debt issued publicly and privately in the United States and abroad.
During the six months ended June 30, 2000 and 1999, the Company raised term debt
aggregating $7.8 billion and $8.3 billion, respectively, through public and
private offerings.
80
<PAGE> 81
Substantial additional liquidity is available to the Company's operations
through established credit facilities in support of its net commercial paper
program. Such credit facilities provide a means of refinancing its maturing
short-term obligations as needed. At June 30, 2000, these credit facilities were
allocated to provide at least 75% backup coverage of the Company's recurring
commercial paper borrowings and utilized uncommitted lines of credit. Under a
debt covenant associated with a syndicated credit facility, the Company requires
a minimum tangible net worth of $3.5 billion. At June 30, 2000, the Company's
tangible net worth, as defined in the syndicated credit facilities, was
approximately $11.1 billion.
The Company has access to other sources of liquidity such as the issuance
of alternative forms of capital and the increased use of asset securitization.
The Company's securitization transactions up to this point have included the
home equity and credit card asset-backed classes. The Company has additional
asset classes in its portfolio which can be securitized, including asset classes
within its foreign operations.
Certain debt issues are subject to put or call redemption provisions
whereby repayment may be required prior to the maturity date. As applicable, the
amount of the option premium received by the Company is deferred and amortized
over the expected life. Additionally, the Company has written put options in
aggregate of up to $3.3 billion principal amounts of certificates backed by
finance receivables which requires it, under certain circumstances, to purchase,
upon request of the holder, the securities issued. The Company has recorded a
liability of $19 million in connection with these options.
As part of its risk management activities, the Company hedges its net
investments in its Japanese subsidiaries. To date the Company has used forward
contracts to hedge the Yen denominated net investment. Beginning in the second
quarter of 2000, the Company has begun to transition to other hedging
instruments by shortening the maturity of its forward contracts. In June 2000,
the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 138 ("SFAS 138"). This Statement, which is an amendment
to SFAS 133, addresses a limited number of issues causing implementation
difficulties for numerous entities that have applied SFAS 133 and is effective
for the Company beginning January 1, 2001. Subsequent to evaluating the impact
of the amendment, the Company has completed the process of evaluating various
strategies which management believes will qualify for hedge accounting treatment
under SFAS 133. During the remainder of the year, the Company will transition to
these new strategies and information systems as necessary in order to be fully
compliant prior to January 1, 2001. It is not anticipated that the
implementation of SFAS 133 will cause a material impact on the Company's
operating results.
During the first quarter of 2000, the credit ratings of the Company were
lowered. Fitch IBCA ("Fitch") lowered the long-term and short-term credit
ratings of the Company to AA-/F1+. The ratings of the Company remain on a
negative outlook. The action taken by Fitch brought the ratings of the Company
into alignment with the other major rating agencies. In addition, Standard &
Poors lowered its long-term and short-term credit ratings of the Company to
A+/A1 with a stable outlook. These actions moderately increased the Company's
borrowing rate in the public bond markets to support the Company's ongoing
operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market risks related to fluctuations in interest
rates. The discussion that follows reflects material changes in the
"Quantitative and Qualitative Disclosure about Market Risk" reported at year
end, and, as such, should be read in conjunction with the restated consolidated
financial statements and footnotes thereto for the year ended December 31, 1999,
included in this Form 8-K. Estimated amounts generated from the analysis that
follows are forward-looking statements of market risk assuming certain adverse
market conditions occur. Actual results in the future may differ materially from
these projected results due to changes in the Company's product and debt mix and
developments in the global financial markets.
Interest Rate Risk -- Managed Basis
Interest rate risk is measured and controlled through the use of static gap
analysis and financial forecasting, both of which incorporate assumptions about
future events. At both June 30, 2000 and December 31, 1999, the one-year gap was
a positive 5%. A positive one-year gap indicates that a greater percentage of
assets versus liabilities will reprice within a one-year time frame.
81
<PAGE> 82
The Company also uses a simulation model to evaluate the impact on
earnings. For an immediate 1% increase in rates, projected annual after-tax
earnings on managed assets would have increased by approximately 1% at June 30,
2000 and less than 1% at December 31, 1999. An immediate 1% rise in interest
rates is a hypothetical rate scenario, used to calibrate risk, and does not
currently represent the Company's view of future market developments.
For purposes of the United States Securities and Exchange Commission
disclosure requirements, the Company has also performed an enterprise-wide value
at risk ("VAR") analysis of the Company's Managed assets and liabilities and
their exposure to changes in interest rates. At June 30, 2000 and December 31,
1999, interest rate movements would affect annual after-tax earnings by
approximately $40 million and $19 million, respectively, as calculated under the
VAR methodology.
PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Federal Trade Commission ("FTC") has referred to the Department of
Justice its investigation into the pricing practices of Detroit area mortgage
brokers doing business with a Company subsidiary in 1995 and 1996. The FTC has
asked the Department of Justice to consider whether to file a lawsuit against
the Company for alleged broker loan pricing disparities based on race. Even if
the Department of Justice files suit against the Company, the Company does not
believe any such suit, even if decided against the Company, would have a
material effect on the Company's financial condition or results of operations.
In addition, the Company, like many other companies that operate in
regulated businesses, is from time to time the subject of various governmental
inquiries and investigations. See Item 3 -- "Legal Proceedings" on page 19 of
this Form 8-K for further information.
82
<PAGE> 83
(iii) FINANCIAL STATEMENTS OF
CONTRIBUTED ENTITIES FOR THE YEARS ENDED
DECEMBER 31, 1999, 1998 AND 1997 (AUDITED)
AND FOR THE SIX MONTHS ENDED
JUNE 30, 2000 AND 1999 (UNAUDITED)
83
<PAGE> 84
CONTRIBUTED ENTITIES
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
The following financial information is included on the pages indicated:
PAGE
----
<S> <C>
- Report of Independent Auditors................................. 85
- Combined Statement of Earnings for the years ended December 31, 1999,
1998 and 1997 (Audited) and for the six months ended June 30, 2000
and 1999 (Unaudited)........................................... 86
- Combined Balance Sheet at December 31, 1999 and 1998 (Audited) and at
June 30, 2000 (Unaudited)...................................... 87
- Combined Statement of Changes in Stockholder's Equity for the years
ended December 31, 1999, 1998 and 1997 (Audited) and for the six
months ended June 30, 2000 (Unaudited)......................... 88
- Combined Statement of Cash Flows for the years ended December 31,
1999, 1998 and 1997 (Audited) and for the six months ended June 30,
2000 and 1999 (Unaudited)...................................... 89
- Notes to Combined Financial Statements......................... 90
</TABLE>
84
<PAGE> 85
REPORT OF INDEPENDENT AUDITORS
Board of Directors
Associates Corporation of North America
We have audited the accompanying combined balance sheet of the Contributed
Entities (see Note 1) as of December 31, 1999 and 1998, and the related combined
statements of earnings, changes in stockholder's equity, and cash flows for each
of the three years in the period ended December 31, 1999. These combined
financial statements are the responsibility of the management of Associates
Corporation of North America. Our responsibility is to express an opinion on
these combined financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the combined financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the combined
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 combined financial statements referred to above present
fairly, in all material respects, the combined financial position of the
Contributed Entities as of December 31, 1999 and 1998, and the combined results
of their operations and their cash flows for each of the three years in the
period ended December 31, 1999 in conformity with accounting principles
generally accepted in the United States.
/s/ ERNST & YOUNG LLP
Dallas, Texas
August 31, 2000
85
<PAGE> 86
CONTRIBUTED ENTITIES
COMBINED STATEMENT OF EARNINGS
(IN MILLIONS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30 YEAR ENDED DECEMBER 31
------------------------- ------------------------------
2000 1999 1999 1998 1997
----------- ----------- -------- -------- --------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
REVENUE
Finance charges.......................... $1,612.2 $1,281.3 $2,760.9 $1,575.4 $ 951.2
Servicing related income................. 810.0 445.3 1,034.0 584.5 --
Insurance premiums....................... 350.4 323.8 675.8 87.6 49.0
Investment and other income.............. 85.1 169.6 274.1 54.6 8.7
-------- -------- -------- -------- --------
2,857.7 2,220.0 4,744.8 2,302.1 1,008.9
-------- -------- -------- -------- --------
EXPENSES
Interest expense......................... 523.8 468.8 941.9 564.3 159.1
Operating expenses....................... 1,146.8 945.1 1,950.1 987.3 409.5
Provision for losses on finance
receivables........................... 386.7 215.3 432.5 278.2 142.1
Insurance benefits paid or provided...... 185.3 144.3 298.6 14.1 3.6
-------- -------- -------- -------- --------
2,242.6 1,773.5 3,623.1 1,843.9 714.3
-------- -------- -------- -------- --------
EARNINGS BEFORE PROVISION FOR INCOME
TAXES.................................... 615.1 446.5 1,121.7 458.2 294.6
PROVISION FOR INCOME TAXES................. 346.7 205.4 497.1 227.8 142.2
-------- -------- -------- -------- --------
NET EARNINGS............................... $ 268.4 $ 241.1 $ 624.6 $ 230.4 $ 152.4
======== ======== ======== ======== ========
</TABLE>
See notes to combined financial statements.
86
<PAGE> 87
CONTRIBUTED ENTITIES
COMBINED BALANCE SHEET
(DOLLARS IN MILLIONS)
<TABLE>
<CAPTION>
DECEMBER 31
JUNE 30 ---------------------
2000 1999 1998
----------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
CASH AND CASH EQUIVALENTS.................................. $ 352.6 $ 668.9 $ 1,069.8
INVESTMENTS IN DEBT AND EQUITY SECURITIES.................. 4,022.9 3,917.9 4,682.4
FINANCE RECEIVABLES, net of unearned finance income,
allowance for credit losses and insurance policy and
claims reserves.......................................... 16,621.7 14,629.5 8,456.8
NOTES RECEIVABLE FROM RELATED PARTIES...................... -- 517.6 141.8
OTHER ASSETS............................................... 5,624.0 4,217.1 2,841.3
--------- --------- ---------
Total assets..................................... $26,621.2 $23,951.0 $17,192.1
========= ========= =========
LIABILITIES AND STOCKHOLDER'S EQUITY
NOTES PAYABLE
Commercial Paper......................................... $ 2,434.4 $ 2,693.2 $ 1,513.9
Bank Loans............................................... 228.4 240.8 494.8
ACCOUNTS PAYABLE AND ACCRUALS.............................. 2,270.4 2,263.5 1,606.6
NOTES PAYABLE TO RELATED PARTIES........................... 11,972.3 9,715.2 6,806.0
LONG-TERM DEBT............................................. 5,609.0 5,121.6 3,982.0
STOCKHOLDER'S EQUITY
Equity of Contributed Entities........................... 2,414.2 2,409.9 2,001.3
Retained Earnings of Contributed Entities................ 1,395.2 1,173.8 595.5
Accumulated Other Comprehensive Income................... 297.3 333.0 192.0
--------- --------- ---------
Total stockholder's equity....................... 4,106.7 3,916.7 2,788.8
--------- --------- ---------
Total liabilities and stockholder's equity....... $26,621.2 $23,951.0 $17,192.1
========= ========= =========
</TABLE>
See notes to combined financial statements.
87
<PAGE> 88
CONTRIBUTED ENTITIES
COMBINED STATEMENT OF CHANGES IN STOCKHOLDER'S EQUITY
(IN MILLIONS)
<TABLE>
<CAPTION>
ACCUMULATED
RETAINED OTHER
EQUITY OF EARNINGS OF COMPREHENSIVE TOTAL
CONTRIBUTED CONTRIBUTED INCOME STOCKHOLDER'S
ENTITIES ENTITIES (LOSS) EQUITY
------------ ----------- ------------- -------------
<S> <C> <C> <C> <C>
DECEMBER 31, 1996........................... $ 798.8 $ 262.7 $ 222.8 $1,284.3
Comprehensive income
Net earnings........................... 152.4 152.4
Other comprehensive loss, net of tax... (117.9) (117.9)
-------- ------- --------
Total comprehensive income
(loss).......................... 152.4 (117.9) 34.5
Dividends................................. (50.0) (50.0)
-------- -------- ------- --------
DECEMBER 31, 1997........................... 798.8 365.1 104.9 1,268.8
Comprehensive income
Net earnings........................... 230.4 230.4
Other comprehensive income, net of
tax.................................. 87.1 87.1
-------- ------- --------
Total comprehensive income........ 230.4 87.1 317.5
Contributions from parent................. 1,202.5 1,202.5
-------- -------- ------- --------
DECEMBER 31, 1998........................... 2,001.3 595.5 192.0 2,788.8
Comprehensive income
Net earnings........................... 624.6 624.6
Other comprehensive income, net of
tax.................................. 141.0 141.0
-------- ------- --------
Total comprehensive income........ 624.6 141.0 765.6
Contributions from parent................. 508.6 508.6
Dividends................................. (46.3) (46.3)
Other..................................... (100.0) (100.0)
-------- -------- ------- --------
DECEMBER 31, 1999........................... 2,409.9 1,173.8 333.0 3,916.7
Comprehensive income
Net earnings (Unaudited)............... 268.4 268.4
Other comprehensive loss, net of tax
(Unaudited).......................... (35.7) (35.7)
-------- -------- ------- --------
Total comprehensive income (loss)
(Unaudited)..................... 268.4 (35.7) 232.7
Contributions from parent (Unaudited)..... 4.3 4.3
Dividends (Unaudited)....................... (47.0) (47.0)
-------- -------- ------- --------
JUNE 30, 2000 (Unaudited)................... $2,414.2 $1,395.2 $ 297.3 $4,106.7
======== ======== ======= ========
</TABLE>
See notes to combined financial statements.
88
<PAGE> 89
CONTRIBUTED ENTITIES
COMBINED STATEMENT OF CASH FLOWS
(IN MILLIONS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30 YEAR ENDED DECEMBER 31
------------------------- ----------------------------------
2000 1999 1999 1998 1997
----------- ----------- ---------- --------- ---------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
Cash Flows from Operating Activities
Net earnings.................................. $ 268.4 $ 241.1 $ 624.6 $ 230.4 $ 152.4
Adjustments to reconcile net earnings for
non-cash and other operating activities:
Provision for losses on finance
receivables............................... 386.7 215.3 432.5 278.2 142.1
Amortization of goodwill and other
intangible assets......................... 77.6 61.7 147.6 68.7 27.3
Depreciation and other amortization......... 53.1 32.2 70.1 13.6 17.4
Increase (decrease) in insurance policy and
claims reserves........................... 2.4 (0.6) (1.6) 6.6 1.3
Deferred income taxes....................... (24.2) 30.7 79.2 26.2 (17.3)
Increase (decrease) in accounts payable and
accruals.................................. 42.7 135.0 (151.9) 110.2 32.1
Net gain on sale of assets and other........ (5.1) (5.8) (64.4) -- --
---------- ---------- ---------- --------- ---------
Net cash provided from operating
activities........................... 801.6 709.6 1,136.1 733.9 355.3
---------- ---------- ---------- --------- ---------
Cash Flows from Investing Activities
Finance receivables originated or purchased... (10,116.3) (8,581.5) (15,443.5) (7,170.5) (4,270.6)
Finance receivables liquidated................ 7,335.1 5,864.3 10,707.1 6,355.8 2,842.4
Acquisition of loan portfolios and other
finance businesses, net..................... (1,974.0) (1,444.8) (1,444.8) (9,563.5) (39.7)
Proceeds from securitizations of finance
receivables................................. 337.5 649.0 3,222.5 3,325.0 --
Sale of finance businesses and branches....... -- 189.5 359.4 -- --
Purchases of available-for-sale securities.... (201.2) (1,349.0) (1,491.8) (38.6) (36.0)
Sales and maturities of available-for-sale
securities.................................. 229.4 1,472.8 976.1 41.5 23.2
Increase (decrease) in notes receivable from
related parties and other assets............ (153.6) (176.2) (443.1) 261.1 (179.4)
---------- ---------- ---------- --------- ---------
Net cash used for investing
activities........................... (4,543.1) (3,375.9) (3,558.1) (6,789.2) (1,660.1)
---------- ---------- ---------- --------- ---------
Cash Flows from Financing Activities
Issuance of long-term debt.................... 1,248.2 1,086.6 1,304.8 1,006.9 816.7
Retirement of long-term debt.................. (1,007.6) (628.8) (1,200.8) (688.4) (413.8)
(Decrease) increase in notes payable.......... (196.4) (834.9) (554.7) 734.3 419.8
Cash dividends................................ (47.0) -- (46.3) -- (50.0)
Cash contributions from First Capital......... 4.3 392.5 449.5 185.5 --
Increase in notes payable to related
parties..................................... 3,425.8 1,761.8 2,162.8 5,788.8 526.5
Other financing activities.................... -- -- (100.0) -- --
---------- ---------- ---------- --------- ---------
Net cash provided from financing
activities........................... 3,427.3 1,777.2 2,015.3 7,027.1 1,299.2
---------- ---------- ---------- --------- ---------
Effect of foreign currency translation
adjustment on cash............................ (2.1) 34.6 5.8 (21.5) 15.1
---------- ---------- ---------- --------- ---------
(Decrease) increase in cash and cash
equivalents................................... (316.3) (854.5) (400.9) 950.3 9.5
Cash and cash equivalents at beginning of the
period........................................ 668.9 1,069.8 1,069.8 119.5 110.0
---------- ---------- ---------- --------- ---------
Cash and cash equivalents at end of the
period........................................ $ 352.6 $ 215.3 $ 668.9 $ 1,069.8 $ 119.5
========== ========== ========== ========= =========
Supplemental Disclosures of Cash Flow
Information:
Cash paid for:
Interest.................................... $ 289.7 $ 211.1 $ 299.0 $ 183.3 $ 125.4
Income taxes................................ 215.3 18.7 133.2 68.3 184.2
Noncash activities:
Contribution of Avco Financial Services,
Inc. assets............................... -- 59.1 59.1 -- --
Contribution of Contributed Entities
acquired during 1998...................... -- 1,017.0 --
</TABLE>
See notes to combined financial statements.
89
<PAGE> 90
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS
NOTE 1 -- THE CONTRIBUTED ENTITIES
Certain indirect wholly-owned subsidiaries of Associates First Capital
Corporation (collectively, the "Contributed Entities") were contributed to
Associates Corporation of North America, a Delaware corporation, which is a
wholly-owned subsidiary of Associates First Capital Corporation, effective
August 30, 2000. The Contributed Entities consist of ACONA B.V., AIC Associates
Canada Holdings, Inc., Associates Capital Corporation of Canada, Associates
Commerce Solutions, Inc., Associates Credit Card Services, Inc., Associates
International Holdings Corporation, Atlantic General Insurance Limited, Atlantic
Reinsurance Limited, Associates Finance of Virgin Islands, L.L.C., Avco
Financial Services of Hawaii, Inc., Avco Financial Services (Mauritius) L.L.C.,
Avco Financial Services One, Inc., Avco Financial Services Limited, Avco
Sociedade Gestora de Participacoes Sociais, S.A. and The Northland Company. In
addition, these financial statements include the financial results of Balboa
Casualty and Life Insurance Companies and Avco Financial Services International
Inc. which comprised the Australian and New Zealand Avco operations. These
operations were acquired as part of the Avco acquisition and subsequently sold
prior to the contribution of the Contributed Entities. The Contributed Entities
are a group of diversified financial services companies providing finance,
leasing, insurance and related services to individual consumers and businesses
in the United States and international markets, including Japan, Canada and the
United Kingdom.
In order for Associates First Capital Corporation ("First Capital") and
Associates Corporation of North America ("ACONA") to more efficiently and
effectively access global capital markets, a reorganization of ACONA and First
Capital has occurred. First Capital contributed the Contributed Entities to
ACONA in a single transaction. The common ownership of the entities involved was
initially with First Capital and was transferred to ACONA where they are
maintained under common ownership. Prior to First Capital's acquisition by Ford
Motor Company ("Ford") in 1989, all of the international and domestic finance
operations were owned by ACONA. When Ford acquired First Capital in 1989, Ford
transferred ACONA's ownership in the international operations to certain
subsidiaries of Ford. The contribution as described herein returns ACONA to its
former operational structure while solidifying First Capital's global funding
presence under ACONA. Further, management believes the contribution of the
Contributed Entities will enhance ACONA's liquidity, access and execution in the
global capital markets.
The accompanying combined financial statements of the Contributed Entities
for the three years in the period ending December 31, 1999, present the
financial position and results of operations of the Contributed Entities as if
they were always operating as a single entity. As these entities were not
operating as a single entity at any time for any period, the financial position
and results of operations presented in the accompanying combined financial
statements may not be reflective of the actual results that may have been
achieved if these entities had been operating as a single entity.
NOTE 2 -- SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies:
Basis of Presentation
The combined financial statements include the accounts of the Contributed
Entities and their subsidiaries, after elimination of all significant
intercompany balances and transactions.
The preparation of these combined financial statements in conformity with
generally accepted accounting principles requires the use of management
estimates. These estimates are subjective in nature and involve matters of
judgment. Actual results could differ from these estimates.
Data for the interim periods presented is unaudited but, in the opinion of
management of ACONA, such data reflects all adjustments, consisting only of
normal, recurring accruals, necessary for a fair presentation of
90
<PAGE> 91
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
the results and financial position of such periods. Results for the six months
ended June 30, 2000 and 1999 are not necessarily indicative of the results that
may be expected for the entire year.
Revenue Recognition
Finance charges on receivables are recognized as revenue using the interest
(actuarial) method. Premiums and discounts on purchased receivables are
considered as yield adjustments. The unamortized balance is included in finance
receivables and the associated amortization is included in finance charge
revenue. Finance charge accruals are generally suspended on accounts when they
become 60 days contractually delinquent. The accrual is resumed when the loan
becomes contractually current. At both December 31, 1999 and 1998, net finance
receivables on which revenue was not accrued approximated $0.4 billion and $0.3
billion, respectively. The interest income that would have been recorded in 1999
and 1998 if these nonaccruing receivables had been current was approximately $10
million.
Insurance premiums are recorded as unearned premiums when collected or when
written and are subsequently amortized into income based on the nature and term
of the underlying insurance contracts. The methods of amortization used are pro
rata, sum-of-the-years-digits and a combination thereof.
Gains or losses on sales of securities classified as available-for-sale are
included in investment and other income when realized. Unrealized gains or
losses on securities classified as available-for-sale are reported, net of tax,
as a component of accumulated other comprehensive income. Realized and
unrealized gains or losses on trading securities (principally preferred stock)
are included in investment and other income as incurred. The cost basis of
securities sold is determined by the first-in, first-out method.
Advertising Costs
Advertising costs are expensed as incurred. The advertising costs for 1999,
1998 and 1997 were $197.9 million, $118.8 million and $52.0 million,
respectively.
Receivables Sold with Servicing Retained
The Contributed Entities periodically securitize certain pools of
receivables in both public and private markets and account for such transactions
in accordance with Statement of Financial Accounting Standards No. 125 ("SFAS
125"), Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities. Under SFAS 125, a sale is recognized when
control over the receivables is relinquished. In applying SFAS 125, the
Contributed Entities recognize the resulting gains at the time of initial sale.
Initial gains on securitization transactions as well as the income earned on
securitization related securities retained by the Contributed Entities,
including the recognition of the yield on such securities, are recorded in the
combined statement of earnings as investment and other income.
Initial gains on securitization transactions represent the difference
between the net proceeds received and the allocated carrying amount of the
receivables sold. The allocation of carrying amount is based on the relative
fair value of the individual financial components sold and retained pursuant to
the transaction. The financial components typically consist of such items as the
interests sold, retained senior securities, retained subordinated securities,
retained interest only strips and retained servicing rights. No servicing asset
or liability has been recorded related to the securitization transactions
because the Contributed Entities earn service fees at rates which approximate
adequate compensation.
Senior securities are typically valued at par while subordinated securities
are typically valued at a discount using an estimated market discount rate and
cash flow estimates which consider the effects prepayments and losses will have
on the timing of the subordinated interest cash flows. The fair value of
interest only strips represents the present value of future excess cash flows,
using the "cash-out" method. Such future cash flows are estimated using
valuation assumptions appropriate for the type of receivable and
91
<PAGE> 92
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
transaction structure. The resulting estimated cash flows represent the
difference between the finance charge and fee income received from the obligors
on the finance receivables and the sum of the interest paid to the investors in
the asset-backed securities, credit losses, servicing fees and other expenses.
Significant valuation assumptions relate to the average lives of the receivables
sold, including the anticipated prepayment speeds and the anticipated credit
losses, as well as the appropriate market discount rate.
The securitization related securities are accounted for under Statement of
Financial Accounting Standards No. 115, Accounting for Certain Investments in
Debt and Equity Securities. Because such assets can be contractually prepaid or
otherwise settled in such a way that the holder would not recover all of its
recorded investment, the assets are classified as available-for-sale investments
and measured at fair value. Any unrealized holdings gains or losses are
reported, net of income tax effects, as a component of accumulated other
comprehensive income in the combined balance sheet until realized. On a
quarterly basis, the Contributed Entities assess the carrying value of its
securitization related securities for impairment. If a decline in fair value is
deemed other than temporary, the securities are adjusted to their fair value
through a charge to operations.
There can be no assurance that the Contributed Entities' estimates used to
determine the fair value of the securitization related securities, including
those used to determine the related gains, will remain appropriate for the life
of each securitization.
Finance Receivables
Receivables origination and commitment fees and loan origination costs
generally are deferred and amortized as a component of finance charges over the
life of the related receivable. Receivables which are expected to be securitized
and sold are included in other assets as receivables held for sale and recorded
at the lower of cost or market. The aggregate method is used in determining the
lower of cost or market of receivables held for sale. Finance receivables
include the Contributed Entities' share of aggregate rentals on lease financing
transactions and residual values, net of related unearned income. Lease
financing transactions are principally direct financing leases. Unearned income
is amortized under a method which substantially results in an approximately
level rate of return when related to the unrecovered lease investment. Gains and
losses from sales of residual values of leased equipment are included in finance
charges.
Allowance for Losses on Finance Receivables
The Contributed Entities maintain an allowance for losses on finance
receivables at an amount that it believes is sufficient to provide for losses in
its existing receivables portfolios. The allowance is determined principally on
the basis of historical loss experience, and reflects management's judgment of
the present loss exposure at the end of the period considering economic
conditions and the nature and characteristics of the underlying finance
receivables. The Contributed Entities record an allowance for losses when it
believes the event causing the loss has occurred. The allowance is evaluated on
an aggregate basis considering, among other things, the relationship of the
allowance to net finance receivables and historical net credit losses. Additions
to the allowance are generally charged to the provision for losses on finance
receivables. An analysis of changes in the allowance for losses is contained in
Note 7 to the combined financial statements.
Finance receivables are charged to the allowance for losses when they are
deemed to be uncollectible. Additionally, the Contributed Entities' policy
provides for charge-off of various types of accounts on a contractual basis.
Consumer direct and other installment and credit card receivables are generally
charged to the allowance for losses when they become 180 days contractually
delinquent. All other finance receivables are generally charged to the allowance
for losses when any of the following conditions occur: (i) the related security
has been converted or destroyed; (ii) the related security has been repossessed
and sold or held for sale for one year; or (iii) the related security has not
been repossessed and the receivable has become contractually delinquent for one
year. A contractually delinquent account is one on which the customer has
92
<PAGE> 93
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
not made payments as contractually agreed. Recoveries on losses previously
charged to the allowance are credited to the allowance at the time recovery is
collected.
Although the allowance for losses on finance receivables reflected in the
Contributed Entities' combined balance sheet at December 31, 1999 is considered
adequate by the Contributed Entities' management, there can be no assurance that
this allowance will prove to be adequate over time to cover ultimate losses in
connection with the Contributed Entities' finance receivables. This allowance
may prove to be inadequate due to unanticipated adverse changes in the economy
or discrete events adversely affecting specific customers or industries. The
Contributed Entities' results of operations and financial condition could be
materially adversely affected to the extent that the Contributed Entities'
allowance is insufficient to cover such changes or events.
Insurance Reserves
The reserves for future benefits and refunds upon cancellation of credit
life and health insurance and property and casualty insurance are provided for
in the unearned premium reserve for each class of insurance. In addition,
reserves for reported claims on credit accident and health insurance are
established based on standard morbidity tables used in the insurance business
for such purposes. Claim reserves for reported property and casualty insurance
claims are based on estimates of costs and expenses to settle each claim.
Additional amounts of reserves, based on prior experience and insurance in
force, are provided for each class of insurance for claims which have been
incurred but not reported as of the balance sheet date.
Intangible Assets
Amounts of goodwill relating to acquisitions are being amortized by the
straight-line method over periods not exceeding forty years. Other intangible
assets, which are made up primarily of customer lists, operating agreements and
trademarks are amortized using the straight-line method over the assets'
estimated useful lives ranging from five to twenty years. The carrying value of
goodwill and the other intangible assets is reviewed if the facts and
circumstances suggest that it may be impaired. If the review indicates that
goodwill or the other intangible assets will not be recoverable, as determined
based on undiscounted cash flows, the carrying value of the goodwill or the
other intangible asset is reduced by the estimated short-fall of discounted cash
flows.
Foreign Currency
Assets and liabilities of the Contributed Entities' foreign operations are
translated at the rate of exchange in effect on the balance sheet date; income
and expenses are translated at the average rate of exchange prevailing during
the year. The related balance sheet translation adjustments are reflected in the
stockholder's equity section of the combined balance sheet while the impact of
foreign currency changes on income and expense items are included in earnings.
Foreign currency transactions resulted in a net loss of approximately $0.7
million in the year ended December 31, 1999. Foreign currency transactions
resulted in a net gain of approximately $0.5 million in the year ended December
31, 1998. In 1997, there was no significant gain or loss on foreign currency
transactions.
Income Taxes
Deferred tax assets and liabilities are determined based on the difference
between the financial statement and tax basis of assets and liabilities using
statutory tax rates in effect for the year in which the differences are expected
to reverse.
93
<PAGE> 94
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Cash and Cash Equivalents
The Contributed Entities consider all highly liquid investments with a
maturity of three months or less when purchased to be cash equivalents. The
amounts reported in the combined balance sheet approximate fair value.
Segment Reporting
In 1998, the Contributed Entities adopted Statement of Financial Accounting
Standards No. 131 ("SFAS 131") Disclosures about Segments of an Enterprise and
Related Information. SFAS 131 supersedes Statement of Financial Accounting
Standards No. 14, Financial Reporting for Segments of a Business Enterprise,
replacing the "industry segment" approach with the "management" approach. The
management approach designates the internal organization that is used by
management for making operating decisions and assessing performance as the
source of reportable segments. Pursuant to the provisions of SFAS 131, no
segment disclosures are required because the Contributed Entities are not
managed on a segment basis.
Derivative Financial Instruments
The Contributed Entities use derivative financial instruments for the
purpose of hedging exposures as part of its risk management program and
generally holds all derivatives for purposes other than trading. Deferral
(hedge) accounting is applied only if the derivative reduces the risk of the
underlying hedged item and is designated at inception as a hedge with respect to
the underlying hedged item. Additionally, the derivative must result in cash
flows that are expected to be inversely correlated to those of the underlying
hedged item. Such instruments to date have been limited to currency swap,
interest rate swap and treasury lock agreements and treasury futures and option
contracts. See Note 17 to the combined financial statements for additional
information related to derivative financial instruments.
Currency and interest rate swap agreements are used to hedge debt
obligations and financing transactions. Accordingly, the differential paid or
received by the Contributed Entities on these agreements is recognized as an
adjustment to interest expense over the term of the underlying transaction.
Recent Accounting Pronouncements
Statement of Financial Accounting Standards No. 133 ("SFAS 133"),
Accounting for Derivative Instruments and Hedging Activities, was issued by the
Financial Accounting Standards Board in June 1998. This Statement requires
companies to record derivatives on the balance sheet as assets or liabilities,
measured at fair value. Generally, changes in the fair value of derivatives must
be recognized in income when they occur, except when the derivative qualifies as
a hedge in accordance with the standard. This statement will be effective for
the Contributed Entities beginning January 1, 2001. In June 2000, the Financial
Accounting Standards Board issued Statement of Financial Accounting Standards
No. 138 ("SFAS 138"). This Statement, which is an amendment to SFAS 133,
addresses a limited number of issues causing implementation difficulties for
numerous entities that have applied SFAS 133. Subsequent to evaluating the
impact of the amendment, the Contributed Entities have completed the process of
evaluating various strategies which management believes will qualify for hedge
accounting treatment under SFAS 133. During the remainder of the year, the
Contributed Entities will transition to these new strategies and information
systems as necessary in order to be fully compliant prior to January 1, 2001. It
is not anticipated that the implementation of SFAS 133 will cause a material
impact on the Contributed Entities' operating results.
94
<PAGE> 95
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 3 -- SIGNIFICANT TRANSACTIONS
Significant 2000 Acquisitions
In January 2000, First Capital, through its subsidiary, Associates National
Bank ("ANB"), entered into an agreement with KeyCorp, under which the companies
will jointly manage KeyCorp's credit card program. Additionally, First Capital
acquired KeyCorp's credit card receivables portfolio with a fair market value of
$1.3 billion and intangible assets, primarily related to customer lists and
operating agreements, of approximately $350 million for $1.7 billion. Although
ANB maintains the relationship with KeyCorp, the Contributed Entities will
receive revenues from participation rights which were transferred to ACONA as
part of the August 30, 2000 contribution from First Capital.
In July 2000, First Capital completed the purchase of approximately $630
million in credit card receivables from Zale Corporation ("Zale") and entered
into an operating agreement for Zale's on-going credit card business. These
receivables were participated to the Company through a participation agreement
with a subsidiary of First Capital
Significant 1999 Acquisitions
On January 6, 1999, First Capital purchased the assets and assumed the
liabilities of Avco Financial Services, Inc. ("Avco"). First Capital
subsequently transferred substantially all of the finance operations of Avco to
ACONA, which at the time included approximately $9 billion in assets. As part of
August 30, 2000 contribution, the Avco operations became part of the Contributed
Entities. Prior to the acquisition, Avco had the fourth largest U.S. consumer
finance branch network and operations in Canada, the United Kingdom, Puerto
Rico, France, Sweden, Spain, Ireland and India. Avco's product offerings
included home equity lending, retail sales finance and consumer loans,
equipment, inventory and vendor finance, and credit and collateral-related
insurance. During 1999, 156 former Avco branches (128 domestic and 28 Canadian)
were sold.
Significant 1998 Acquisitions
In December 1998, First Capital acquired the Northland Company
("Northland") for approximately $660 million. Based in St. Paul, Minnesota,
Northland provides insurance products through Jupiter Holdings, Inc. and
mortgage banking, real estate management brokerage and related services through
various other subsidiaries. First Capital acquired the insurance related
business of Northland only. Northland divested its other businesses prior to
acquisition. Northland became part of the Contributed Entities that First
Capital contributed to the Company on August 30, 2000.
In October 1998, First Capital purchased substantially all of the assets of
SPS Transaction Services, Inc. ("SPS"), including its wholly-owned subsidiaries,
SPS Payment Systems Inc. and Hurley State Bank. In addition, First Capital
purchased certain receivables managed by SPS that were owned by an affiliate of
SPS, Mountain West Financial Corporation. The total purchase price was
approximately $1.4 billion. SPS processed credit card transactions, administers
consumer private-label credit card programs, processes commercial accounts
receivable and handles inbound telemarketing services. First Capital completed
this transaction in October 1998, which added approximately $2.1 billion in
managed credit card receivables. On August 30, 2000, First Capital contributed
its ownership of SPS Payment Systems to the Company as part of the Contributed
Entities.
In April 1998, First Capital acquired DIC Finance, Co. Ltd., a consumer
finance company based in Japan. The fair market value of total assets acquired
and liabilities assumed was approximately $1.9 billion and $1.3 billion,
respectively. As part of the August 30, 2000 contribution to the Company, First
Capital transferred its ownership of DIC Financial Co. Ltd. As part of the
Contributed Entities.
95
<PAGE> 96
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
In February 1998, First Capital acquired Beneficial Canada Holdings
Incorporated ("Beneficial"), the Canadian consumer finance subsidiary of
Beneficial Corporation. The fair market value of total assets acquired and
liabilities assumed was approximately $1.0 billion and $716 million,
respectively. Beneficial became part of the Contributed Entities that First
Capital contributed to the Company on August 30, 2000.
All of the transactions described above were accounted for as purchases,
and as such, the results of these operations are included in the consolidated
results of the Contributed Entities from the respective acquisition dates.
NOTE 4 -- COMPREHENSIVE INCOME (LOSS)
The Contributed Entities adopted Statement of Financial Accounting
Standards No. 130 ("SFAS 130"), Reporting Comprehensive Income on January 1,
1998. SFAS 130 requires the reporting of all items which are required to be
recognized under generally accepted accounting standards as components of
comprehensive income (loss) in the financial statements. Accordingly, total
comprehensive income (loss) for the years ended 1999, 1998 and 1997 is reported
in the Contributed Entities' combined statement of changes in stockholder's
equity. Total accumulated other comprehensive income is reported in the
Contributed Entities' combined balance sheet. The components of accumulated
other comprehensive income, net of tax, are as follows (in millions):
<TABLE>
<CAPTION>
DECEMBER 31
JUNE 30 ------------------------
2000 1999 1998 1997
----------- ------ ------ ------
(UNAUDITED)
<S> <C> <C> <C> <C>
Foreign currency translation adjustments........ $326.0 $353.7 $191.7 $104.8
Net unrealized (loss) gain on available-for-sale
securities.................................... (28.7) (20.7) 0.3 0.1
------ ------ ------ ------
Accumulated other comprehensive income.......... $297.3 $333.0 $192.0 $104.9
====== ====== ====== ======
</TABLE>
The components of other comprehensive income (loss) are as follows (in
millions):
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30, 2000
-----------------------------------
TAX
BEFORE TAX (EXPENSE) NET-OF-TAX
AMOUNT BENEFIT AMOUNT
---------- --------- ----------
(UNAUDITED)
<S> <C> <C> <C>
Foreign currency translation adjustments............. $(42.6) $14.9 $(27.7)
Unrealized losses on available-for-sale securities:
Unrealized holding losses arising during the
period.......................................... (27.8) 9.7 (18.1)
Reclassification for gains realized in net
income.......................................... 15.5 (5.4) 10.1
------ ----- ------
Net unrealized losses........................... (12.3) 4.3 (8.0)
------ ----- ------
Other comprehensive loss........................... $(54.9) $19.2 $(35.7)
====== ===== ======
</TABLE>
96
<PAGE> 97
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1999
-----------------------------------
TAX
BEFORE TAX (EXPENSE) NET-OF-TAX
AMOUNT BENEFIT AMOUNT
---------- --------- ----------
<S> <C> <C> <C>
Foreign currency translation adjustments............. $249.2 $(87.2) $162.0
Unrealized losses on available-for-sale securities:
Unrealized holding losses arising during the
period.......................................... (30.5) 10.7 (19.8)
Reclassification for losses realized in net
income.......................................... (1.8) 0.6 (1.2)
------ ------ ------
Net unrealized losses........................... (32.3) 11.3 (21.0)
------ ------ ------
Other comprehensive income......................... $216.9 $(75.9) $141.0
====== ====== ======
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1998
-----------------------------------
TAX
BEFORE TAX (EXPENSE) NET-OF-TAX
AMOUNT BENEFIT AMOUNT
---------- --------- ----------
<S> <C> <C> <C>
Foreign currency translation adjustments............. $133.7 $(46.8) $86.9
Unrealized losses on available-for-sale securities:
Unrealized holding gains arising during the
period.......................................... 3.0 (1.0) 2.0
Reclassification for losses realized in net
Income.......................................... (2.7) 0.9 (1.8)
------ ------ -----
Net unrealized gains............................ 0.3 (0.1) 0.2
------ ------ -----
Other comprehensive income......................... $134.0 $(46.9) $87.1
====== ====== =====
</TABLE>
NOTE 5 -- INVESTMENTS IN DEBT AND EQUITY SECURITIES
Available-for-Sale Securities
Available-for-sale securities consist of retained securitization interests
(as described in Note 2), bonds, notes and preferred stock and other equity
securities. The Contributed Entities invest in these securities with the
intention of holding them to maturity. However, if market conditions change, the
Contributed Entities may sell them prior to maturity. Accordingly, the
Contributed Entities classify these securities as available-for-sale securities
and adjust their recorded value to market.
During the six months ended June 30, 2000, gross realized gains and losses
on sales of investment in debt and equity securities amounted to $2.0 million
and $0.7 million, respectively. During the year ended December 31, 1999, gross
realized gains and losses on sales of investments in debt and equity securities
amounted to $0.4 million and $0.3 million, respectively. During the year ended
December 31, 1998, there were no gross realized gains or losses. Unrealized
gains or losses are reported as a component of stockholders' equity, net of tax.
97
<PAGE> 98
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
The following tables set forth, by type of security issuer, the amortized
cost, gross unrealized holding gains, gross unrealized holding losses, and
estimated market value at June 30, 2000 and December 31, 1999 and 1998 (in
millions):
<TABLE>
<CAPTION>
JUNE 30, 2000
-----------------------------------------------
GROSS GROSS
UNREALIZED UNREALIZED ESTIMATED
AMORTIZED HOLDING HOLDING MARKET
COST GAINS LOSSES VALUE
--------- ---------- ---------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C>
Retained securitization interests........... $3,095.4 $ -- $(18.6) $3,076.8
Insurance subsidiaries
Mortgage-backed........................... 275.4 1.9 (5.1) 272.2
Municipal obligations..................... 158.1 -- (5.5) 152.6
Corporate obligations..................... 271.4 0.2 (11.6) 260.0
Preferred stock........................... 78.6 0.3 (3.4) 75.5
U.S. Government obligations............... 112.8 -- (2.4) 110.4
Other..................................... 75.4 0.8 (0.8) 75.4
-------- ---- ------ --------
Total available-for-sale
securities...................... $4,067.1 $3.2 $(47.4) $4,022.9
======== ==== ====== ========
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, 1999
-----------------------------------------------
GROSS GROSS
UNREALIZED UNREALIZED ESTIMATED
AMORTIZED HOLDING HOLDING MARKET
COST GAINS LOSSES VALUE
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
Retained securitization interests........... $2,968.9 $ -- $ (3.9) $2,965.0
Insurance subsidiaries
Mortgage-backed........................... 231.4 -- (4.4) 227.0
Municipal obligations..................... 209.0 0.1 (7.5) 201.6
Corporate obligations..................... 265.7 0.2 (10.8) 255.1
Preferred stock........................... 75.4 1.0 (4.5) 71.9
U.S. Government obligations............... 133.5 0.2 (2.9) 130.8
Other..................................... 66.0 1.3 (0.8) 66.5
-------- ---- ------ --------
Total available-for-sale
securities...................... $3,949.9 $2.8 $(34.8) $3,917.9
======== ==== ====== ========
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, 1998
-----------------------------------------------
GROSS GROSS
UNREALIZED UNREALIZED ESTIMATED
AMORTIZED HOLDING HOLDING MARKET
COST GAINS LOSSES VALUE
--------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
Retained securitization interests............ $3,870.8 $0.9 $ -- $3,871.7
Insurance subsidiaries
Mortgage-backed............................ 153.4 -- -- 153.4
Municipal obligations...................... 241.3 -- -- 241.3
Corporate obligations...................... 188.6 -- -- 188.6
Preferred stock............................ 34.3 -- -- 34.3
U.S. Government obligations................ 25.8 -- -- 25.8
Other...................................... 167.0 0.3 -- 167.3
-------- ---- ---- --------
Total available-for-sale
securities....................... $4,681.2 $1.2 $ -- $4,682.4
======== ==== ==== ========
</TABLE>
98
<PAGE> 99
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
The amortized cost and estimated market value of available-for-sale
securities at December 31, 1999 by contractual maturity are shown below (in
millions):
<TABLE>
<CAPTION>
ESTIMATED
AMORTIZED MARKET
COST VALUE
--------- ---------
<S> <C> <C>
Due in one year or less..................................... $ 86.2 $ 86.0
Due after one year through five years....................... 257.8 252.8
Due after five years through ten years...................... 288.1 277.1
Due after ten years......................................... 268.3 259.2
-------- --------
Subtotal.................................................. 900.4 875.1
-------- --------
Equity securities........................................... 80.6 77.8
Retained securitization interests........................... 2,968.9 2,965.0
-------- --------
Total............................................. $3,949.9 $3,917.9
======== ========
</TABLE>
NOTE 6 -- FINANCE RECEIVABLES
Composition of Net Finance Receivables
At December 31, 1999 and 1998 and June 30, 2000, net finance receivables
consisted of the following products (in millions):
<TABLE>
<CAPTION>
JUNE 30 DECEMBER 31 DECEMBER 31
2000 1999 1998
----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C>
Personal lending and retail sales finance........ $ 9,324.0 $ 8,094.1 $4,893.0
Home equity...................................... 3,293.1 3,092.9 2,022.4
Credit card...................................... 1,869.4 1,372.6 1,274.4
Truck and truck trailer.......................... 1,288.2 1,297.6 745.6
Equipment........................................ 915.3 903.2 562.5
Auto fleet leasing............................... 590.7 560.6 118.3
Manufactured housing............................. -- 22.3 10.9
Warehouse lending and other(1)................... 146.1 77.5 42.1
--------- --------- --------
Finance receivables, net of unearned finance
income ("net finance receivables")(2)....... 17,426.8 15,420.8 9,669.2
Allowance for losses on finance receivables...... (659.7) (646.2) (512.3)
Insurance policy and claims reserves(3).......... (145.4) (145.1) (700.1)
--------- --------- --------
Finance receivables, net of unearned finance
income, allowance for losses and insurance
policy and claims reserves.................. $16,621.7 $14,629.5 $8,456.8
========= ========= ========
</TABLE>
---------------
(1) Includes warehouse lending, government guaranteed lending and public
finance.
(2) Unearned finance income was approximately $489.1 million, $693.0 million and
$408.3 million at June 30, 2000, December 31, 1999 and 1998, respectively.
(3) At December 31, 1998, insurance policy and claims reserves included
approximately $678 million of non-affiliate insurance reserves. The December
31, 1999 balance only includes affiliate insurance reserves: non-affiliate
insurance reserves of approximately $721 million are included in accounts
payable and accruals.
99
<PAGE> 100
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Securitizations and Sales of Finance Receivables
During 1999, approximately $1.6 billion of the Contributed Entities'
private label credit card receivables were securitized and sold to a master
trust. Additionally, approximately $2.3 billion of the Contributed Entities'
investment in the bankcard securitization master trust formed in 1998 was sold
during 1999. The Contributed Entities received $3.2 billion in proceeds from
these transactions, of which $2.6 billion was in the fourth quarter, and
retained securitization interests in the master trust of approximately $770
million.
During the fourth quarter of 1998, approximately $1.8 billion of the
Contributed Entities' private label credit card receivables were securitized and
sold to a master trust. The Contributed Entities received $1.3 billion in
proceeds from the transaction and retained a $500 million certificated interest
in the master trust.
During the second quarter of 1998, approximately $5.2 billion of the
Contributed Entities' U.S. bankcard credit card receivables were securitized and
sold to a master trust. The Contributed Entities received $2.0 billion in
proceeds from the transaction and retained a $3.2 billion certificated interest
in the master trust.
In the aggregate, the Contributed Entities recorded a net gain of
approximately $50 million in 1999 on the above transactions. No significant net
gain or loss was recorded in the 1998 securitization transactions.
In each of these transactions, the Contributed Entities retained servicing
responsibilities for the receivables sold. The retained securitization
interests, as described in Notes 2 and 5, are classified as available-for-sale
investment securities on the consolidated balance sheet.
The table below summarizes the significant assumptions used to value the
Contributed Entities retained securitization interests at December 31, 1999:
<TABLE>
<CAPTION>
CREDIT
CARD
------
<S> <C>
Weighted average discount rate(1)........................... 12%
Projected prepayment rate................................... n/m
Projected loss rate(2)...................................... 8-10%
</TABLE>
---------------
(1) Represents the weighted average discount rate used to value the retained
interest components which include interest only strips and subordinated and
other retained interests.
(2) Loss rates are annualized and exclude recoveries for credit card.
The above assumptions are consistent with those used to determine the
initial retained interest valuation and the gains on 1999 securitization
transactions. In addition to the assumptions noted above, the Contributed
Entities utilized certain transaction structures that included put options
written by ACONA to the investors. See Note 16 for additional information.
Contractual Maturities of Net Finance Receivables
At December 31, 1999, contractual maturities of net finance receivables
were as follows (in millions):
<TABLE>
<CAPTION>
YEAR DUE TOTAL
-------- ---------
<S> <C>
2000...................................................... $ 3,259.5
2001...................................................... 2,394.2
2002...................................................... 1,958.9
2003...................................................... 2,271.9
2004 and thereafter....................................... 5,536.3
---------
$15,420.8
=========
</TABLE>
100
<PAGE> 101
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
It is the Contributed Entities' experience that a substantial portion of
the consumer loan portfolio generally is renewed or repaid prior to contractual
maturity dates. The above maturity schedule should not be regarded as a forecast
of future cash collections.
Direct Financing Leases
Included in net finance receivables are direct financing leases as follows
(in millions):
<TABLE>
<CAPTION>
DECEMBER 31
JUNE 30 -----------------
2000 1999 1998
----------- -------- ------
(UNAUDITED)
<S> <C> <C> <C>
Minimum lease rentals................................. $1,143.7 $1,003.9 $505.4
Unearned finance income............................... (113.3) (94.7) (74.1)
-------- -------- ------
Net investment in direct financing leases............. $1,030.4 $ 909.2 $431.3
======== ======== ======
</TABLE>
Future net minimum lease rentals on direct financing leases for each of the
years succeeding December 31, 1999 are as follows (in millions): 2000 -- $213.0;
2001 -- $154.3; 2002 -- $166.7; 2003 -- $205.8; 2004 -- $151.0 and 2005 and
thereafter -- $18.4.
Dispersion of Finance Receivables
The Contributed Entities have geographically dispersed finance receivables.
At December 31, 1999, approximately 4% of the Contributed Entities' Owned Basis
total receivables were dispersed across the United States, and the remaining 96%
were in foreign countries. Of the total receivables 49% were in Japan, 27% in
Canada and 17% in the United Kingdom; no other individual state or country had
more than 2%.
Information About Geographic Areas
Finance charges by geographic area are as follows (in millions):
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30
-------------------
2000 1999
-------- --------
(UNAUDITED)
<S> <C> <C>
Finance charges
Japan..................................................... $ 972.3 $ 731.6
Canada.................................................... 312.9 263.2
United Kingdom............................................ 228.3 203.5
United States............................................. 29.8 30.3
All other................................................. 68.9 52.7
-------- --------
Combined finance charges............................... $1,612.2 $1,281.3
======== ========
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
----------------------------
1999 1998 1997
-------- -------- ------
<S> <C> <C> <C>
Finance charges
Japan................................................. $1,628.5 $1,042.7 $696.1
Canada................................................ 553.8 256.5 94.7
United Kingdom........................................ 424.6 215.6 146.0
United States......................................... 52.7 25.7 0.7
All other............................................. 101.3 34.9 13.7
-------- -------- ------
Combined finance charges........................... $2,760.9 $1,575.4 $951.2
======== ======== ======
</TABLE>
101
<PAGE> 102
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Information About Major Customers
The Contributed Entities have no customer that represents greater than 10%
of total combined revenue.
NOTE 7 -- ALLOWANCE FOR LOSSES ON FINANCE RECEIVABLES
Changes in the allowance for losses on finance receivables during the
periods indicated were as follows (in millions):
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30 YEAR ENDED DECEMBER 31
------------------------- ---------------------------
2000 1999 1999 1998 1997
----------- ----------- ------- ------- -------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C>
Balance at beginning of period.... $ 646.2 $ 512.3 $ 512.3 $ 209.9 $ 164.3
Provision for losses............ 386.7 215.3 432.5 278.2 142.1
Recoveries on receivables
charged off.................. 57.3 62.3 83.7 70.7 28.7
Losses sustained................ (350.3) (267.7) (528.6) (319.6) (111.1)
Reserves of receivables sold.... -- (33.8) (33.8) -- --
Reserves of acquired businesses
and other.................... (80.2) 99.8 180.1 273.1 (14.1)
------- ------- ------- ------- -------
Balance at end of period.......... $ 659.7 $ 588.2 $ 646.2 $ 512.3 $ 209.9
======= ======= ======= ======= =======
</TABLE>
NOTE 8 -- TRANSACTIONS AND BALANCES WITH RELATED PARTIES
Notes receivable from related parties include advances provided by the
Contributed Entities to First Capital, ACONA and certain affiliates. These
transactions initially are structured as unsecured non-interest bearing lines of
credit. If the amount advanced remains outstanding at month-end, such amount is
automatically converted into an unsecured, interest bearing demand note. The
weighted average interest rate at June 30, 2000 and December 31, 1999 was 6.75%
and 5.59% respectively. During the six months ended June 30, 2000, interest
income on notes receivable from related parties was $10.8 million. During the
year ended December 31, 1999, interest income on notes receivable from related
parties was $27.9 million. No interest income was recorded in 1998 and 1997.
Notes payable to related parties include advances provided to the
Contributed Entities by First Capital, ACONA and certain affiliates. These
transactions initially are structured as unsecured non-interest bearing lines of
credit. If the amount advanced remains outstanding at month-end, such amount is
automatically converted into an unsecured, interest bearing demand note. The
weighted average interest rate at June 30, 2000, December 31, 1999 and December
31, 1998 was 5.00%, 4.12% and 5.68%, respectively. During the six months ended
June 30, 2000, the Contributed Entities had interest expense related to the
notes payable to related parties of $213.0 million. During the years ended
December 31, 1999, 1998, and 1997 interest expense on notes payable to related
parties was $374.6 million, $297.0 million and $9.9 million respectively.
The Contributed Entities entered into an income sharing agreement with an
affiliate under which the Contributed Entities received an advance of Y158.3
billion (approximately $1.5 billion at December 31, 1999). The advance is
recorded as part of Notes Receivable from Related Parties. Under this agreement,
the affiliate participates in the income of the Contributed Entities Japan
Subsidiary. The interest expense recorded by the Contributed Entities was $109.8
million, $169.4 million and $41.2 million for the six months ended June 30, 2000
and the years ended December 31, 1999 and 1998, respectively.
ACONA provides certain services of an administrative nature, use of certain
tangible and intangible assets including trademarks, guarantees of debt support
agreements and related interest, and other management services to the
Contributed Entities. Services and usage are charged based on the nature of the
102
<PAGE> 103
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
service. Fees for financial accommodations range from 0.25% to 2.00% of the
average outstanding debt guaranteed. Management believes such charges reflect
the market value for such services, usage and guarantees. The amounts paid or
accrued under these arrangements for the years ended December 31, 1999, 1998 and
1997 were $84.5 million, $59.2 million and $48.9 million, respectively.
During 1999, the Contributed Entities transferred the Balboa Life and
Casualty Insurance Group and the consumer and commercial finance operations in
Australia and New Zealand to First Capital. These operations were subsequently
sold by First Capital. The 1999 net earnings of $46.3 million recorded by these
operations were included in the Contributed Entities financial statements and
subsequently distributed to First Capital through a non-cash transaction.
At December 31, 1999 and 1998, ACONA was a guarantor on debt and related
accrued interest of one of the Contributed Entities amounting to $4.0 billion
and $2.7 billion, respectively.
At December 31, 1999 and 1998, net finance receivables included
participation in credit card receivables owned or originated by ANB and Hurley
State Bank ("HSB") affiliates of the Company. These receivables were acquired at
par value. The balances of these receivables were approximately $600 million at
both December 31, 1999 and 1998.
NOTE 9 -- OTHER ASSETS
The components of other assets at December 31, 1999 and 1998 and June 30,
2000 were as follows (in millions):
<TABLE>
<CAPTION>
DECEMBER 31
JUNE 30 -------------------
2000 1999 1998
----------- -------- --------
(UNAUDITED)
<S> <C> <C> <C>
Goodwill, net(1)..................................... $1,545.5 $1,738.0 $1,436.0
Finance receivables held for sale or
securitization..................................... 1,463.8 153.0 --
Other intangible assets, net......................... 1,403.9 974.4 662.2
Notes and other receivables.......................... 899.5 1,074.4 471.8
Property and equipment............................... 218.1 195.2 186.3
Collateral held for resale........................... 79.0 68.6 35.1
Other................................................ 14.2 13.5 49.9
-------- -------- --------
Total other assets......................... $5,624.0 $4,217.1 $2,841.3
======== ======== ========
</TABLE>
---------------
(1) Net of accumulated amortization of $346.8 million, $295.1 million and $195.8
million at June 30, 2000, December 31, 1999 and December 31, 1998,
respectively.
Reductions as a result of goodwill amortization were $66.8 million and
$44.4 million for 1999 and 1998, respectively. Reductions as a result of other
intangible asset amortization were $80.8 million and $24.3 million,
respectively.
NOTE 10 -- CREDIT FACILITIES
At December 31, 1999 and June 30, 2000, the Contributed Entities had the
following amounts available under its credit facilities (in millions):
<TABLE>
<CAPTION>
JUNE 30 DECEMBER 31
2000 1999
----------- -----------
(UNAUDITED)
<S> <C> <C>
Lines of credit............................................. $ 85.3 $ 19.3
Syndicated credit facilities................................ 2,677.5 2,821.1
-------- --------
Total............................................. $2,762.8 $2,840.4
======== ========
</TABLE>
103
<PAGE> 104
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Lines of credit and syndicated credit facilities may be withdrawn only
under certain standard conditions, including failure to pay principal or
interest when due, breach of representations, warranties or covenants, default
on other debt, or bankruptcy or other insolvency-type proceedings. The
Contributed Entities principally pay fees for the availability of its credit
facilities.
NOTE 11 -- NOTES PAYABLE
Commercial paper notes are issued by the Contributed Entities in the
minimum amount of $100,000 with terms from one to 270 days. Bank loan terms
range from three to 18 days. Information pertaining to the Contributed Entities'
commercial paper notes and bank loans is set forth below for the periods
indicated (dollar amounts in millions):
<TABLE>
<CAPTION>
COMMERCIAL BANK
PAPER NOTES LOANS
----------- ------
<S> <C> <C>
Ending balance at June 30, 2000 (unaudited)................. $2,434.4 $228.4
Weighted average interest rate at June 30, 2000
(unaudited)............................................... 5.83% 2.49%
Ending balance at December 31, 1999......................... $2,693.2 $240.8
Weighted average interest rate at December 31, 1999......... 5.30% 3.75%
Ending balance at December 31, 1998......................... $1,513.9 $494.8
Weighted average interest rate at December 31, 1998......... 5.64% 4.29%
</TABLE>
NOTE 12 -- LONG-TERM DEBT
Outstanding balances of long-term debt at December 31, 1999 and 1998 and
June 30, 2000 were as follows (in millions):
<TABLE>
<CAPTION>
1999
1999 WEIGHTED-
INTEREST RATE AVERAGE MATURITIES JUNE 30 DECEMBER 31 DECEMBER 31
RANGE RATE THROUGH 2000 1999 1998
------------- --------- ---------- ----------- ----------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
Domestic Notes................. 7.81% 7.81% 2011 $ 30.0 $ 30.0 $ --
Foreign Notes:
Japan........................ 1.23%- 8.00% 2.57% 2004 2,416.0 2,062.2 1,889.5
Canada....................... 4.80%- 8.90% 5.86% 2004 2,110.7 1,971.8 1,336.0
United Kingdom............... 5.96%- 8.95% 6.37% 2004 878.1 928.6 226.8
All other.................... 0.22%-32.00% 14.75% 2004 174.2 129.0 529.7
-------- -------- --------
5,579.0 5,091.6 3,982.0
-------- -------- --------
Total long-term
debt............... $5,609.0 $5,121.6 $3,982.0
======== ======== ========
</TABLE>
The weighted average interest rate for total long-term debt was 4.78%,
4.86% and 6.10% at June 30, 2000, December 31, 1999 and December 31, 1998,
respectively.
Long-term borrowing maturities during the next five years, including the
current portion of notes payable after one year are: 2000 -- $1,308.2 million;
2001 -- $1,073.8 million; 2002 -- $1,228.5 million; 2003 -- $767.0 million;
2004 -- $724.2 million and 2005 and thereafter -- $19.9 million. Certain debt
issues are subject to put or call redemption provisions whereby repayment may be
prior to the maturity date. As applicable, the amount of the option premium
received by the Contributed Entities is deferred and amortized over the expected
life of the debt obligation.
104
<PAGE> 105
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 13 -- INCOME TAXES
The following table sets forth the components of the provision for income
taxes and deferred income tax for the periods indicated (in millions):
<TABLE>
<CAPTION>
UNITED
STATES
-------
FEDERAL FOREIGN TOTAL
------- ------- ------
<S> <C> <C> <C>
Six Months Ended June 30, 2000 (Unaudited)
Current................................................ $ 112.2 $258.7 $370.9
Deferred............................................... -- (24.2) (24.2)
------- ------ ------
$ 112.2 $234.5 $346.7
======= ====== ======
Six Months Ended June 30, 1999 (Unaudited)
Current................................................ $ 68.4 $106.3 $174.7
Deferred............................................... -- 30.7 30.7
------- ------ ------
$ 68.4 $137.0 $205.4
======= ====== ======
Year Ended December 31, 1999
Current................................................ $ 189.6 $228.3 $417.9
Deferred............................................... -- 79.2 79.2
------- ------ ------
$ 189.6 $307.5 $497.1
======= ====== ======
Year Ended December 31, 1998
Current................................................ $ 17.8 $183.8 $201.6
Deferred............................................... -- 26.2 26.2
------- ------ ------
$ 17.8 $210.0 $227.8
======= ====== ======
Year Ended December 31, 1997
Current................................................ $ (0.2) $159.7 $159.5
Deferred............................................... -- (17.3) (17.3)
------- ------ ------
$ (0.2) $142.4 $142.2
======= ====== ======
</TABLE>
The income tax provision for the Contributed Entities for the six month
period ended June 30, 2000 included the effect on the deferred tax balances of a
reduction in the Japanese statutory tax rate and a payment of $142 million to
the Japanese National Tax Authority (NTA) for settlement of a prior year audit
related to the income sharing agreement. The Contributed Entities are
considering amending the income sharing agreement on a prospective basis to
reflect the final arrangement with the NTA which could have the effect of
reducing pretax income of the Contributed Entities in future periods.
At December 31, 1999 and 1998 and at June 30, 2000, the components of the
Contributed Entities' net deferred tax liability were as follows (in millions):
<TABLE>
<CAPTION>
DECEMBER 31
JUNE 30 ------------------
2000 1999 1998
----------- ------- -------
(UNAUDITED)
<S> <C> <C> <C>
Deferred tax assets:
Provision for losses on finance receivables and
other.......................................... $ 198.2 $ 174.0 $ 185.3
Deferred tax liabilities:
Finance revenue and other......................... (526.5) (455.8) (344.2)
------- ------- -------
Net deferred tax liability..................... $(328.3) $(281.8) $(158.9)
======= ======= =======
</TABLE>
105
<PAGE> 106
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
The effective tax rate differed from the statutory United States federal
income tax rate as follows:
<TABLE>
<CAPTION>
% OF PRETAX INCOME
YEAR ENDED DECEMBER 31
-----------------------
1999 1998 1997
----- ----- -----
<S> <C> <C> <C>
Statutory tax rate.......................................... 35.0% 35.0% 35.0%
Foreign tax rate in excess of statutory tax rate............ 9.3 15.3 17.9
Non-deductible goodwill..................................... 1.7 2.1 1.4
Other....................................................... (1.7) (2.7) (6.0)
---- ---- ----
Effective tax rate........................................ 44.3% 49.7% 48.3%
==== ==== ====
</TABLE>
As the Contributed Entities is issuing separate financial statements, the
consolidated amount of current and deferred tax expense is allocated in
accordance with the Company's tax sharing agreement on a separate company basis.
NOTE 14 -- LEASE COMMITMENTS
Leases on the Contributed Entities' branch and operating center facilities
are primarily short-term and generally provide for renewal options not exceeding
the initial term. Total rent expense for the years ended December 31, 1999, 1998
and 1997 was $103.8 million, $68.0 million, and $43.1 million, respectively.
Minimum rental commitments as of December 31, 1999 for all noncancelable leases
(primarily office leases) for the years ending December 31, 2000, 2001, 2002,
2003 and 2004 are $49.9 million, $36.9 million, $27.8 million, $20.3 million and
$37.1 million, respectively, and $43.8 million thereafter.
NOTE 15 -- EMPLOYEE BENEFITS
Employees of the Contributed Entities participate in various qualified and
nonqualified pension and other post retirement benefit plans sponsored by First
Capital, which together cover substantially all United States-based employees
who meet certain eligibility requirements. The benefits of such plans can be
modified or terminated at the discretion of First Capital. The health care plans
are contributory, with participants' contributions adjusted annually; the life
insurance plans are also contributory.
Employees of the Contributed Entities participate in a defined contribution
plan sponsored by First Capital that covers substantially all United
States-based employees who meet certain eligibility requirements, is intended to
provide assistance in accumulating personal savings for retirement and is
designed to qualify for favorable tax treatment under Sections 401(a) and 401(k)
of the United States Internal Revenue Code of 1986, as amended. For the years
ended December 31, 1999, 1998 and 1997, the Contributed Entities' pre-tax
contributions to the plan were $9.2 million, $4.2 million and $3.0 million,
respectively. Among other options, the plan provides as an investment option the
Associates Stock Fund which invests principally in First Capital's Class A
Common Stock.
The Company participates in a discounted stock purchase plan which,
beginning in 1999, allows employees to purchase stock Class A Common Stock of
First Capital at a discount. The price of the stock is discounted 15% from the
closing price at the lower of the beginning or the end of the offering period.
Certain Japanese employees of the Contributed Entities also participate in
two qualified pension plans sponsored by First Capital, which cover
substantially all of the employees of its Japan operations who meet certain
eligibility requirements. For the year ended December 31, 1999 the Contributed
Entities' net periodic benefit cost of these plans was $4.7 million. As of
December 31, 1999 the total benefit obligation and fair value of plan assets was
$26.7 million and $28.3 million, respectively.
106
<PAGE> 107
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
Stock-Based Compensation Plans
The ICP also includes an equity compensation plan, formerly known as the
Long-Term Equity Compensation Plan, which was established in 1996 and amended
and merged into the ICP effective January 1, 1997. In conjunction with the ICP,
employees may receive nonqualified or incentive stock options, stock
appreciation rights, restricted stock, performance units or performance shares.
Through December 31, 1999, First Capital had only issued non-qualified stock
options and restricted stock under the ICP.
NOTE 16 -- COMMITMENTS, CONTINGENCIES AND LEGAL PROCEEDINGS
The Contributed Entities grant revolving lines of credit to certain of its
credit card and other revolving customers. At December 31, 1999, the unused
portion of these lines aggregated $5.2 billion.
The Contributed Entities also grant lines of credit to certain dealers of
trucks and construction equipment. At December 31, 1999, the unused portion of
these lines aggregated $7.4 million.
Various legal actions and proceedings and claims are pending or may be
instituted or asserted in the future against the Contributed Entities. Certain
of the pending legal actions are, or purport to be, class actions. Some of the
foregoing matters involve or may involve compensatory, punitive or treble damage
claims which, if adversely held against the Contributed Entities, would require
large expenditures or could affect the manner in which the Contributed Entities
conduct business.
In addition, the Contributed Entities, like many other companies that
operate in regulated businesses, are from time to time the subject of various
governmental inquiries and investigations. The Contributed Entities are
currently the subject of certain investigations and inquiries by federal and
state governmental authorities relating generally to the Contributed Entities'
lending practices. The Contributed Entities do not have sufficient information
to predict with certainty the ultimate outcome of such investigations and
inquiries or their ultimate effect, if any, on the Contributed Entities' results
of operations or financial condition or the manner in which the Contributed
Entities operate business.
Legal actions, governmental inquiries and investigations are subject to
many uncertainties, and the outcome of individual matters is not predictable
with assurance. Some of the matters discussed in the foregoing paragraphs could
be decided unfavorably to the Contributed Entities involved and could require
the Contributed Entities to pay damages or make other expenditures in amounts or
a range of amounts that cannot be estimated at December 31, 1999 and June 30,
2000. The Contributed Entities do not reasonably expect, based on their
analysis, that any adverse outcome from such matters would have a material
effect on future combined financial statements for a particular year, although
such an outcome is possible.
To broaden its investor base and improve execution in connection with its
asset securitization program, ACONA wrote "put options" which require it to
purchase, upon request of the holders, securities issued in a securitization
transaction. The terms of the put option were, exercisable any time after
February 17, 2000, with respect to an aggregate of up to $500 million principal
amounts of certificates backed by credit card receivables. On April 17, 2000,
the put option was exercised and resulted in the Contributed Entities
repurchasing $500 million in finance receivables. Such receivables were
securitized in a separate transaction in May 2000. The resulting change in value
of the related retained interests was not significant.
NOTE 17 -- FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISKS
The Contributed Entities maintain cash, cash equivalents, investments and
certain other financial instruments with various major financial institutions.
To the extent such deposits exceed maximum insurance levels, they are uninsured.
The Contributed Entities use derivative financial instruments for the
purpose of hedging specific exposures as part of its risk management program.
Instruments currently used by the Contributed Entities are
107
<PAGE> 108
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
foreign currency forward exchange, currency swap, interest rate swap, interest
rate option and municipal bond. All of these instruments are held for purposes
other than trading.
Foreign currency swap agreements have been designated for accounting
purposes as hedges of specific foreign currency exposures under certain debt
obligations. Under these agreements, the Contributed Entities and the agreement
counterparties are obligated to exchange foreign currencies at varying times
over the next three years. The aggregate notional amount of these agreements at
June 30, 2000, and December 31, 1999 and 1998 was $476.4 million, $563.6 million
and $823.1 million, respectively. The fair value of such agreements at June 30,
2000, and December 31, 1999 and December 31, 1998 would have been a liability of
$39.4 million, $57.0 million and $24.0 million, respectively.
Interest rate swap agreements are used by the Contributed Entities to hedge
the effect of interest rate movements on existing debt. The aggregate notional
amount of interest rate swap agreements at June 30, 2000 and December 31, 1999
was $1.5 billion and $1.6 billion, respectively. The fair value of such
agreements at June 30, 2000 would have been an asset of $4.0 million. The fair
value of such agreements at December 31, 1999 would have been an asset of $7.3
million. These agreements mature on varying dates over the next three years. The
aggregate notional amount of interest rate swap agreements at December 31, 1998
was $277.6 million. The fair value of such agreements at December 31, 1998 would
have been a liability of $5.8 million.
Treasury futures and option contracts are used to minimize fluctuations in
the value of preferred stock investments. The aggregate notional amount of
futures and option contracts at December 31, 1998 was $9.2 million. The fair
value of these contracts would have been a liability of $0.2 million at December
31, 1998. Such contracts mature on varying dates through 2000. Treasury futures
and option contracts were not utilized in 1999 or 2000 by the Contributed
Entities.
NOTE 18 -- FAIR VALUE OF FINANCIAL INSTRUMENTS
The information provided below is required by Statement of Financial
Accounting Standards No. 107, ("SFAS 107"), Disclosures about Fair Value of
Financial Instruments. Amounts disclosed represent estimates of fair values at a
particular point in time. Significant assumptions regarding economic conditions,
loss experience and risk characteristics associated with particular financial
instruments and other factors were used for purposes of this disclosure. These
assumptions are subjective in nature and involve matters of judgment. Changes in
assumptions could have a material impact on these estimates.
At December 31, 1999 and 1998, the carrying value and estimated fair value
of certain of the Contributed Entities' financial instruments were as follows
(in millions):
<TABLE>
<CAPTION>
DECEMBER 31
----------------------------------------------
1999 1998
---------------------- ---------------------
CARRYING ESTIMATED CARRYING ESTIMATED
VALUE FAIR VALUE VALUE FAIR VALUE
--------- ---------- -------- ----------
<S> <C> <C> <C> <C>
Cash and cash equivalents(1).............. $ 668.9 $ 668.9 $1,069.8 $ 1,069.8
Investment securities(2).................. 3,917.9 3,917.9 4,682.4 4,682.4
Net finance receivables(3)................ 15,420.8 17,243.0 9,669.2 11,707.0
Notes payable(1)
Commercial paper........................ 2,693.2 2,693.2 1,513.9 1,513.9
Bank loans.............................. 240.8 240.8 494.8 494.8
Long-term debt(4)......................... 5,121.6 5,237.8 3,982.0 4,061.9
</TABLE>
---------------
(1) The estimated fair value approximates their carrying value.
108
<PAGE> 109
CONTRIBUTED ENTITIES
NOTES TO COMBINED FINANCIAL STATEMENTS -- (CONTINUED)
(2) Estimated market values of investment securities are based on quoted market
prices, if available. If quoted prices are not available, the fair value was
estimated by discounting the expected cash flows from the investments at
discount rates which approximate the rates that would achieve an expected
return on assets with similar risk characteristics.
(3) In order to determine the fair values of loans, the loan portfolio was
segmented based on loan type, credit quality and repricing characteristics.
The fair value was estimated by discounting the expected cash flows from
such loans at discount rates which approximate gross finance charge rates
that would achieve an expected return on assets with similar risk
characteristics. The estimated fair value of the credit card receivables was
based on the Contributed Entities' experience in pricing similar portfolios
for acquisition purposes.
(4) The fair value of long-term debt was determined by discounting expected cash
flows at discount rates currently available to the Contributed Entities for
debt with similar terms and remaining maturities.
See Note 17 for fair value information regarding derivative financial
instruments.
NOTE 19 -- SUBSEQUENT EVENT
On September 5, 2000, First Capital and Citigroup Inc. entered into an
agreement and plan of merger whereby First Capital will be merged with and into
Citigroup Inc. (the "Agreement"). Under the Agreement, which was filed as a Form
8-K dated September 6, 2000, holders of First Capital common stock will receive
0.7334 shares of Citigroup Inc. common stock for each share of First Capital
common stock.
109
<PAGE> 110
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<C> <S>
12 -- Computation of Ratio of Earnings to Fixed Charges
23 -- Consent of Independent Auditors
23a -- Consent of Independent Auditors
27 -- Financial Data Schedule -- ACONA -- December 31, 1999
27a -- Financial Data Schedule -- ACONA -- June 30, 2000
</TABLE>
