<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington D.C. 20549
FORM 10-Q
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For The Quarter Ended March 31, 2000 Commission File No. 1-10176
MFN Financial Corporation
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 36-3627010
------------------------------- ------------
(State or other jurisdiction of (I.R.S. Employer identification no.)
incorporation or organization)
100 Field Drive, Suite 340, Lake Forest, Illinois 60045
------------------------------------------------------- --------------
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (847) 295-8600
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing for the
past 90 days.
Yes X No ___
---
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Sections 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
Yes X No ___
---
Indicate the number of shares outstanding of each issuer's class of common
stock, as of the latest practicable date.
Common Stock - $.01 par value, 10,000,003 shares as of April 30, 2000.
<PAGE>
MFN FINANCIAL CORPORATION
FORM 10-Q
INDEX
<TABLE>
<CAPTION>
PAGE
<S> <C>
PART I FINANCIAL INFORMATION
---------------------
Item 1. FINANCIAL STATEMENTS
Condensed Consolidated Balance Sheets.............................................. 3
Condensed Consolidated Statements of Income........................................ 4
Condensed Consolidated Statements of Changes in Stockholders' Equity............... 5
Condensed Consolidated Statements of Cash Flows.................................... 6
Notes to Condensed Consolidated Financial Statements............................... 7
Condensed Consolidated Average Balance Sheets....................................... 15
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS....................................... 16
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK......................................................................... 30
PART II OTHER INFORMATION
-----------------
Item 1. Legal Proceedings................................................................... 31
Item 2. Changes in Securities............................................................... 31
Item 3. Defaults Upon Senior Securities..................................................... 31
Item 4. Submission of Matters to a Vote of Security Holders................................. 31
Item 5. Other Information................................................................... 31
Item 6. Exhibits and Reports on Form 8-K.................................................... 31
SIGNATURES................................................................................... 32
INDEX OF EXHIBITS............................................................................ 33
</TABLE>
<PAGE>
PART 1 - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
MFN FINANCIAL CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
<TABLE>
<CAPTION>
(Dollars in thousands) March 31, December 31,
2000 1999
---- ----
<S> <C> <C>
ASSETS
Cash and cash equivalents $ 141,485 $ 123,635
Finance receivables, net of unearned income 508,360 520,012
Less: Allowance for finance credit losses 37,961 39,543
Less: Nonrefundable dealer reserves 33,113 34,062
--------- ---------
Finance receivables, net 437,286 446,407
Income taxes receivable 7,772 8,692
Furniture, fixtures and equipment, net 2,273 1,918
Other assets (including repossessions) 5,024 7,924
--------- ---------
TOTAL ASSETS $ 593,840 $ 588,576
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Senior secured debt $ 381,242 $ 381,242
Senior subordinated debt 22,500 22,500
Income taxes 21,358 19,289
Other liabilities 17,426 18,025
Excess of revalued net assets over liabilities
and stockholders' investment 39,521 41,991
--------- ---------
TOTAL LIABILITIES 482,047 483,047
--------- ---------
CONTINGENCIES - -
STOCKHOLDERS' EQUITY
Common stock - $.01 par value; 50,000,000
shares authorized; 10,000,000 shares outstanding 100 100
Paid in capital 84,900 84,900
Retained earnings 26,793 20,529
--------- ---------
TOTAL STOCKHOLDERS' EQUITY 111,793 105,529
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 593,840 $ 588,576
========= =========
</TABLE>
The accompanying notes to the condensed consolidated financial statements
are an integral part of these statements.
<PAGE>
MFN FINANCIAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
FOR THE THREE MONTHS ENDED
(Unaudited)
<TABLE>
<CAPTION>
Reorganized Predecessor
Company Company
(Dollars in thousands, except per share data) March 31, March 31,
2000 1999
---- ----
<S> <C> <C>
INTEREST INCOME
Finance charges and loan fees $ 29,798 $ 35,313
Investment income 2,091 414
-------- --------
Total interest income 31,889 35,727
INTEREST EXPENSE 10,085 474
-------- --------
Net interest income before provision for finance credit losses 21,804 35,253
PROVISION FOR FINANCE CREDIT LOSSES 1,230 9,857
-------- --------
Net interest income after provision for finance credit losses 20,574 25,396
-------- --------
OTHER OPERATING INCOME
Insurance premiums 3,149 815
Fees and insurance commissions 382 1,240
Other income 539 998
-------- --------
Total other operating income 4,070 3,053
-------- --------
OTHER OPERATING EXPENSES
Salaries and employee benefits 11,199 13,150
Occupancy expense 784 999
Equipment expense 443 767
Data processing expense 227 469
Insurance claims and other underwriting expense 2,036 (29)
Amortization (2,469) 215
Reorganization expenses, net -- 1,105
Restructuring charges (158) --
Other expenses 3,840 4,389
-------- --------
Total other operating expenses 15,902 21,065
-------- --------
OPERATING INCOME 8,742 7,384
NON-OPERATING EXPENSES
Reorganization expenses -- 33,719
-------- --------
INCOME (LOSS) BEFORE INCOME TAXES AND EXTRAORDINARY CREDIT 8,742 (26,335)
Income tax provision (benefit) 2,478 (5,287)
-------- --------
NET INCOME (LOSS) BEFORE EXTRAORDINARY CREDIT 6,264 (21,048)
Extraordinary credit:
Gain on extinguishment of debt, net of taxes -- 45,570
-------- --------
NET INCOME $ 6,264 $ 24,522
======== ========
Weighted average common shares outstanding:
Basic 10,000 **
Diluted 10,009 **
Earnings per common share:
Basic $ 0.63 **
Diluted $ 0.63 **
Dividends per share declared -- **
</TABLE>
** Earnings per common share and dividends per common share amounts as they
relate to the Predecessor Company are not meaningful due to the Voluntary
Case. See notes 2 and 3.
The accompanying notes to the condensed consolidated financial statements
are an integral part of these statements.
<PAGE>
MFN FINANCIAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES
IN STOCKHOLDERS' EQUITY
(Unaudited)
<TABLE>
<CAPTION>
Total
Common Paid In Retained Treasury Stockholders'
(Dollars in thousands) Stock Capital Earnings Stock Equity
----- ------- -------- ----- ------
<S> <C> <C> <C> <C> <C>
PREDECESSOR COMPANY
Balance at January 1, 1999 $ 177,901 $ 8,244 $ (103,351) $ (53,664) $ 29,130
Net income for period January 1,
1999 through March 31, 1999 -- -- 24,522 -- 24,522
Effect of Reorganization and
Fresh Start Reporting:
Extinguishment of old stock (177,901) (8,244) 78,829 53,664 (53,652)
Issuance of new stock 100 84,900 -- -- 85,000
----------- --------- ----------- ---------- ----------
Balance at March 31, 1999 $ 100 $ 84,900 $ -- $ -- $ 85,000
=========== ========= =========== ========== ==========
REORGANIZED COMPANY
Balance at January 1, 2000 $ 100 $ 84,900 $ 20,529 $ -- $ 105,529
Net income for period January 1,
2000 through March 31, 2000 -- -- 6,264 -- 6,264
----------- --------- ----------- ---------- ----------
Balance at March 31, 2000 $ 100 $ 84,900 $ 26,793 $ -- $ 111,793
=========== ========= =========== ========== ==========
</TABLE>
The accompanying notes to the condensed consolidated financial statements are an
integral part of these statements.
5
<PAGE>
MFN FINANCIAL CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED
(Unaudited)
<TABLE>
<CAPTION>
Reorganized Predecessor
Company Company
March 31, March 31,
(Dollars in thousands) 2000 1999
---- ----
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 6,264 $ 24,522
Adjustments to reconcile net income to net
cash provided by (used in) operating activities:
Provision for finance credit losses 1,230 9,857
Gain on sale of finance receivables (77) --
Provision (benefit) for deferred income taxes -- (5,287)
Net (increase)/decrease in income tax receivable 919 (15,913)
Net increase / (decrease) in taxes payable 2,070 (7,528)
Gain on discharge of indebtedness -- (68,229)
Extinguishment of dividend payable -- (12,937)
Write-off of goodwill and fixed assets, net -- 16,022
Depreciation and amortization (2,329) 607
Net decrease in other assets 2,898 13,157
Net increase (decrease) in other liabilities (599) 43,752
--------- ---------
Net cash provided by (used in) operating activities 10,376 (1,977)
CASH FLOWS FROM INVESTING ACTIVITIES
Principal collected on finance receivables 89,395 118,490
Finance receivables originated or acquired (83,498) (108,223)
Proceeds from sale of finance receivables 2,075 --
Proceeds from sale of credit card portfolio -- 22,414
Purchases of furniture, fixtures and equipment (498) (175)
--------- ---------
Net cash provided by investing activities 7,474 32,506
CASH FLOWS FROM FINANCING ACTIVITIES
Repayments of senior debt and commercial paper -- (774)
--------- ---------
Net cash used in financing activities -- (774)
--------- ---------
Net increase in cash and cash equivalents 17,850 29,755
Cash and equivalents at beginning of period 123,635 186,350
--------- ---------
Cash and equivalents at end of period $ 141,485 $ 216,105
========= =========
SUPPLEMENTAL CASH DISCLOSURES
Income taxes paid to federal and state governments $ 409 $ 13,133
Net interest paid 9,919 44
SUPPLEMENTAL NON-CASH DISCLOSURES
Cancellation of indebtedness $ -- $ 148,978
Extinguishment of old stock -- (53,652)
Issuance of new stock -- 85,000
</TABLE>
The accompanying notes to the condensed consolidated financial statements are an
integral part of these statements.
6
<PAGE>
MFN FINANCIAL CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000
Note 1 - Basis of Presentation
The accompanying (a) condensed consolidated balance sheet as of December 31,
1999, which has been derived from audited financial statements, and (b)
unaudited interim condensed financial statements have been prepared pursuant to
the rules and regulations of the Securities and Exchange Commission. Certain
information and note disclosures normally included in annual financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to those rules and regulations, although
MFN Financial Corporation, f/k/a Mercury Finance Company ("MFN" or the
"Company") believes that the disclosures made are adequate to make the
information presented not misleading. The condensed consolidated financial
statements of the Company, in the opinion of management, reflect all necessary
adjustments (consisting solely of normal recurring matters, except as discussed
in the following paragraph and except for the restructuring charge) for a fair
presentation of results as of the dates and for the periods covered by the
financial statements.
Due to the Company's emergence from the Voluntary Case (as hereinafter defined)
and implementation of Fresh Start Reporting, Condensed Consolidated Financial
Statements for the Reorganized Company as of March 31, 1999 and for the periods
subsequent to March 31, 1999 (the "Reorganized Company") are not comparable to
those of the Company for the periods prior to March 31, 1999 (the "Predecessor
Company"). For financial reporting purposes, the effective date (the "Fresh
Start Effective Date") of the Plan of Reorganization (as hereinafter defined) is
considered to be the close of business on March 31, 1999. The effective date of
the Plan of Reorganization was March 23, 1999. The results of operations for
the period from March 23, 1999 through March 31, 1999 were not material.
A black line has been drawn between the accompanying Condensed Consolidated
Statements of Income, Changes in Stockholders' Equity and Cash Flows for the
three-month periods ended March 31, 2000 and March 31, 1999 to distinguish
between the Reorganized Company and the Predecessor Company.
The results of the interim periods shown for the Reorganized Company and
Predecessor Company are not to be considered as being indicative of the results
of operations that are expected for the full year. It is suggested that the
unaudited interim condensed consolidated financial statements contained herein
be used in conjunction with the financial statements and the accompanying notes
to the financial statements included in the Company's Annual Report on Form 10-K
for the year ended December 31, 1999.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the condensed consolidated financial statements
and accompanying notes. The accounts which are subject to such estimation
techniques include the allowance for finance credit losses. Actual results
could differ from these estimates.
7
<PAGE>
Note 2 - Restructuring and Chapter 11 Proceedings
On July 15, 1998, the Company filed a voluntary petition (the "Voluntary Case")
in the United States Bankruptcy Court for the Northern District of Illinois (the
"Court") for relief under chapter 11 of title 11 of the United States Code (the
"Bankruptcy Code") along with a plan of reorganization. On March 10, 1999, the
Court entered an order confirming the Company's Second Amended Plan of
Reorganization (the "Plan" or "Plan of Reorganization"). The effective date of
the Plan was March 23, 1999 (the "Effective Date").
On the Effective Date, the Company cancelled its existing senior and
subordinated debt, and its equity securities, including common stock and options
to purchase common stock, and distributed to its exchange agent (the "Exchange
Agent"), (i) $434.2 million principal amount of its Senior Secured Notes due
March 23, 2001 (the "Senior Secured Notes") and 9.5 million shares of new common
stock, par value $0.01 per share ("New Common Stock") for the benefit of holders
of Senior Debt Claims (as defined in the Plan), (ii) $22.5 million principal
amount of its 11.0% Senior Subordinated Notes due March 23, 2002 (the "Senior
Subordinated Notes") for the benefit of the holders of the Company's
subordinated debt and (iii), 500,000 shares of the New Common Stock and three
series of warrants (580,000 of each series) to purchase New Common Stock for the
benefit of former stockholders of record on March 22, 1999. The Series A
Warrants expire March 23, 2002 and have an exercise price of $15.34, the Series
B Warrants expire March 23, 2003 and have an exercise price of $21.81 and the
Series C Warrants expire March 23, 2004 and have an exercise price of $28.27.
In addition, the Company distributed to the Exchange Agent $121.1 million in
cash on April 1, 1999 for the benefit of holders of Senior Debt Claims.
The Senior Secured Notes are comprised of (i) Series A Senior Secured Notes Due
March 23, 2001, (the "Series A Notes") which have a 10% annual fixed rate of
interest, payable quarterly and (ii) Series B Senior Secured Notes Due March
23, 2001, (the "Series B Notes") which have a floating rate of interest based on
the three month LIBOR (London Interbank Offered Rate), payable quarterly. The
Company entered into an interest rate hedge effective March 31, 1999, the effect
of which was to cap the maximum rate of the Series B Notes at 10%. The
Company's senior lenders prior to the Effective Date were given the option to
receive either Series A Notes or Series B Notes in connection with the Plan.
During the second quarter of 1999, holders of the old senior debt elected to
receive $232,829,482 of the Series A Notes and $201,335,561 of the Series B
Notes totaling an aggregate principal amount of the Senior Secured Notes of
$434,165,043. During the third quarter of 1999, MFN retired debt with a face
value of $52,923,298 prior to scheduled maturity. The principal amount of
Series A Notes and Series B Notes outstanding at both March 31, 2000 and
December 31, 1999 was $202,829,482 and $178,412,263, respectively, for a total
of $381,241,745. Principal payments on the Senior Secured Notes are not due
until maturity on March 23, 2001. The Senior Subordinated Notes, with an
aggregate principal amount of $22.5 million, have an 11% annual fixed rate of
interest, payable quarterly and is due March 23, 2002.
The above summary of the Plan does not purport to be complete and is qualified
in its entirety by reference to the Plan.
8
<PAGE>
Note 3 - Fresh Start Reporting and Excess of Revalued Net Assets Over
Liabilities and Stockholders' Investment
As of March 31, 1999, the Company adopted Fresh Start Reporting in accordance
with the American Institute of Certified Public Accountants' Statement of
Position 90-7 "Financial Reporting by Entities in Reorganization under the
Bankruptcy Code" (SOP 90-7). The adoption of Fresh Start Reporting resulted in
material changes to the Condensed Consolidated Balance Sheet, including
valuation of assets at fair value in accordance with principles of the purchase
method of accounting, valuation of liabilities pursuant to provisions of the
Plan and valuation of equity based on the appraised reorganization value of the
ongoing business.
The reorganization value of $85.0 million (the approximate fair value) was based
on the consideration of many factors and various valuation methods, including
discounted cash flows, selected publicly traded company market multiples and
other applicable ratios and valuation techniques believed by the Company and its
financial advisors to be representative of the Company's business and industry.
The Predecessor Company's equity was eliminated in Fresh Start Reporting.
In accordance with Fresh Start Reporting guidelines, certain noncurrent assets,
including goodwill, recorded on the Company's Condensed Consolidated Balance
Sheet at the Fresh Start Effective Date aggregating $16.0 million were reduced
to zero as a result of the fair value of the Company's assets exceeding the fair
value of its liabilities and stockholders' investment. In addition, as a result
of the reorganization, the dividends payable liability in the amount of $12.9
million was extinguished. The net result of the adjustment of assets and
liabilities to fair value was a charge to earnings of $3.1 million during the
period ended March 31, 1999. After reducing the fair value of certain
noncurrent assets to zero, the excess of the fair value of the remaining assets
over the fair value of liabilities and stockholders' investment, totaling $49.4
million, was recorded as a deferred credit, "Excess of Revalued Net Assets Over
Liabilities and Stockholders' Investment". This balance will be amortized over
5 years.
The Company's emergence from the Voluntary Case and the adoption of Fresh Start
Reporting resulted in the following adjustments to the Company's Condensed
Consolidated Balance Sheet as of March 31, 1999:
<TABLE>
<CAPTION>
Predecessor Fresh Start Reorganized
Company Adjustments Company
March 31, 1999 Debit Credit March 31, 1999
-------------- ----------- ----------- --------------
<S> <C> <C> <C> <C>
Assets
Cash and cash equivalents $216,105 $ - $ - $ 216,105
Finance receivables, net 535,523 - - 535,523
Other assets 31,200 - - 31,200
-------- ----------- ----------- ---------
Total Assets $782,828 $ - $ - $ 782,828
======== =========== =========== =========
</TABLE>
9
<PAGE>
<TABLE>
<CAPTION>
Predecessor Fresh Start Reorganized
Company Adjustments Company
March 31, 1999 Debit Credit March 31, 1999
--------------- -------- ------- --------------
<S> <C> <C> <C> <C>
Liabilities
Senior Debt $ 674,471 $240,306(a) $ - $434,165
Excess cash payments to senior
debt holders - - 100,707(b) 100,707
Subordinated debt 22,500 - - 22,500
Interest payable 30,552 9,008(a) - 21,544
Other liabilities 23,801 371(c) - 23,430
Income taxes 4,472 - 22,659(d) 27,131
Litigation accrual 18,950 - - 18,950
Excess of revalued net assets over
liabilities and stockholders' investment - - 49,401(e) 49,401
--------- -------- -------- --------
Total Liabilities 774,746 249,685 172,767 697,828
Stockholders' Equity
Common stock 177,901 177,901(f) 100(g) 100
Paid-in capital 8,244 8,244(f) 84,900(g) 84,900
Accumulated deficit (124,399) - 78,829(f) -
45,570(h) -
Treasury stock (53,664) - 53,664(f) -
--------- -------- -------- --------
Total Stockholders' Equity 8,082 186,145 263,063 85,000
--------- -------- -------- --------
Total Liabilities and Stockholders' Equity $ 782,828 $435,830 $435,830 $782,828
========= ======== ======== ========
</TABLE>
(a) To reflect the cancellation of the old debt and related accrued interest.
(b) To setup a payable of Excess Cash to Senior Debt Holders in accordance with
the Plan of Reorganization. Payment occurred on April 1, 1999.
(c) To write-off cancelled liabilities of the Company.
(d) To establish deferred income tax liability on the cancellation of
indebtedness.
(e) The excess of revalued net assets over liabilities and stockholders'
investment is calculated below:
Fair value of identifiable assets $782,828
Less: reorganized value of new debt 456,665
Less: reorganized value of new equity 85,000
Less: fair value of identifiable liabilities 191,762
--------
$ 49,401
========
(f) To eliminate stockholders' equity of the Predecessor Company.
(g) To record 10,000,000 shares of New Common Stock at an assumed market value
of $8.50 per share.
10
<PAGE>
(h) To record the extraordinary gain resulting from discharge of indebtedness.
The extraordinary gain, net of taxes is calculated below:
Historical carrying value of old debt securities $ 696,971
Historical carrying value of related accrued interest 29,405
Value exchanged for old debt:
Excess cash payment, including interest (121,104)
Senior secured notes (434,165)
Senior subordinated notes (22,500)
New common stock (9.5 million shares to creditors) (80,750)
Other 372
---------
Extraordinary gain before tax 68,229
Tax provision (22,659)
---------
Extraordinary gain $ 45,570
=========
Note 4 - Earnings Per Share
Basic earnings per share is computed by dividing net income by the weighted
average number of shares of the Company's common stock outstanding during the
period. Diluted earnings per share is computed based upon the weighted average
number of shares of common stock outstanding and the dilutive common share
equivalents outstanding during the period. Common stock equivalents include
options granted under the Company's stock option plan, options granted pursuant
to an employment agreement with the Company's Chief Executive Officer and
warrants outstanding convertible into shares of common stock of the Company
using the treasury stock method.
<TABLE>
<CAPTION>
(Dollars in thousands, except per share amounts) Three Months Ended
March 31, 2000
------------------
<S> <C>
BASIC
Net income $ 6,264
Average common shares outstanding 10,000,000
Earnings per common share $ 0.63
DILUTED
Net income $ 6,264
Average common shares outstanding and common share
equivalents outstanding 10,008,884
Earnings per common share $ 0.63
</TABLE>
Due to the Company's emergence from the Voluntary Case and the implementation of
Fresh Start Reporting, the presentation of earnings per share for the
Predecessor Company is not meaningful.
Note 5 - Reclassifications
Certain data from the prior periods has been reclassified to conform to the
current period presentation.
11
<PAGE>
Note 6 - Contingencies and Legal Matters
The Securities and Exchange Commission is investigating the events giving rise
to the accounting irregularities announced by the Predecessor Company in
January, 1997. Those events are also under investigation by the United States
Attorney for the Northern District of Illinois and the Federal Bureau of
Investigation. The Company is cooperating fully in these investigations.
In the normal course of its business, MFN and its subsidiaries are named as
defendants in legal proceedings. A number of such actions (the "Consumer
Finance Cases"), including cases which have been brought as putative class
actions, are pending in the various states in which the Company's subsidiaries
conduct business. It is the policy of MFN and its subsidiaries to vigorously
defend litigation, however, MFN and (or) its subsidiaries have and may in the
future enter into settlements of claims where management deems appropriate.
Although it is not possible at this time to estimate the amount of damages or
settlement expenses that may be incurred, management is of the opinion that the
resolution of these proceedings will not have a material effect on the financial
position and results of operations of MFN.
The Company recognizes the expense for litigation when the incurrence of loss is
probable and the amount of such loss is estimable. Because of the uncertainty
that surrounds the Consumer Finance Cases, no accrual has been made for the
majority of these lawsuits.
Note 7 - Income Taxes
The 2000 provision for income taxes was calculated using a 39.5% tax rate on
earnings before income taxes adjusted for the amortization of the excess of
revalued net assets over liabilities and stockholders' investment.
Note 8 - Debt
The following table presents the Company's debt instruments and the stated
interest rates on the debt for both March 31, 2000 and December 31, 1999
(dollars in thousands):
Balance Rate
------- ----
Senior secured debt $381,242 10.0%
Senior subordinated debt 22,500 11.0%
-------- ----
Total $403,742 10.0%
======== ====
Debt is used as the primary source for funding the Company's finance
receivables.
The senior secured debt is comprised of (i) Series A Notes Due March 23, 2001,
which have a 10% annual fixed rate of interest, payable quarterly and (ii)
Series B Notes Due March 23, 2001, which have a floating rate of interest based
on three month LIBOR (London Interbank Offered Rate), payable quarterly.
Principal payments on the senior secured debt are not due until maturity on
March 23, 2001.
The principal amount of Series A Notes and Series B Notes outstanding at both
March 31, 2000 and December 31, 1999 was $202,829,482 and $178,412,263,
respectively, for a total of $381,241,745. While the Series B Notes bear a
variable rate of interest, the Company has purchased interest rate protection to
cap the annual rate of interest at 10.0%, the cost of which is amortized in
determining the spread to LIBOR. The total interest cost of either series of
senior secured notes will not exceed a 10.0% annual rate to the Company.
12
<PAGE>
The Company's senior secured debt is secured by substantially all of the assets
of the Company and its domestic subsidiaries, which have guaranteed the
Company's obligations under the senior secured notes.
The senior subordinated debt, with an aggregate principal amount of $22.5
million, has an 11% annual fixed rate of interest, payable quarterly and is due
March 23, 2002.
Note 9 - Stock Options
Under the Plan of Reorganization, options to purchase 950,000 shares of the
Company's authorized and unissued New Common Stock were reserved under the
Amended and Restated 1989 Stock Option Plan ("Stock Option Plan") and options to
purchase 1,000,000 shares were granted pursuant to an employment agreement with
the Company's Chief Executive Officer. Total options outstanding at March 31,
2000 were 1,685,000.
During the three-month period ended March 31, 2000, options to purchase 100,000
shares were granted to officers, effective January 11, 2000 ("Grant Date"), at
an exercise price of $6.50 per share (the market value per common share on the
Grant Date). These shares vest 1/3 per year beginning the first anniversary of
the Grant Date.
MFN applies APB Opinion 25 and its Interpretations in accounting for options
granted, and accordingly, no compensation cost has been recognized for its stock
options in the condensed consolidated financial statements.
Note 10 - Warrants
According to the Plan of Reorganization which became effective March 23, 1999,
three series of warrants (580,000 of each series) to purchase the Company's
common stock were distributed to the Exchange Agent for the benefit of former
stockholders of record on March 22, 1999. The Series A Warrants expire March
23, 2002 and have an exercise price of $15.34, the Series B Warrants expire
March 23, 2003 and have an exercise price of $21.81 and the Series C Warrants
expire March 23, 2004 and have an exercise price of $28.27. No warrants have
been exercised.
Note 11 - Restructuring Charges
During the second quarter of 1999, the Company implemented a plan to close a
total of 46 branches. The Company recorded a provision against earnings in the
amount of $1.9 million to cover estimated severance, relocation costs and lease
termination costs. These charges (included in other operating expenses) and
their utilization is summarized below (dollars in thousands):
<TABLE>
<CAPTION>
Amounts Amounts Amounts Adjust- Balance
Charged Utilized Utilized ments March 31,
In 1999 In 1999 In 2000 In 2000 2000
------- -------- -------- ------- -----
<S> <C> <C> <C> <C> <C>
Lease buyouts and other expenses $ 998 $380 $220 $104 $ 294
Employee severance and retention 952 333 497 54 68
------ ---- ---- ---- -----
Total $1,950 $713 $717 $158 $ 362
====== ==== ==== ==== =====
</TABLE>
The Company records restructuring charges against operations and provides a
reserve based on the best information available at the time the commitment is
made to undertake the restructuring action. The reserves are considered
utilized when specific restructuring criteria are met,
13
<PAGE>
indicating the planned restructuring action has occurred. Work-force-related
reserves are considered utilized at payment for termination or acceptance of
other contractual arrangements.
The reserve for lease buyouts is utilized when the remaining lease obligations
are settled or the space has been vacated and made available for sublease. It
is the Company's policy to continue to charge depreciation, rental and other
operating costs relating to excess space to ongoing operations while they remain
in business use. Salaries and benefits are charged to operations while the
employee is actively employed.
A $158,000 credit was recorded to restructuring expense during the first quarter
of 2000 to adjust previously recorded reserves for a change in estimated reserve
requirements.
Note 12 - Reorganization Expenses
In accordance with SOP 90-7, expenses resulting from the Plan of Reorganization
are reported separately as reorganization expenses in the Condensed Consolidated
Statements of Income. These expenses were incurred by the Predecessor Company
and are summarized below for the three month period ended March 31, 1999
(dollars in thousands):
Interest expense 19,847
Management consultants 6,933
Adjustments of assets and liabilities to fair value 3,085
Creditor attorneys and advisors 1,193
Corporate counsel 846
Independent accountants 550
Board of Directors representation 100
Other 1,165
--------
Total $ 33,719
========
14
<PAGE>
MFN FINANCIAL CORPORATION
CONDENSED CONSOLIDATED AVERAGE BALANCE SHEETS
PERIODS ENDED MARCH 31
(Unaudited)
(Dollars in thousands)
<TABLE>
<CAPTION>
2000 1999
---- ----
<S> <C> <C>
ASSETS
Cash and cash equivalents $136,828 $202,091
Finance receivables, net of unearned income 511,470 631,075
Less: allowance for finance credit losses 38,765 53,547
Less: nonrefundable dealer reserves 33,351 34,064
-------- --------
Finance receivables, net 439,354 543,464
Other assets 17,187 31,312
-------- --------
TOTAL ASSETS $593,369 $776,867
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest bearing liabilities $403,742 $697,358
Other liabilities 81,065 54,903
-------- --------
TOTAL LIABILITIES 484,807 752,261
STOCKHOLDERS' EQUITY 108,562 24,606
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $593,369 $776,867
======== ========
Ratios:
Net interest margin 13.53% **
Net income to average total assets 4.22 **
Net income to average stockholders' equity 23.08 **
</TABLE>
** Amounts as they relate to Predecessor Company are not meaningful due to the
Voluntary Case. See notes 2 and 3 of the condensed consolidated financial
statements.
15
<PAGE>
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
"Safe Harbor" Statement under the Securities Litigation Reform Act of 1995:
This Quarterly Report on Form 10-Q for the quarter ended March 31, 2000,
contains certain forward-looking statements pertaining to the Company's
implementation of new technology to process sales finance applications, expected
operating results, loss provisions and other matters. These statements are
subject to uncertainties and other factors. Should one or more of these
uncertainties or other factors materialize, or should underlying assumptions
prove incorrect, actual events or results may vary materially from those
anticipated. Such uncertainties and other factors include the Company's ability
to acquire finance receivables on terms it deems acceptable, changes in the
quality of finance receivables, trends in the automobile and finance industries,
the success of new business methods and systems, and general economic
conditions. The Company undertakes no obligation to update any such factor or
to publicly announce the results of any revisions to any forward-looking
statements contained herein to reflect future events or developments.
Background
MFN Financial Corporation, f/k/a Mercury Finance Company ("MFN" or the
"Company") is a consumer finance concern engaged, through its operating
subsidiaries, in the business of acquiring individual installment sales finance
contracts from automobile dealers and retail vendors, extending short-term
installment loans directly to consumers and selling credit insurance and other
related products. Notwithstanding anything herein to the contrary, all
operations of the Company are conducted through its subsidiaries and all
references herein to offices (except the Company's home office) or branches
refer to the Company's operating subsidiaries only.
MFN was organized in 1988, as a wholly-owned subsidiary of First Illinois
Corporation (an Evanston, Illinois based bank holding company). On April 24,
1989, First Illinois Corporation distributed to its stockholders one share of
MFN for each two shares of First Illinois Corporation stock held.
Substantially all of MFN's borrowers are "non-prime" borrowers. These are
borrowers who generally would not be expected to qualify for traditional
financing such as that provided by commercial banks or automobile manufacturers'
captive finance companies.
MFN's direct loans generally have terms of 12 to 24 months with maximum terms of
36 months; secured direct loans are generally collateralized by real or personal
property. Sales finance contracts are generally accounted for on a discount
basis and generally have terms of 18 to 48 months with maximum terms of 60
months. Annual interest rates on MFN's sales finance contracts and loans range,
with minor exception, from 18% to 40%. Generally all sales finance contracts
and loans are repayable in monthly installments. Late payment fees generally
are assessed to accounts which fail to make their scheduled payments within 10
days of the scheduled due date.
Currently, MFN's primary strategic focus is the purchasing of installment retail
sales finance contracts from automobile dealers. MFN does this through its
Centralized Purchasing Offices ("CPOs"), and the use of Dealer Development
Managers ("DDMs"). DDMs service the
16
<PAGE>
automobile dealers both in markets where MFN has a branch and where it does not
maintain a physical location. DDMs are responsible for developing new dealer
relationships, maintaining existing relationships, explaining the Company's
underwriting criteria to the dealers, maintaining current contractual dealer
agreements between the Company and the dealer, and ensuring that the dealer has
sufficient retail automobile sales finance contract forms available. In
addition, DDMs can help provide ideas to the dealers on attracting customers to
their dealerships. Prior to 1999, the branches and their personnel were
responsible for these activities.
Beginning in 1998, substantially all purchases of automobile retail installment
contracts are approved through CPOs which serve as the centralized underwriter
of credit. The CPOs have helped the Company apply consistent underwriting
standards, which has resulted in reduced charge-offs on 1998 and 1999
originations as compared to older accounts. In addition, during the fourth
quarter of 1999 and continuing in 2000, the Company has installed new technology
to process sales finance applications. This technology incorporates additional
risk management features which the Company believes will help reduce risk in the
portfolio. The Company expects to have this technology fully installed in all
CPOs by the end of the second quarter.
Overview
On July 15, 1998, the Company filed a voluntary petition (the "Voluntary Case")
in the United States Bankruptcy Court for the Northern District of Illinois (the
"Court") for relief under chapter 11 of title 11 of the United States Code (the
"Bankruptcy Code") along with a plan of reorganization. On March 10, 1999, the
Court entered an order confirming the Company's Second Amended Plan of
Reorganization (the "Plan" or "Plan of Reorganization"). The effective date of
the Plan was March 23, 1999 (the "Effective Date").
On the Effective Date, the Company cancelled its existing senior and
subordinated debt, and its equity securities, including common stock and options
to purchase common stock and distributed to its exchange agent (the "Exchange
Agent"), (i) $434.2 million principal amount of its Senior Secured Notes due
March 23, 2001 (the "Senior Secured Notes"), and 9.5 million shares of new
common stock, par value $0.01 per share ("New Common Stock") for the benefit of
holders of Senior Debt Claims (as defined in the Plan), (ii) $22.5 million
principal amount of its 11.0% Senior Subordinated Notes due March 23, 2002 (the
"Senior Subordinated Notes") for the benefit of the holders of the Company's
subordinated debt and (iii) 500,000 shares of the Common Stock and three series
of warrants (580,000 of each series) to purchase New Common Stock for the
benefit of former shareholders of record on March 22, 1999. The Series A
Warrants expire March 23, 2002 and have an exercise price of $15.34, the Series
B Warrants expire March 23, 2003 and have an exercise price of $21.81 and the
Series C Warrants expire March 23, 2004 and have an exercise price of $28.27.
In addition, the Company distributed to the Exchange Agent $121.1 million in
cash on April 1, 1999 for the benefit of holders of Senior Debt Claims. The
emergence from the Voluntary Case resulted in a reduction of approximately
$161.9 million in the liabilities of the Company.
As of March 31, 1999, the Company adopted Fresh Start Reporting in accordance
with the American Institute of Certified Public Accountants' Statement of
Position 90-7 "Financial Reporting by Entities in Reorganization under the
Bankruptcy Code" (SOP 90-7). Fresh Start Reporting resulted in material changes
to the Condensed Consolidated Balance Sheet, including valuation of assets at
fair value in accordance with principles of the purchase method of
17
<PAGE>
accounting, valuation of liabilities pursuant to provisions of the Plan and
valuation of equity based on the appraised reorganization value of the ongoing
business.
Due to the Company's emergence from the Voluntary Case and implementation of
Fresh Start Reporting, Condensed Consolidated Financial Statements for the
Reorganized Company as of March 31, 1999 and for the periods subsequent to March
31, 1999 (the "Reorganized Company") are not comparable to those of the Company
for the periods prior to March 31, 1999 (the "Predecessor Company"). For
financial reporting purposes, the effective date (the "Fresh Start Effective
Date") of the Plan of Reorganization is considered to be the close of business
on March 31, 1999. The results of operations for the period from March 23, 1999
through March 31, 1999 were not material.
To facilitate a comparison of the Company's first quarter operating performance
in fiscal years 2000 and 1999, the following discussion of certain consolidated
financial information may be presented on a traditional comparative basis for
all periods even though the accounting requirements for companies upon emergence
from bankruptcy calls for separate reporting for the reorganized company and the
predecessor company.
A black line has been drawn between the accompanying Condensed Consolidated
Statements of Income, Changes in Stockholders' Equity and Cash Flows between the
three-month period ended March 31, 2000 and March 31, 1999 to distinguish
between the Reorganized Company and the Predecessor Company.
The results for the interim periods shown for the Reorganized Company and the
Predecessor Company are not to be considered as being indicative of the results
that are expected for the full year.
The following is management's discussion and analysis of the condensed
consolidated financial condition of the Reorganized Company at March 31, 2000
and December 31, 1999. Condensed consolidated results of operations are for the
three-month period ended March 31, 2000 for the Reorganized Company and for the
three-month period ended March 31, 1999 for the Predecessor Company. This
discussion should be read in conjunction with the Company's condensed
consolidated financial statements and notes thereto appearing elsewhere in this
report. Again, the results of operations of the Predecessor Company are not
necessarily indicative of future results of the Reorganized Company.
FINANCIAL CONDITION
As of March 31, 1999, the Company adopted Fresh Start Reporting in accordance
with the American Institute of Certified Public Accountant's Statement of
Position 90-7 "Financial Reporting by Entities in Reorganization under the
Bankruptcy Code", (SOP 90-7). Fresh Start Reporting resulted in material
changes to the Condensed Consolidated Balance Sheet. See Note 3 to the
Condensed Consolidated Financial Statements.
Assets and Finance Receivables
Total assets of the Company at March 31, 2000 remained relatively flat at $593.8
million compared to $588.6 million at December 31, 1999.
The Company's offices in Illinois, Florida and Virginia accounted for
approximately 15%, 10%, and 8%, respectively, of all sales and direct finance
receivables outstanding at March 31, 2000.
18
<PAGE>
The following table summarizes the composition of finance receivables at the
dates indicated (dollars in thousands):
<TABLE>
<CAPTION>
March 31, December 31,
2000 1999
---- ----
<S> <C> <C>
Direct Finance Receivables
Interest bearing $ 7,971 $ 9,961
Precompute 22,678 30,666
-------- --------
Total direct finance receivables 30,649 40,627
Sales Finance Receivables
Interest-bearing 16,156 9,596
Precompute 592,240 600,782
-------- --------
Total sales finance receivables 608,396 610,378
-------- --------
Gross Finance Receivables 639,045 651,005
Less: Unearned finance charges 130,448 130,584
Unearned commissions and other 237 409
-------- --------
Total Finance Receivables $508,360 $520,012
======== ========
</TABLE>
The following sets forth a summary of originations net of unearned income for
the three months ended March 31, (dollars in thousands):
<TABLE>
<CAPTION>
2000 1999
-------- --------
<S> <C> <C>
Direct finance receivables $ 4,946 $ 14,997
Sales finance receivables 85,999 101,939
------- --------
Total originations and acquisitions $90,945 $116,936
======= ========
</TABLE>
Originations of direct finance receivables during the first quarter of 2000 are
down from the same period of last year attributable to the Company's strategic
decision to place a greater emphasis on purchasing sales finance contracts
versus direct lending. Originations of sales finance receivables are down
approximately 15.6% or $15.9 million from the same period of last year as a
result of discontinuing originations to certain markets deemed not to have
sufficient profit potential. The total number of operating branches at March 31,
2000 was 63 compared to 151 at March 31, 1999.
The Company continued to install software at its CPO locations during the first
quarter of 2000 and expects to complete installation at all targeted locations
during the second quarter. This software adds additional risk management
features and is expected to allow the CPOs to become more efficient in
processing transactions and managing dealer relationships. The Company intends
to continue to place a greater emphasis on purchasing automobile sales finance
contracts versus direct lending.
Allowance and Provision for Finance Credit Losses
MFN originates direct consumer loans and acquires individual sales finance
contracts from third party dealers. The Company maintains an allowance for
finance credit losses that are expected to be incurred on receivables that have
demonstrated a risk of loss based upon delinquency or bankruptcy status.
19
<PAGE>
The sales finance contracts are generally acquired at a discount from the
principal amount. This discount is normally referred to as a non-refundable
dealer reserve. The amount of the discount is based upon the credit risk of the
borrower, the note rate of the contract and competitive factors. The dealer
reserve is made available to absorb credit losses over the life of the pool of
receivables. The dealer reserve is not used to offset provision for finance
credit losses immediately, but rather is amortized over the life of the pool to
offset future losses. Management believes this method provides for an
appropriate matching of finance charge income and provision for finance credit
losses.
Each period, the provision for finance credit losses in the income statement
results from the combination of (a) an estimate by management of loan losses
that occurred during the current period and (b) the ongoing adjustment of prior
estimated losses. As the specific borrower and amount of a loan loss is
confirmed by gathering additional information, taking collateral in full or
partial settlement of the loan, bankruptcy of the borrower, etc., the loan is
charged off, reducing the allowance for finance credit losses. If, subsequent
to a charge off, the Company is able to collect additional amounts from the
borrower or obtain control of collateral worth more than earlier estimated, a
recovery is recorded. This recovery reduces the current period charge off
amounts.
The Company uses a loss reserving methodology commonly referred to as "static
pooling" which stratifies the components of its sales finance receivable
portfolio (i.e., dealer reserve, principal loan balances and related charge-
offs) into separately identified pools based upon the period the loans were
acquired. MFN defines a pool as loans acquired within a given month. A portion
of the dealer reserve is made available to cover estimated credit losses for
each identified monthly pool based on a pro rata calculation over the term of
each specific account.
Reserve requirements for sales finance and direct receivables are calculated
based on the estimated losses inherent in each category of delinquency (i.e. not
delinquent, 30, 60, 90 and 120 days past due). These assumed losses are
utilized to determine the projected cash flows from each impaired category. The
projected cash flow is then discounted to estimate the net present value of the
impaired loans. A reserve is established in an amount sufficient to reduce the
book value of the impaired receivable to its net present value. Repossessed
collateral is valued at an estimate of its net realizable value.
The following is a summary of the activity in the allowance for finance credit
losses for the three month periods ended March 31 (dollars in thousands):
<TABLE>
<CAPTION>
2000 1999
-------- --------
<S> <C> <C>
Balance at beginning of period $ 39,543 $ 53,485
Reserves recaptured in conjunction
with sale of finance receivables (90) -
Provision for finance credit losses 1,230 9,857
Finance receivables charged-off, net of recoveries (6,083) (15,902)
Net amount transferred from reserve for repossessed assets 3,361 2,498
-------- --------
Balance at end of period $ 37,961 $ 49,938
======== ========
Allowance for finance credit losses as a percent of total
finance receivables, net of unearned income 7.47% 8.02%
</TABLE>
20
<PAGE>
Repossessed assets are carried in other assets and are reserved at 75% of the
outstanding balance owed. The repossessed asset reserve is established as a
transfer from the allowance for finance credit losses upon initiation of the
repossession proceedings when the finance receivable balance is reclassified to
other assets. Proceeds from the sale of repossessed assets are applied against
the outstanding balance owed and any outstanding balance deficiency is charged-
off. Reserves on sold repossessed assets are then transferred back to the
allowance for finance credit losses. The increase in the allowance for finance
credit losses related to the transfer from the repossessed asset reserve is due
to the decline in repossessed assets.
The amount of the provision for credit losses decreased in the first quarter of
2000 compared to one year ago due to an improvement in the relative delinquency
of the remaining portfolio. The overall reduction of the reserve as a percent
of the receivable portfolio is due to improvement in the amount of delinquencies
at March 31, 2000 compared to the same period one year ago.
Nonrefundable Dealer Reserves
The Company acquires a majority of its sales finance contracts from dealers at a
discount. The amount of the discounts are negotiated with the dealers based
upon various criteria, one of which is the credit risk associated with the sales
finance contracts being acquired.
A summary of the activity in nonrefundable dealer reserves for the three month
periods ended March 31, was as follows (dollars in thousands):
<TABLE>
<CAPTION>
2000 1999
-------- --------
<S> <C> <C>
Balance at beginning of period $ 34,062 $ 36,820
Discounts acquired on new volume 7,447 8,713
Net charge-offs absorbed (8,396) (8,030)
-------- --------
Balance at end of period $ 33,113 $ 37,503
======== ========
Nonrefundable dealer reserves as a percent of
sales finance receivables, net of unearned income 6.87% 6.94%
======== ========
Discounts acquired as a percent of sales finance
receivable originations, net of unearned income 8.66% 8.55%
======== ========
</TABLE>
Under the static pooling methodology, the total balances of nonrefundable dealer
reserves are not available to offset current finance credit losses, but instead
are amortized and made available to absorb credit losses over the life of the
corresponding pool of receivables.
The fluctuation in the discounts acquired is primarily due to the volume of
contracts purchased as the discounts acquired as a percent of sales finance
receivable originations, net of unearned income remained relatively constant.
Income Tax Accounts
At March 31, 2000, the Company had recorded net income tax receivables and
prepayments of approximately $7.8 million and a $21.4 million tax liability
consisting primarily of deferred taxes.
MFN elected to be treated as a dealer in securities under Section 475 of the
Internal Revenue Code effective for the year ended December 31, 1996. Pursuant
to this election, MFN must
21
<PAGE>
annually recognize as taxable income or taxable loss the difference between the
fair market value of its securities and the income tax basis of the securities
for the year ended December 31, 1996 and prospectively. This election has no
impact on the recognition of pre-tax income for financial reporting purposes.
Debt
The following table presents the Company's debt instruments and the stated
interest rates on the debt at both March 31, 2000 and December 31, 1999 (dollars
in thousands):
<TABLE>
<CAPTION>
Balance Rate
------- ----
<S> <C> <C>
Senior secured debt $381,242 10.0%
Senior subordinated debt 22,500 11.0%
-------- ----
Total $403,742 10.0%
======== ====
</TABLE>
Debt is used as the primary source for funding the Company's finance
receivables.
The senior secured debt is comprised of (i) Series A Notes Due March 23, 2001,
which have a 10% annual fixed rate of interest, payable quarterly and (ii)
Series B Notes Due March 23, 2001, which have a floating rate of interest based
on three month LIBOR (London Interbank Offered Rate), payable quarterly.
Principal payments on the senior secured debt are not due until maturity on
March 23, 2001.
The principal amount of Series A Notes and Series B Notes outstanding for both
March 31, 2000 and December 31, 1999 was $202,829,482 and $178,412,263,
respectively, for a total of $381,241,745. While the Series B Notes bear a
variable rate of interest, the Company has purchased interest rate protection to
cap the annual rate of interest at 10.0%, the cost of which is amortized in
determining the spread to LIBOR. The total interest cost of either series of
senior secured notes will not exceed a 10.0% annual rate to the Company.
The Company's senior secured debt is secured by substantially all of the assets
of the Company and its domestic subsidiaries, which have guaranteed the
Company's obligations under the senior secured notes.
The senior subordinated debt, with an aggregate principal amount of $22.5
million, has an 11% annual fixed rate of interest, payable quarterly and is due
March 23, 2002.
Stockholders' Equity
Total stockholders' equity at March 31, 2000 was $111.8 million or 18.8% of
total assets compared with $105.5 million or 17.9% of total assets at December
31, 1999. During the three month period ended March 31, 2000 the Reorganized
Company reported $6.3 million of net income and did not declare any dividends or
repurchase any shares of common stock.
RESULTS OF OPERATIONS
The results of operations shown in the accompanying Condensed Consolidated
Financial Statements are for both the Reorganized Company and the Predecessor
Company. MFN adopted Fresh Start Reporting in accordance with SOP 90-7
effective March 31, 1999. To facilitate a meaningful comparison of the Company's
operating performance, the following discussion of certain consolidated
financial information may be presented on a traditional comparative basis for
all periods even though the accounting requirements for companies upon emergence
from
22
<PAGE>
bankruptcy calls for separate reporting for the Reorganized Company and the
Predecessor Company.
Net Income
For the three-month period ended March 31, 2000, the Reorganized Company
reported net income of $6.3 million. These results are not comparable to the
first quarter of 1999 due to Fresh Start Reporting and reorganization expenses
related to the Voluntary Case.
Interest Income and Interest Expense
The largest single component of net income is net interest income which is the
difference between interest income and interest expense before provision for
finance credit losses. For the three month period ended March 31, 2000, net
interest income was $21.8 million and the net interest margin, which is the
ratio of net interest income divided by average interest earning assets, was
13.53%.
The net interest margin in the first quarter of 1999 was impacted by i) the
accounting for interest expense during the Voluntary Case as no interest was
accrued or paid on the Predecessor Company's debt subsequent to July 15, 1998,
the date the Voluntary Case was filed, until March 23, 1999, the date the
Reorganized Company emerged from the Voluntary Case and ii) an adjustment
required by SOP 90-7 (see Note 3 to the Condensed Consolidated Financial
Statements). The second table below reflects the rates paid and the net interest
margin had interest expense been recorded during the Voluntary Case and without
the impact of the adjustment required by SOP 90-7.
The following table summarizes net interest income and the net interest margin
for the three month period ended March 31 (dollars in thousands):
<TABLE>
<CAPTION>
2000 1999
--------- ---------
<S> <C> <C>
Average interest earning assets:
Cash and cash equivalents $ 136,828 $ 202,091
Finance receivables 511,470 631,075
--------- ---------
Total average earning assets 648,298 833,166
Average interest bearing liabilities 403,742 697,358
--------- ---------
Net $ 244,556 $ 135,808
========= =========
Interest income:
Cash and cash equivalents $ 2,091 $ 414
Finance receivables 29,798 35,313
--------- ---------
Total interest income 31,889 35,727
Interest expense 10,085 474
--------- ---------
Net interest income before provision for finance credit losses $ 21,804 $ 35,253
========= =========
</TABLE>
23
<PAGE>
<TABLE>
<CAPTION>
2000 1999
---- ----
<S> <C> <C>
Yield:
Cash and cash equivalents 6.15% 0.83%
Finance receivables 23.43% 22.69%
----- -----
Earning assets 19.78% 17.39%
Cost of funds 9.99% 0.27%
----- -----
Net interest spread 9.79% 17.12%
===== =====
Net interest margin 13.53% 17.16%
===== =====
</TABLE>
Had interest expense of $11.473 million in 1999 been recorded during the
Voluntary Case and restating net interest income $1.893 million in 1999 for the
impact of the SOP 90-7 adjustment, the net rates and net interest margin would
have been restated as follows for the periods ended March 31:
<TABLE>
<S> <C> <C>
Yield - restated:
Cash and cash equivalents 6.15% 4.63%
Finance receivables 23.43% 22.69%
----- -----
Earning assets 19.78% 18.31%
Cost of funds - restated 9.99% 6.95%
----- -----
Net interest spread - restated 9.79% 11.36%
===== =====
Net interest margin - restated 13.53% 12.50%
===== =====
</TABLE>
The yield on finance receivables in the first quarter of 2000 improved 74 basis
points compared to the same period one year ago. This was the result of lower
levels of nonaccrual loans and a change in the mix of finance receivables.
Other Operating Income
In addition to finance charges and interest, the Company has other operating
income from the sale of other credit related products. These products include
insurance relating to the issuance of credit life, accident and health and other
credit insurance policies to borrowers of the Company.
Other operating income in the first quarter of 2000 increased $1.0 million or
33.3% from the first quarter of 1999. A new revenue sharing program on
collateral protection insurance resulted in a $2.3 million increase in insurance
premium income for the first quarter of 2000 compared to one year ago and the
current period results represent a normalized level of activity. Commissions
earned on credit life, accident and health, property and involuntary
unemployment insurance decreased $858,000 during the same period reflecting a
shift away from the direct lending business.
The following table summarizes the components of other operating income for the
three-month periods ended March 31 (dollars in thousands):
<TABLE>
<CAPTION>
2000 1999
---- ----
<S> <C> <C>
Insurance premiums $3,149 $ 815
Fees and insurance commissions 382 1,240
Other income 539 998
------ ------
Total $4,070 $3,053
====== ======
</TABLE>
24
<PAGE>
Other operating income as a percent of average
interest earning assets 2.51% 1.47%
====== ======
Other Operating Expenses
In addition to interest expense and the provision for finance credit losses, the
Company incurs other operating expenses in the conduct of its business.
Other operating expenses in the first quarter of 2000 decreased $5.2 million or
24.5% from the first quarter of 1999. $2.7 million of the decline is
amortization expense. The excess of revalued net assets over liabilities and
stockholders' investment totaling $49.4 million recorded on March 23, 1999 as a
result of Fresh Start Reporting is being amortized over a 60 month period and
appears as a credit to operating expense. Salaries and benefits decreased $2.0
million attributable to staff reductions. Insurance claims and underwriting
expenses associated with the collateral protection insurance program increased
$2.0 million compared with last year and represent a normalized level of
activity. The first quarter of 1999 was positively impacted by reserve
adjustments resulting from favorable claims experience.
The following table summarizes the components of other operating expenses for
the three-month periods ended March 31 (dollars in thousands):
<TABLE>
<CAPTION>
2000 1999
---- ----
<S> <C> <C>
Salaries and employee benefits $11,199 $13,150
Insurance claims and other underwriting expense 2,036 (29)
Goodwill amortization -- 215
Amortization of excess of revalued net assets
over liabilities and stockholders' investment (2,469) --
Reorganization expenses, net -- 1,105
Restructuring expenses (158) --
Other expenses 5,294 6,624
------- -------
Total $15,902 $21,065
======= =======
Other operating expense as a percent of average
interest earning assets 9.81% 10.11%
======= =======
</TABLE>
Reorganization Expenses
Reorganization expenses for the three-month period ended March 31, 1999 (dollars
in thousands) are as follows:
Professional fees $ 2,998
Interest income (1,893)
-------
Total $ 1,105
=======
The Company estimated the amount of professional fees which related specifically
to the Voluntary Case. In accordance with Fresh Start Reporting, interest
earned on funds held for deposit that would have been paid to senior debt
holders if the Company had not filed the Voluntary Case, is off-set against
expenses related to the Voluntary Case.
25
<PAGE>
Restructuring Charges
During the second quarter of 1999, the Company implemented a plan to close a
total of 46 branches. The Company recorded a provision against earnings in the
amount of $1.9 million to cover estimated severance, relocation costs and lease
termination costs. These charges (included in other operating expenses) and
their utilization is summarized below (dollars in thousands):
<TABLE>
<CAPTION>
Amounts Amounts Amounts Adjust- Balance
Charged Utilized Utilized ments March 31,
In 1999 In 1999 In 2000 In 2000 2000
------- -------- -------- ------- -----
<S> <C> <C> <C> <C> C>
Lease buyouts and other expenses $ 998 $380 $220 $104 $ 294
Employee severance and retention 952 333 497 54 68
------ ---- ---- ---- -----
Total $1,950 $713 $717 $158 $ 362
====== ==== ==== ==== =====
</TABLE>
The Company records restructuring charges against operations and provides a
reserve based on the best information available at the time the commitment is
made to undertake the restructuring action. The reserves are considered
utilized when specific restructuring criteria are met, indicating the planned
restructuring action has occurred. Work-force-related reserves are considered
utilized at payment for termination or acceptance of other contractual
arrangements.
The reserve for lease buyouts is utilized when the remaining lease obligations
are settled or the space has been vacated and made available for sublease. It
is the Company's policy to continue to charge depreciation, rental and other
operating costs relating to excess space to ongoing operations while they remain
in business use. Salaries and benefits are charged to operations while the
employee is actively employed.
A $158,000 credit was recorded to restructuring expense during the first quarter
of 2000 to adjust previously recorded reserves for a change in estimated reserve
requirements.
Non-Operating Reorganization Expenses
In accordance with SOP 90-7, expenses resulting from the Plan of Reorganization
are reported separately as reorganization expenses in the Condensed Consolidated
Statements of Income. These expenses were incurred by the Predecessor Company
and are summarized below for the three month period ended March 31, 1999
(dollars in thousands):
26
<PAGE>
Interest expense $19,847
Management consultants 6,933
Adjustments of assets and liabilities to fair value 3,085
Creditor attorneys and advisors 1,193
Corporate counsel 846
Independent accountants 550
Board of Directors representation 100
Other 1,165
-------
Total $33,719
=======
CREDIT LOSSES AND DELINQUENCIES
The credit loss and delinquency information below are for both the Reorganized
Company and the Predecessor Company.
Credit Losses
Finance receivable accounts which are contractually delinquent 120 days and 90
days on a recency basis, are charged off monthly before they become 150 days
contractually delinquent. Accounts which are deemed uncollectible prior to the
maximum charge-off period are charged off immediately. Management may authorize
an extension of the charge-off period if collection appears imminent during the
next calendar month. The following table sets forth information relating to
charge-offs, the allowance for finance credit losses and dealer reserves
(dollars in thousands):
27
<PAGE>
<TABLE>
<CAPTION>
March 31, March 31,
2000 1999
---- ----
<S> <C> <C>
Provision for finance credit loss $ 1,230 $ 9,857
Net charge-offs absorbed by allowance for credit losses 6,083 15,902
Net charge-offs absorbed by nonrefundable dealer reserves 8,396 8,030
Allowance for finance credit losses at end of period 37,961 49,938
Nonrefundable dealer reserves at end of period 33,113 37,503
Ratios
- ------
Net charge-offs as a percent of average total finance
receivables, net of unearned income
Absorbed by allowance for credit losses 4.76% 10.08%
Absorbed by nonrefundable dealer reserve 6.56% 5.09%
------- -------
Total 11.32% 15.17%
Allowance for finance credit losses as a percent of
total finance receivables, net of unearned income 7.47% 8.02%
Nonrefundable dealer reserves as a percent of sales
finance receivables, net of unearned income 6.87% 6.94%
</TABLE>
Delinquencies and Repossessions
If an account becomes 60 or more days contractually delinquent and no full
contractual payment is received in the month the account attains such
delinquency status, it is classified as delinquent. The following table sets
forth certain information regarding contractually delinquent accounts and
repossessed assets at March 31 (dollars in thousands):
<TABLE>
2000 1999
---- ----
<S> <C> <C>
Delinquent non-bankrupt receivables, net of unearned income $ 5,079 $12,603
Delinquent bankrupt accounts, net of unearned income 4,625 7,289
Repossessed assets, net of reserves 1,422 3,003
------- -------
Total delinquent accounts, net of unearned income
and repossessed assets, net of reserves $11,126 $22,895
======= =======
Bankrupt accounts, net of unearned income not in delinquent status $ 5,750 $11,027
======= =======
Delinquent accounts, net of unearned income and
repossessed assets, net of reserves as a percent of
total finance receivables, net of unearned income 2.19% 3.68%
======= =======
</TABLE>
Repossession of collateral generally occurs when debtors are 60 to 90 days late
on payments. Repossession activities have been consolidated within the Company
and many of the activities have been outsourced to other parties, which handles
the pickup of collateral and delivery to auction. Automobiles are generally
sold within 60 days at auction.
Repossessed assets are carried in other assets and are reserved at 75% of the
outstanding balance owed. The repossessed asset reserve is established as a
transfer from the allowance for credit losses upon initiation of the
repossession proceedings when the finance receivable balance is
28
<PAGE>
reclassified to other assets. Proceeds from the sale of repossessed assets are
applied against the outstanding balance owed and any outstanding balance
deficiency is charged-off. Reserves on sold repossessed assets are then
transferred back to the allowance for credit losses at the time of charge-off.
Delinquency and repossession numbers show significant improvement from March 31,
1999 due to improved collections. The Company believes this is due to focusing
branch activities on collections, placing less emphasis on direct lending
efforts, the impact of seasonal paydowns attributable to tax refunds and
favorable general economic conditions.
LIQUIDITY AND FINANCIAL RESOURCES
The Company has sufficient cash flow from cash collections on finance
receivables to meet the current funding requirements of new originations and
purchases of finance receivables. In addition, at March 31, 2000 the Company had
$141.5 million in cash and cash equivalents, which can be used to fund future
growth of finance receivables and other corporate activities.
The Company has $381.2 million of funding through March 23, 2001 in the form of
Senior Secured Notes and an additional $22.5 million of funding through March
23, 2002 in the form of Senior Subordinated Notes. See Notes 2 and 8 to the
Condensed Consolidated Financial Statements.
Dividends may be paid on the Reorganized Company's Common Stock subject to
certain financial conditions contained in the Company's indentures governing its
Senior Secured Notes. At March 31, 2000, $13.4 million was available for
payment under these restrictions. However, the Company does not anticipate
payment of any dividends for the foreseeable future.
CONTINGENCIES AND LEGAL MATTERS
The Securities and Exchange Commission is investigating the events giving rise
to the accounting irregularities announced by the Predecessor Company in
January, 1997. Those events are also under investigation by the United States
Attorney for the Northern District of Illinois and the Federal Bureau of
Investigation. The Company is cooperating fully in these investigations.
In the normal course of its business, MFN and its subsidiaries are named as
defendants in legal proceedings. A number of such actions (the "Consumer
Finance Cases"), including cases which have been brought as putative class
actions, are pending in the various states in which the Company's subsidiaries
conduct business. It is the policy of MFN and its subsidiaries to vigorously
defend litigation, however, MFN and (or) its subsidiaries have and may in the
future enter into settlements of claims where management deems appropriate.
Although it is not possible at this time to estimate the amount of damages or
settlement expenses that may be incurred, management is of the opinion that the
resolution of these proceedings will not have a material effect on the financial
position and results of operations of MFN.
The Company recognizes the expense for litigation when the incurrence of loss is
probable and the amount of such loss is estimable. Because of the uncertainty
that surrounds the Consumer Finance Cases, no accrual has been made for the
majority of these lawsuits.
29
<PAGE>
RECENT ACCOUNTING PRONOUNCEMENTS
Statement of Financial Accounting Standards No. 133 "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133") is effective for fiscal years
beginning after June 15, 1999. During the second quarter of 1999, the FASB
voted to delay for one year the effective date of SFAS 133 until June 15, 2000.
Management does not expect this statement to have a material impact on either
the financial position, results of operations or financial statement disclosures
of the Company.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
There have been no significant changes in market risk since December 31, 1999.
30
<PAGE>
PART II -- OTHER INFORMATION
Item 1. Legal Proceedings - See "Part I, Item 2 - Management's Discussion and
Analysis of Financial Condition and Results of Operations -
Contingencies and Legal Matters" which is incorporated herein by
reference.
Item 2. Changes in Securities - None
Item 3. Defaults Upon Senior Securities - None.
Item 4. Submission of Matters to a Vote of Security Holders - None
Item 5. Other Information - Not Applicable
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits - See Exhibit Index following the signature page
(b) Reports on Form 8-K - The Company did not file any Current
Reports on Form 8-K during the quarter ended March 31, 2000.
31
<PAGE>
SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MFN FINANCIAL CORPORATION
(Registrant)
Date: May 12, 2000 /s/ Edward G. Harshfield
------------------------
Edward G. Harshfield
Chairman and Chief Executive Officer
Date: May 12, 2000 /s/ Jeffrey B. Weeden
---------------------
Jeffrey B. Weeden
President and Chief Operating Officer
Date: May 12, 2000 /s/ Mark D. Whitham
-------------------
Mark D. Whitham
Chief Financial Officer (Principal Accounting
Officer)
32
<PAGE>
INDEX OF EXHIBITS
Exhibit No. Description
----------- -----------
11. Computation of Earnings Per Share
27. Financial Data Schedule
33
<PAGE>
MFN FINANCIAL CORPORATION
EXHIBIT 11
COMPUTATION OF EARNINGS PER SHARE
THREE MONTH PERIOD ENDED MARCH 31, 2000
Basic earnings per share is computed by dividing net income by the weighted
average number of shares of the Company's common stock outstanding during the
period. Diluted earnings per share is computed based upon the weighted average
number of shares of common stock outstanding and the dilutive common stock
equivalents during the period. Common stock equivalents include options granted
under the Company's stock option plan, options granted pursuant to an employment
agreement with the Company's Chief Executive Officer and warrants outstanding
convertible into shares of common stock of the Company using the treasury stock
method.
<TABLE>
<CAPTION>
(Dollars in thousands, except per share amounts) Three Months Ended
March 31, 2000
------------------
<S> <C>
BASIC
Net income $ 6,264
Average common shares outstanding 10,000,000
Earnings per common share $ 0.63
DILUTED
Net income $ 6,264
Average common shares outstanding and common share
equivalents outstanding 10,008,884
Earnings per common share $ 0.63
</TABLE>
34
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-2000
<PERIOD-START> JAN-01-2000
<PERIOD-END> MAR-31-2000
<CASH> 141,485
<SECURITIES> 0
<RECEIVABLES> 508,360
<ALLOWANCES> (71,074)
<INVENTORY> 0
<CURRENT-ASSETS> 12,796
<PP&E> 2,544
<DEPRECIATION> (271)
<TOTAL-ASSETS> 593,840
<CURRENT-LIABILITIES> 78,305
<BONDS> 403,742
0
0
<COMMON> 100
<OTHER-SE> 111,693
<TOTAL-LIABILITY-AND-EQUITY> 593,840
<SALES> 0
<TOTAL-REVENUES> 35,959
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 15,902
<LOSS-PROVISION> 1,230
<INTEREST-EXPENSE> 10,085
<INCOME-PRETAX> 8,742
<INCOME-TAX> 2,478
<INCOME-CONTINUING> 6,264
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 6,264
<EPS-BASIC> 0.63
<EPS-DILUTED> 0.63
</TABLE>
