FORM 10-KSB
U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1996
Commission file number 0-18819
MONACO FINANCE, INC.
(Name of small business issuer in its charter)
Colorado 84-1088131
(State or other jurisdiction (IRS Employer
of incorporation or organization) Identification No.)
370 17th Street, Suite 5060
Denver, Colorado 80202
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: (303) 592-9411
SECURITIES REGISTERED UNDER SECTION 12(B) OF THE EXCHANGE ACT:
Class A Common Stock, $.01 Par Value
Title of Class
SECURITIES REGISTERED UNDER SECTION 12(G) OF THE EXCHANGE ACT:
Class A Common Stock, $.01 Par Value
Title of Class
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
X Yes _____ No
Check if disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of Registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form
10-KSB or any amendments to this Form 10-KSB. [ ]
State issuer's revenues for its most recent fiscal year. $13,500,753.
State the aggregate market value of the voting stock held by
non-affiliates (based on the average bid and asked prices of such stock) of
the Registrant:
As of February 28, 1997: Approximately $11,360,490.
As of February 28, 1997, there were 5,648,379 shares of Class A Common
Stock, $.01 par value and 1,323,715 shares of Class B Common Stock, $.01 par
value, outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Proxy Statement for the 1997 Annual Meeting to be filed within 120 days
after the fiscal year (Part III).
Transitional Small Business Disclosure Format: Yes No X
Total number of pages: 69
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MONACO FINANCE, INC.
1996 FORM 10-KSB ANNUAL REPORT
TABLE OF CONTENTS
PAGE NUMBER
PART I
Item 1. Description of Business 3-14
Item 2. Description of Property 14
Item 3. Legal Proceedings 15
Item 4. Submission of Matters
to a Vote of Security
Holders 15
PART II
Item 5. Market for Common Equity
and Related
Stockholder Matters 16
Item 6. Management's Discussion
and Analysis or Plan
of Operation 17-28
Item 7. Financial Statements 29-55
Item 8. Changes In and
Disagreements With
Accountants on
Accounting and
Financial Disclosure 56
PART III
Item 9. Directors and Executive
Officers,Promoters and
Control Persons, Compliance
With Section 16(a) of the
Exchange Act 56
Item 10. Executive Compensation 56
Item 11. Security Ownership of
Certain Beneficial Owners
and Management 56
Item 12. Certain Relationships
and Related Transactions 56
Item 13. Exhibits and Reports on
Form 8-K 56-68
Signatures 69
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PART I
ITEM 1. DESCRIPTION OF BUSINESS.
Monaco Finance, Inc. (the "Company") commenced business in June 1988 and
is engaged in the business of acquiring automobile retail installment
contracts ("Contract(s)") by providing special finance programs (the
"Program(s)") ("Sub-prime loans") to purchasers of vehicles who do not qualify
for traditional sources of bank financing due to their adverse credit history.
In 1996, the Company acquired Contracts from automobile dealers (the
"Dealer(s)" or the "Dealer Network") located in twenty-one states, the
majority of which were acquired from five states. At December 31, 1996 the
Company had sixteen full-time finance representatives to provide service to
current Dealers and to sign-up new Dealers for the Company's Programs. At
December 31, 1996, the Company's loan portfolio had an outstanding balance of
approximately $83 million.
In February 1996, the Company announced that it intended to discontinue
its Company owned retail used car dealerships, which conduct business under
the name "CarMart" (the "Company Dealerships" or "CarMart Dealerships"), and
the associated financing operations. In April 1996, the Company extended the
expected disposal date of the CarMart business from April 30, 1996 to May 31,
1996. The CarMart business ceased operations on May 31, 1996.
AUTO FINANCE PROGRAM
GENERAL
The Company's automobile finance programs are conducted nationally under
the name Monaco Finance Auto Program ("MFAP"). At December 31, 1996, the
Company had agreements with Dealers located in twenty-one states for the
purchase of Contracts which meet the Company's financing standards,
requirements and criteria. The Contracts are purchased without recourse and
are generally purchased for a processing fee and discount ranging from $150 to
$750 per contract. The purchase price primarily depends upon the particular
financing option used, the length of the Contract, and the model year and
mileage of the automobile financed. To date, the obligors under the Contracts
have made down payments ranging between 10% and 20% of the sales price of the
vehicle financed including the value of a trade-in, if any. Generally, the
remaining balance of the purchase price plus taxes, title fees and insurance,
where applicable, is financed over a period of 24 to 60 months at annual
interest rates ranging between 17% and 25%. At December 31, 1996 the original
annual percentage rate of interest of the Company's portfolio averaged
approximately 23% and the original weighted average term of the portfolio was
approximately 50 months.
PURCHASE AGREEMENTS (DEALERS)
The Company acquires Contracts from Dealers who have entered into dealer
agreements with the Company. The dealer agreements generally are in standard
form requiring that Contracts be originated in accordance with the Company's
Program guidelines and that the Contracts be secured by a perfected first lien
on the vehicle financed. Each Contract is underwritten by the Company
prior to acceptance. The Contracts are non-recourse to the selling Dealer
except for certain representations and warranties.
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The Company markets its MFAP through Dealer representatives who are
either full time employees of the Company or full time independent
contractors. The Dealer representatives reside in those states where the
Programs are marketed or in certain cases in adjacent states. In addition to
enlisting new Dealers into the Company programs, the Dealer Representatives
assist Dealers by familiarizing them with Monaco's Programs and procedures.
THIRD-PARTY LOAN ORIGINATIONS
In 1996, the Company began purchasing sub-prime automobile loans through
certain third-party loan originators. These loans are purchased according to
the company's underwriting and program guidelines.
FINANCING SOURCES
From inception through 1991, the Company financed the acquisition of
Contracts through loans from its principal stockholders and banks. In October
1991, the Company expanded its financing sources by establishing an
asset-backed automobile receivables program. In 1992 the Company entered into
a secured revolving line of credit with Citicorp Leasing Inc. ("Citicorp")
to finance Contracts. In 1994 the Company securitized $23.9 million of its
Contracts and in 1995 it obtained a $150 million revolving secured warehouse
line. Since 1993, the Company has used revolving lines of credit, private
placement borrowings, common stock, warrant exercises, and its Automobile
Receivable-Backed Securitization Program and the corresponding Revolving Notes
and Warehouse Notes as its primary sources of capital.
The following is a brief description of the Company's financing sources since
October 1991:
TRUST OFFERING
In October 1991, the Company completed an offering ("Trust Offering") of
$3,700,000 of CarMart Auto Receivables Trust 1991-1 (the "Trust") 8.85%
Asset-Backed Certificates Class A (the "Class A Certificates"). The Class A
Certificates received an investment grade rating of "BBB" from Fitch Investors
Services, Inc. and were sold to a limited number of sophisticated
investors. The Company was the servicer with respect to the Contracts in the
Trust and it received a servicing fee of 1.5% per annum on a monthly basis for
providing customary collection and servicing activities for the assets in the
Trust.
The Class A Certificates represented an undivided ownership interest in
the Trust whose assets consisted primarily of Contracts which were originated
by the Company Dealerships or from the MFAP and sold to banks. The Trust
financing allowed the Company to reduce the number of Contracts held by the
Banks under the Company's warehousing lines.
On January 20, 1993, the Company's special purpose wholly owned
subsidiary, CarMart Auto Receivables Company, repurchased the Class A
Certificates from the original institutional investors. The final payment on
the Certificates was received in early 1996.
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REVOLVING LINE OF CREDIT - CITICORP
In May 1995, the Company repaid, in full, the then outstanding balance on
its $25 million revolving line of credit with Citicorp and terminated the
facility.
CONVERTIBLE SUBORDINATED NOTE OFFERING
On March 15, 1993, the Company completed a private placement of 7%
Convertible Subordinated Notes (the "Notes") in the aggregate principal amount
of $2,000,000 (the "Note Offering"). The purchasers of the Notes
exercised an option to purchase an additional $1,000,000 aggregate principal
amount of the Notes on September 15, 1993. The principal amount of the Notes,
plus accrued and unpaid interest thereon, is due March 1, 1998. Interest
payments on the Notes are due semiannually commencing September 1, 1993. The
Notes are convertible into the Class A Common Stock of the Company at any time
prior to maturity at a conversion price of $3.42 per share, subject to
adjustment for dilution. Through December 31, 1996, Notes with an aggregate
principal amount of $1,615,000 have been converted resulting in the issuance
of 472,219 shares of Class A Common Stock. Commencing March 15, 1996 the
Company has the option to pre-pay up to one-third of the outstanding Notes at
par.
SENIOR SUBORDINATED NOTE OFFERING
On November 1, 1994 the Company sold, in a private placement, unsecured
Senior Subordinated Notes ("Senior Notes") in the principal amount of
$5,000,000 to Rothschild North America, Inc.
Interest is due and payable the first day of each quarter commencing on
January 1, 1995. Principal payments in the amount of $416,667 are due and
payable the first day of January, April, August and October of each year
commencing January 1, 1997. The unpaid principal amount of the Senior Notes,
plus accrued and unpaid interest are due October 1, 1999. The Company used
the proceeds from the sale of the Senior Notes to acquire additional loans
and to reduce its outstanding balance under its $25 million revolving credit
facility with Citicorp.
AAA-RATED AUTOMOBILE RECEIVABLES - BACKED NOTE OFFERINGS
In November 1994 MF Receivables Corp. I. ("MF Receivables"), the Company's
wholly owned special purpose subsidiary, sold, in a private placement,
$23,861,823 of 7.6% automobile receivables-backed notes ("Series 1994-A
Notes"). The Series 1994-A Notes accrue interest at a fixed rate of 7.6% per
annum. The Series 1994-A Notes are expected to be fully amortized by March
1998; however, the debt maturities are based on principal payments received on
the underlying receivables, which may result in a different final
maturity.
In May of 1995, MF Receivables issued its Floating Rate Auto
Receivables-Backed Note (Revolving Note" or "Series 1995-A Note"). The
Revolving Note has a stated maturity of October 16, 2002. MF Receivables
acquires Contracts from the Company which are pledged under the terms of the
Revolving Note and Indenture for up to $40 million in borrowing.
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Subsequently, the Revolving Note is repaid by the proceeds from the issuance
of secured Term Notes or repaid from collection of principal payments and
interest on the underlying Contracts. The Revolving Note can be used to
borrow up to an aggregate of $150 million through May 16, 1998. The Term
Notes have a fixed rate of interest and likewise are repaid from collections
on the underlying Contracts. An Indenture and Servicing Agreement require
that the Company and MF Receivables maintain certain financial ratios, as well
as other representations, warranties and covenants. The Indenture requires MF
Receivables to pledge all Contracts owned by it for repayment of the Revolving
Note or Term Notes, including Contracts pledged as collateral for Series
1994-A Notes, the Series 1995-B Term Notes, as well as all future Contracts
acquired by MF Receivables.
The Series 1995-A Note bears interest at LIBOR plus 75 basis points. The
initial funding of this Note was $26,966,489 on May 16, 1995. The Company, as
servicer, provides customary collection and servicing activities for the
Contracts. The Revolving Note has a stated maturity of October 16, 2002 and
an expected termination date of May 16, 1998. The maximum limit for the
Series 1995-A Note is $40 million. On September 15, 1995, MF Receivables
issued the Series 1995-B Term Notes ("Series 1995-B Notes") in the amount of
$35,552,602. The Series 1995-B Notes accrue interest at a fixed note rate of
6.45% per annum. The Series 1995-B Notes are expected to be fully amortized
by June 1999; however, the debt maturities are based on principal payments
received on the underlying receivables which may result in a different final
maturity. The proceeds from the issuance of the Series 1995-B Notes were used
to retire, in full, the 1995-A Note, which will be used to accumulate an
additional $114.4 million in $40 million increments.
The assets of MF Receivables are not available to pay general creditors
of the Company. In the event there is insufficient cash flow from the
Contracts (principal and interest) to service the Revolving Note and Term
Notes a nationally recognized insurance company (MBIA) has guaranteed
repayment. The MBIA insured Series 1994-A Notes, Series 1995-A Note and
Series 1995-B Notes received a corresponding AAA rating by Standard and Poor's
and an Aaa rating by Moody's and were purchased by institutional investors.
The underlying Contracts accrue interest at rates of approximately 17% to 29%.
All cash collections in excess of disbursements to the Series 1994-A, Series
1995-A and Series 1995-B noteholders and other general disbursements are paid
to MF Receivables monthly.
REDEMPTION OF CLASS A WARRANTS
The Company called its Class A Warrants for redemption on December 21, 1993,
pursuant to its November 8, 1993, Notice of Redemption. A total of
1,603,590 or 99% of the outstanding Class A Warrants were exercised, resulting
in gross proceeds to the Company of approximately $7.2 million. The Company
used the proceeds of the exercise of the Class A Warrants to pay its revolving
line of credit with Citicorp.
REDEMPTION OF CLASS B WARRANTS
On or about November 8, 1995, the Company reduced the exercise price of its
then outstanding Class B Common Stock purchase warrants from $6.00 per warrant
to $4.90 per warrant through their expiration date, December 11, 1995.
As a result of the Class B Warrant exercises, 1,622,970 shares of the
Company's Class A Common Stock were issued. The Company received net proceeds
of $7,602,606 after deduction of a 4% solicitation fee payable to D.H. Blair &
Co., Inc. A total of 108,120 Class B Warrants were not exercised and have
expired.
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In 1990, as part of its initial public stock offering and as partial
underwriter's compensation, the Company issued options to the underwriter for
the purchase of 70,000 units. Each unit, exercisable at $7.20, consisted of
two shares of Class A Common Stock and two Class A warrants. Each Class A
warrant was exercisable, at an exercise price of $4.50 per Class A warrant,
for one share of Class A Common Stock and one Class B warrant. By late 1995,
all the units were exercised resulting in the issuance of 137,000 shares of
Class A Common Stock in 1995 and 3,000 shares of Class A Common Stock in 1994,
for net proceeds to the Company of $493,200 and $10,800, respectively. All
Class A warrants, which were issued as a result of the exercise of the units,
were exercised resulting in the issuance of 140,000 shares of Class A Common
Stock for net proceeds to the Company of $630,000.
CONVERTIBLE SENIOR SUBORDINATED NOTE OFFERING
On January 9, 1996, the Company entered into a Purchase Agreement for the
sale of an aggregate of $5 million in principal amount of 12% Convertible
Senior Subordinated Notes due 2001 (the "12% Notes"). Interest on the 12%
Notes is payable monthly at the rate of 12% per annum and the 12% Notes are
convertible, subject to certain terms contained in the Indenture, into shares
of the Company's Class A Common Stock, par value $.01 per share, at a
conversion price of $4.625 per share, subject to adjustment under certain
circumstances. The 12% Notes were issued pursuant to an Indenture dated
January 9, 1996, between the Company and Norwest Bank Minnesota, N.A., as
trustee. The Company agreed to register, for public sale, the shares of
restricted Common Stock issuable upon conversion of the 12% Notes. The 12%
Notes were sold pursuant to an exemption from the registration requirements
under the Securities Act of 1933, as amended.
Provisions have been made for the issuance of up to an additional $5
million in principal amount of the 12% Notes ("Additional 12% Notes") on or
before January 9, 1998, between the Company and Black Diamond Advisors, Inc.
("Black Diamond"), one of the initial purchasers.
On or about June 28, 1996, the Company and Black Diamond entered into a
letter agreement amending (the "Amendment") their rights and obligations with
respect to the Purchase Agreement and Indenture dated January 9, 1996. The
Amendment provides the following:
1. The conversion price of the $5,000,000 in principal amount of 12% Notes
issued on or about January 9, 1996, is fixed at $4.00 per share.
2. The initial conversion price for up to $5,000,000 in principal amount
of any Additional 12% Notes, if any, is $3.00 per share.
3. The expiration date of the option is September 10, 1998.
REVOLVING LINE OF CREDIT - LASALLE NATIONAL BANK
In January 1996, the Company entered into a revolving line of credit
agreement with LaSalle National Bank providing a line of credit of up to $15
million, not to exceed a borrowing base consisting of eligible Contracts. The
scheduled maturity date of the line of credit is January 1, 1998. At the
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option of the Company, the interest rate charged on the line of credit shall
be either .5% in excess of the prime rate charged by lender or 2.75% over the
applicable LIBOR rate. The Company is obligated to pay the lender a fee equal
to .25% per annum of the average daily unused portion of the credit
commitment. The obligation of the lender to make advances is subject to
standard conditions. The collateral securing payment consists of all
Contracts pledged and all other assets of the Company. The Company has agreed
to maintain certain standard ratios and covenants. As of December 31, 1996,
the Company had borrowed $5,250,000 against this line of credit.
PACIFIC USA HOLDINGS CORP. - INSTALLMENT NOTE
On October 9, 1996, the Company entered into a Securities Purchase
Agreement with Pacific USA Holdings Corp. ("Pacific") whereby, among other
things, Pacific agreed to acquire certain shares of the Company's Class A
Common Stock. On November 1, 1996, the Company entered into a Loan Agreement
with Pacific whereby Pacific loaned the Company $3 million ("Pacific Loan").
On February 7, 1997, the Securities Purchase Agreement was terminated by the
parties; however, the Pacific Loan and its corresponding Installment Note
remained in effect.
The Installment Note accrues interest at a fixed rate per annum of 9% and
is payable interest only from November, 1996 through November, 1997; monthly
principal payments of $100,000 are due beginning December, 1997, and
continuing each month thereafter through and including November, 1998. The
unpaid principal amount of the Installment Note, plus accrued and unpaid
interest, is due and payable November 16, 1998.
The collateral securing payment of the Installment Note consists of 100%
of the authorized, issued and outstanding shares of stock of MF Receivables
Corp. I, consisting of 1,000 shares of common stock $0.01 par value per share.
Among other covenants, the Company has agreed to maintain the monthly
outstanding balance of all retail installment contracts owned by MF
Receivables Corp. I, less the then outstanding principal balance of all debt
issued by MF Receivables Corp. I, at a level in excess of 3.5 times the then
outstanding principal balance of the Installment Note.
OPERATIONS, COMPETITION AND REGULATION
UNDERWRITING GUIDELINES
The Company's targeted customers are persons who do not qualify for
traditional bank financing primarily due to their adverse credit history.
The Company has developed underwriting guidelines and standards based
upon many factors including, but not limited to the amount and terms of the
Contract, the customer's credit score and his or her employment and residency
history. In reviewing a customer's credit, the Company evaluates (i) the
credit application; (ii) the customer's cash flow statement of monthly cash
receipts and expenses to determine debt ratios; and, (iii) credit bureau
reports as well as other information and verifies the accuracy of all
information with respect to the customer as well as the car being financed.
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RISK ADJUSTED YIELDS
At the time Contracts are purchased or originated, the Company computes its
risk adjusted yield based on estimated future losses of principal determined
by the type and terms of the Contract, the credit quality of the borrower and
the underlying value of the vehicle financed. This estimate of risk adjusted
yield is based on the Company's risk model, which takes into account
historical data from similar contracts originated or purchased by the Company
since its inception in 1988. However, since the risk model uses past history
to predict the future, changes in Company programs, national and regional
economic conditions, borrower mix and other factors will result in risk
adjusted yields varying from predictions.
ANALYSIS OF CREDIT LOSSES
The allowance for credit losses has been established utilizing data obtained
from the Company's risk models and is continually reviewed and adjusted
in order to maintain the allowance at a level considered adequate to cover
losses of principal on the existing Contracts.
The provision for credit losses is based on estimated losses on all
Contracts purchased prior to January 1, 1995 with zero discounts ("100%
Contracts") and on all Contracts originated by CarMart which have been
provided for by additions to the Company's allowance for credit losses as
determined by the Company's risk analysis.
Effective January 1, 1995, upon the acquisition of certain Contracts from
its Dealer Network, a portion of future interest income, as determined by the
Company's risk analysis, is capitalized into Automobile Receivables (excess
interest receivable) and correspondingly used to increase the allowance for
credit losses (unearned interest income). Excess interest receivable is
subsequently reduced based upon the amoritization of the excess interest
income from the related Contracts.
Unearned discounts result from the purchase of Contracts from the Dealer
Network at less than 100% of the face amount of the note. All such discounts
are used to increase the allowance for credit losses.
See Note 2 of Notes to Consolidated Financial Statements regarding a
change in Accounting Principles for Credit Losses.
SERVICING AND MONITORING OF CONTRACTS
The Company services all of the Contracts it purchases or originates. The
Company's servicing and collection department employs 44 individuals to
perform these functions. The servicing department uses internally developed
software augmented by a software system purchased from Cyber Resources, Inc.
In 1996, the Company completed the installation of a predictive dialer
purchased from Melita International. A predictive dialer enhances the
productivity of the Company's collection efforts by making it possible to
contact more customers in a shorter period of time.
Upon the funding of a Contract, the servicing department boards the
Contract on its servicing system, which allows the Company to track payment
history from inception to final payoff or other disposition. The servicing
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system also automatically sends a payment coupon book to the customer.
Contract payments, if sent by mail, go directly to a lock box and are fowarded
daily by a third-party servicer to a bank holding the Company's accounts.
Where required, Trust receipts are subsequently forwarded to the appropriate
Trust account. As payments are processed, the customer's account is
automatically updated.
A customer service representative calls each customer, greeting them and
welcoming them to the Company. The Company begins its collection process when
a customer is five days late in making a monthly or bi-weekly payment with a
friendly reminder telephone call and a past due mailing notice. At this time,
the collector assigned to the account attempts to obtain a promise to pay. If
successful, the collector will follow up to determine if the promise is met.
If the customer reneges on his or her promise, the collector again contacts
the customer in an effort to collect and, at this time, explains to the
customer his or her obligation under the contract to repay the Company and the
consequences if timely payment is not made. These consequences include, among
other things, repossession of the vehicle financed and a further damaging
credit history for the customer. In certain cases, if the failure to pay is
the result of unforeseen emergencies such as sickness or temporary layoff, the
collector will attempt to work out a new payment schedule to bring the
customer current.
In the event the customer is not willing or able to meet his or her
obligation to the Company under the terms of the contract, and an alternative
payment schedule cannot be agreed to, the collector turns the Contract over to
a credit supervisor for further action. At this time, the supervisor can
decide to continue to work with the customer to bring the Contract current or
can remit the Contract to the manager of the collections department for
repossession. A decision to repossess generally will be made any time up
until a contract is 100 days delinquent. All Contracts 100 days past due must
be must be charged off under Company policy as of December 31, 1996. Effective
March 1, 1997, the Company changed its charge-off policy to require that all
contracts 120 days past due must be charged off. Generally, repossession
action takes place as a last resort and when no other arrangement can be made.
AUTOMOBILE SALES
In February, 1996, the Company announced that it intended to discontinue its
CarMart retail used car sales and associated financing operations
primarily due to increased competition in the sub-prime used car market. The
CarMart business ceased operations on May 31, 1996.
MARKETING AND ADVERTISING
The Company utilizes its Dealer Representatives and corresponding sale and
informational brochures to market its Programs to its Dealer Network.
THE USED CAR INDUSTRY AND THE SUBPRIME FINANCING MARKET
The used car industry in the United States can be characterized as a mature
but growing market. According to statistics from CNW Marketing Research, in
1985 15.7% of consumers surveyed stated that they would use available savings
to purchase a used car. In 1994, this increased significantly to 29.8%.
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This consumer sentiment was reinforced by the increase in used car sales
which, in 1985, totaled approximately 23 million units at franchised and
independent dealers and in 1996 had risen to approximately 38 million units.
Since 1994, the compounded annual growth rate of total used car sales was
approximately 9%. Management believes this growth will continue for used car
sales into the foreseeable future.
The typical automobile finance company generally classifies borrowers
into four general and subjective credit categories labeled A, B, C, and D. The
subprime financing market is characterized by lower quality credit lenders,
typically, C and D rated paper. Generally, C and D rated paper represents
borrowers who cannot qualify for financing through traditional sources, such
as banks, credit unions or captive finance companies, due primarily to their
adverse credit and employment history. Automobile finance companies often
purchase C and D credit paper at a discount to its face value. The discount is
designed to compensate the lender for the credit riskiness of these contracts.
In the past several years, discount percentages have been declining due to
increased price competition. The subprime market is also characterized by
higher charge-off and delinquency ratios than the "prime" segment of the
automobile finance market.
According to the Federal Reserve Board, total outstanding automobile
credit was approximately $367 billion in 1995. Industry analysts estimate
that the subprime automobile financing market comprises approximately 26% of
the automobile finance market. Industry analysts project this market growth to
continue, with estimated annual originations of approximately $70-$100
billion.
COMPUTERIZED INFORMATION SYSTEM
Monaco Finance is investing significant time, money and human resources in
the enhancement of its information systems. The business requires Monaco to
timely respond to customer and dealer needs. The Company's network computer
and communication systems are undergoing major changes to increase efficiency.
In early 1996, the systems were upgraded with Pentium Servers, running
the latest release of Novell Netware. All front-office and back-office
desktop computers have been modified and enhanced to provide greater
accessibility to network information via 100-Base-T intelligent switching
technology. Protection and security have been built into the infrastructure
utilizing anti-virus software and audit compliant password utilities
throughout the entire network.
These enhancements and upgrades are a part of new and innovative
technology being employed at Monaco. The Company also implemented a new
predictive dialer system offered by Melita International. In order to
maximize its servicing efficiencies, the Company intends to invest significant
additional resources to complete a fully integrated data base application. The
software research and development for this new system are currently in the
design phase.
STRATEGY
The Company's strategy is to increase the size of its loan portfolio while
maintaining the integrity of the credit quality of auto loans acquired.
The Company plans to implement its growth strategy by: (1) Expanding its
Dealer Network; (2) Increasing the number and amount of loans purchased from
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third-party originators; (3) Purchasing portfolios of seasoned loans
originated by others; (4) Continuing its efforts to increase the credit
quality of its portfolios and reduce credit losses and charge-offs; and (5)
Decrease the percentage of Operating Expenses to Total Portfolio Outstanding
by increasing the Portfolio while decreasing Operating Expenses.
During 1996 the Company acquired Contracts from approximately 425 Dealers
in 21 states, the majority of which were purchased in 5 states ("Primary
States"). In order to increase efficiency and reduce operating expenses , the
Company in 1997 has temporarily reduced its marketing representatives from 16
to 6 in the Primary States. In order to expand it's Dealer Network in the last
three quarters of 1997 the Company intends selectively to hire and train new
marketing representatives and to emphasize quality Dealer service.
In the latter part of 1996 the Company initiated a program of purchasing
loans from a third-party originator for a fee. These loans were underwritten
by the third-party originator to conform to standards established by the
Company. All loans purchased by the Company are either re-underwritten or
audited by Company personnel prior to funding. During the first quarter of
1997 the Company has entered into agreements with two similar originators and
is negotiating an agreement with an additional party to provide contracts for
the Company to purchase These third-party agreements, if successful, may
provide additional loan production for the Company without certain of the
costs associated with purchasing loans through its dealer network.
The Company also plans to pursue the purchase of loan portfolios
previously originated by sub-prime automobile contract originators. The
Company does not know, at this time, if such portfolios can be acquired at
prices that provide a risk adjusted yield to the Company that is sufficient to
meet the Company's criteria. Nor does the Company know if Capital or credit
facilities can be obtained to fund such purchases.
The Company in 1997 believes it has improved the credit quality of loans
through instituting new in house training programs for its credit buyers
and underwriters. This re-emphasis on its people in conjunction with
program modifications and its credit scoring system may help to decrease
charge-offs in the future. The Company also has revised certain of its
collection and recovery policies along with employing a new Vice President and
Senior Manager of collections and strongly believes that collections in 1997
will positively be affected by these changes.
.
Other strategies for the future include forming a strategic alliance with
another company, either currently engaged in or interested in entering the
sub-prime automobile finance industry. An alliance, if formed, may result in
additional Capital and warehouse lines of credit as well as increased loan
volume and cost efficiencies obtained by combining operations.
In addition to the above, the Company intends to pursue contractual
servicing arrangements, whereby, the Company will earn fee income by
providing servicing of loan portfolios owned by third-parties. Although no
assurance can be given that such contractual arrangements will be consummated,
the Company believes such opportunities exist and intends to pursue them
accordingly.
Implementation of the foregoing strategy will be dependent upon a number
of factors including, but not limited to: i) competition; ii) marketing
efficiency; iii) ability of the Company to acquire Contracts at prices
12
<PAGE>
commensurate with estimated risk; and, iv) maintaining and increasing capital
and warehouse lines of credit, of which no assurance is given.
COMPETITION
In connection with its business of financing vehicle purchases, the Company
competes with entities, many of whom have significantly greater financial
resources and management experience than the Company. The Company's target
market consists of persons who are generally unable to obtain traditional
vehicle financing because of their prior credit history. Many financial
institutions, finance companies and lenders have entered into this market.
Their lending programs and marketing efforts are regularly monitored by the
Company. The Company has maintained its growth by implementing and marketing
Programs and providing prompt service to the Dealer Network. However, as
others continue to enter into this market, competition for the Company's
target customer continues to increase, all of which could adversely affect the
Company's business.
REGULATION
The Company's operations are subject to regulation, supervision and
licensing under various federal, state and local statutes and ordinances. To
date, the Company's business operations are located in the States of Arizona,
California, Colorado, Florida, Georgia, Illinois, Iowa, Maryland,
Massachusets, Michigan, Mississippi, Missouri, Nevada, New Mexico, North
Carolina, Oregon, South Carolina, Tennessee, Texas, Utah, Virginia,
Washington, Wisconsin and Wyoming and, accordingly, the laws of those states,
as well as applicable federal laws, govern the Company's operations.
Compliance with existing laws and regulations applicable to the Company has
not had a material adverse effect on the Company's operations.
Management believes that the Company maintains all requisite licenses and
permits and is in substantial compliance with all applicable local, state and
federal regulations.
EMPLOYEES AND FACILITIES
At December 31, 1996, the Company employed 149 persons on a full time
basis, including 7 executive officers, 36 in credit and funding, 44 in
collections and liquidations, 15 in accounting and human resources, 16 in
marketing, 7 in MIS-computer department, 4 in risk and 20 in administrative
functions. In 1996, all personnel associated with the CarMart operations have
been reassigned to other positions within the Company or have been
released. As of March 28, 1997, the Company had reduced its number of
employees to 117. This reduction in staff is part of an effort to reduce
operating costs and increase overall efficiency.
In April 1994, the Company amended and restated its lease of office space
for its executive offices located at 370 17th Street, Suite 5060, Denver,
Colorado 80202, where it maintains approximately 24,716 square feet of space.
The Company currently pays $39,002 per month under a lease ending October 31,
1999, with adjustments for monthly payments on a periodic basis.
Effective December 1, 1996, the Company entered into a sublease agreement
for 6,571 square feet of office space located at 370 17th Street, Suite 4960,
Denver, Colorado, 80202. The Company pays $1,807 per month under a sublease
13
<PAGE>
ending November 30, 2000. The office space will be utilized as additional
executive offices of the Company.
On March 31, 1994, the Company's lease at 1319 S. Havana, Aurora,
Colorado 80010 was terminated and the operations of the retail CarMart
Dealership at that location were transferred to 890 S. Havana, Aurora,
Colorado 80010. This property is owned by a corporation all of whose
shareholders are officers of the Company. The Company entered into a
seven-year lease commencing March 24, 1994 and ending March 23, 2001. In
September 1995, the Company amended the lease to include an additional
property at 894 S. Havana, Aurora, Colorado 80010. The Company currently pays
$14,238 per month on a triple net basis. The lease calls for periodic rental
adjustments over its term. It is the Company's belief that the terms of the
related party lease are generally no less favorable than could have been
obtained from unrelated third party lessors for properties of similar size ,
condition and location. Effective June 1, 1996, the Company entered into a
sublease agreement on the property located at 890 S. Havana for the entire
lease term at an amount approximately equal to the Company's obligation.
Through January 31, 1996, the Company operated a retail CarMart
Dealership located at 1005 Motor City Drive, Colorado Springs, Colorado
80906. The dealership began full operation on April 30, 1991. The Company
entered into a twelve-month lease (commencing April 30, 1991 and ending May 1,
1992). Rent was $1,200 per month. The Company extended the lease on this
property until May 31, 1997 with monthly rent of $1,800 on a triple net basis.
The Company may, at its sole discretion, extend the lease for additional
yearly periods through May 31, 1998 if written notice of intent to do so is
given the lessor prior to April 15 of each year. Effective March 15, 1996, the
Company entered into a sublease agreement on the property for the entire lease
term at an amount approximately equal to the Company's obligation.
The Company's third used car retail lot was located at 11085 West Colfax
Avenue, Lakewood, Colorado 80215 and began full operation on March 15, 1992.
The Company entered into a twelve-month lease (commencing March 15, 1992 and
ending February 28, 1993). Rent was $3,000 per month. The Company extended
the lease through October 31, 1995 at a monthly rental rate of $4,000. On
March 31, 1995, the Company closed this retail lot.
The Company opened a fourth used car retail lot located at 4940 South
Broadway, Englewood, Colorado 80110 and began full operation on May 1, 1994.
The Company entered a lease, commencing March 22, 1994 and ending March 31,
1997. The Company may, at its sole discretion, extend the lease for additional
3-year periods through March 2003. On January 15, 1996, the Company closed
this retail lot. The Company currently pays $9,833 per month. The lease calls
for periodic adjustments over the term. Effective March 15, 1996, the Company
entered into a sublease agreement on the property for the entire lease term at
an amount approximately equal to the Company's obligation.
ITEM 2. DESCRIPTION OF PROPERTY.
The Company does not own any real property. The Company leases its office
facilities and its Company Dealerships as described in Item 1., "Description
of Business - Employees and Facilities," above.
14
<PAGE>
ITEM 3. LEGAL PROCEEDINGS.
On May 8, 1995, Milton Karsh, a former Officer and Director of the Company,
filed a civil suit in the District Court for the City and County of Denver,
State of Colorado against the Company, its President, Morris Ginsburg, and its
Executive Vice President, Irwin L. Sandler, both of whom are Directors of
the Company. The plaintiff alleges breach of contract, breach of fiduciary
duty and conversion in connection with the plaintiff's proposed sale of the
Class A Common Stock of the Company pursuant to Rule 144 under the Securities
Act of 1933. Plaintiff claimed he sustained approximately $450,000 in
damages. The defendants denied the material allegations of the complaint, set
forth several affirmative defenses, alleged that the complaint was frivolous
and filed a counterclaim against the plaintiff alleging breach of contract.
Mediation had been set for August 14, 1996.
In August 1996, the parties settled the above lawsuit. Under the
settlement, the Company agreed to retain the plaintiff as a consultant for a
period of three years, to reimburse the plaintiff's attorney fees and to
release and abandon any claim to ownership or option to acquire 20,715 shares
of Class B Common Stock owned by the plaintiff.
The Company has agreed to pay all litigation costs, including fees, and
to indemnify the Directors to the maximum extent provided by Colorado law, as
stated in the Company's By-Laws.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
15
<PAGE>
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The following table sets forth the range of the high and low closing bid
prices of the Class A Common Stock as reported for the periods indicated. The
prices represent quotations between dealers without retail mark-ups,
mark-downs, or commissions and may not necessarily represent actual
transactions. The quotations were provided by NASDAQ and the National
Quotation Bureau.
<TABLE>
<CAPTION>
CLASS A COMMON STOCK
<S> <C> <C>
Low Bid High Bid
-------- ---------
Quarter Ending 03/31/96 $ 3.000 $ 5.000
Quarter Ending 06/30/96 $ 2.125 $ 3.625
Quarter Ending 09/30/96 $ 1.625 $ 4.000
Quarter Ending 12/31/96 $ 2.313 $ 3.375
Quarter Ending 03/31/95 $ 3.780 $ 6.625
Quarter Ending 06/30/95 $ 4.250 $ 6.625
Quarter Ending 09/30/95 $ 5.000 $ 7.875
Quarter Ending 12/31/95 $ 4.500 $ 7.125
<FN>
</TABLE>
As of January 31, 1997, there were approximately 375 record holders of
the Company's Class A Common Stock and 3 record holders of Company's Class B
Common Stock. The Company's Class A Common Stock is traded on the NASDAQ
National Market under the symbol "MONFA".
The Board of Directors currently intends to retain earnings to finance
the Company's operations. The Company has never paid cash dividends on its
Common Stock and does not anticipate a change in this policy in the
foreseeable future. Certain of the Company's loan agreements contain
covenants that restrict the payment of cash dividends.
16
<PAGE>
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
FORWARD LOOKING STATEMENTS
This Annual Report on form 10-KSB contains forward looking statements.
Additional written or oral forward looking statements may be made by the
Company from time to time in filings with the Securities and Exchange
Commission or otherwise. Such forward looking statements are within the
meaning of that term in Section 27A of the Securities Act of 1933, as amended,
and Section 21E of the Securities Exchange Act of 1934, as amended. such
statements may include, but are not limited to, projections of revenues,
income, or loss, capital expenditures, plans for future operations, financing
needs or plans, objectives relating to the Automobile Receivables and the
related allowance and plans relating to products or services of the Company,
as well as assumptions relating to the foregoing.
Forward looking statements are inherently subject to risks and
uncertainties, some of which cannot be predicted or quantified. Future events
and actual results could differ materially from those set forth in,
contemplated by, or underlying the forward looking statements. Statements in
this Annual Report, including the Notes to Consolidated Financial Statements
and "Management's Discussion and Analysis of Financial Condition and Results
of Operations," describe factors, among others, that could contribute to or
cause such differences. Additional factors that could cause actual results to
differ materially from those expressed in such forward looking statements are
set forth in Exhibit 99 to this Annual Report on Form 10-KSB.
SUMMARY
In February 1996, the Company announced that it intended to discontinue its
CarMart retail used car sales and associated financing operations related to
its CarMart business. In April 1996, the Company extended the expected
disposal date of the CarMart business from April 30, 1996 to May 31, 1996. The
CarMart business ceased operations on May 31, 1996. The results of
operations of the CarMart business for 1995 were included in the Consolidated
Statements of Operations under the caption "(Loss) from discontinued
operations". The loss on disposal of the CarMart business has also been
accounted for as discontinued operations. The results of operations of the
CarMart business for 1996 were included in the loss on disposal.
The Company's revenues and net income from continuing operations
primarily are derived from interest income generated from its loan portfolio.
The Company's loan portfolio consists of Contracts purchased from the Dealer
Network, Contracts purchased from third-party originators and Contracts
financed from vehicle sales at the Company's Dealerships. The average discount
on all Contracts purchased pursuant to discounted Finance Programs during the
fiscal years ended December 31, 1996 and 1995 was approximately 6.6% and 17.1%
respectively. The Company services all of the loans that it owns. The loan
portfolio carries a contract annual percentage rate of interest that averages
approximately 23%, before discounts, and has an original weighted average term
of approximately 50 months. The average amount financed per Contract for the
years ended December 31, 1996 and 1995 was approximately $10,390 and $8,407,
respectively.
17
<PAGE>
RESULTS OF OPERATION
<TABLE>
<CAPTION>
OVERVIEW
INCOME STATEMENT DATA
Years ended December 31,
<S> <C> <C>
(dollars in thousands, except share amounts) 1996 1995
----------- -----------
Total revenues $ 13,501 $ 12,642
Total costs and expenses $ 17,449 $ 11,784
Income (loss) from continuing operations before income taxes
and cumulative effect of a change in accounting principle ($3,948) $ 858
Income tax expense (benefit) ($1,477) $ 321
Income (loss) from continuing operations before cumulative
effect of a change in accounting principle. ($2,471) $ 537
(Loss) from discontinued operations, net of income taxes - ($720)
(Loss) on disposal of discontinued business, net of income taxes ($302) ($1,158)
Cumulative effect of a change in accounting principle ($4,913) -
Net (loss) ($7,686) ($1,341)
Net (loss) per share ($1.10) ($0.24)
Weighted average number of shares outstanding 6,965,485 5,603,689
<FN>
</TABLE>
<TABLE>
<CAPTION>
BALANCE SHEET DATA
December 31,
<S> <C> <C>
(dollars in thousands) 1996 1995
--------- -------
Total assets $ 95,264 $79,351
Total liabilities $ 80,262 $56,601
Retained earnings (deficit) ($7,134) $ 552
Stockholders' equity $ 15,002 $22,750
<FN>
</TABLE>
The Company's revenues increased 7% from $12.5 million in 1995 to $13.5
million in 1996. Net income (loss) from continuing operations decreased from
$.5 million in 1995 to ($2.5) million in 1996. Earnings (loss) per share from
continuing operations for 1995 were $0.10, based on 5.6 million weighted
average shares outstanding, compared with ($0.35) per share, based on 7.0
million weighted average shares outstanding, for 1996. Net (loss) increased
from ($1.3) million in 1995 to a loss of ($7.7) million in 1996 while net
(loss) per share increased from ($0.24) in 1995 to ($1.10) in 1996 primarily
due to a 1996 charge for the cumulative effect of a change in accounting
principle of $4.9 million and a $3.0 million decrease in 1996 income from
continuing operations.
18
<PAGE>
<TABLE>
<CAPTION>
CONTINUING OPERATIONS
SELECTED OPERATING DATA
Years ended December 31,
<S> <C> <C>
(dollars in thousands, except where noted) 1996 1995
--------
Interest income $13,471 $12,501
Other income $ 30 $ 141
Provision for credit losses $ 911 $ 1,635
Operating expenses $11,801 $ 6,463
Interest expense $ 4,737 $ 3,686
Operating expenses as a % of average receivables 17% 12%
Contracts from Dealer Network 6,125 4,892
Contracts from Company Dealerships 148 1,480
-------- --------
Total contracts 6,273 6,372
Average amount financed (dollars) $10,390 $ 8,407
<FN>
</TABLE>
REVENUES
Total revenues for the year ended December 31, 1996 increased $0.9 million
when compared to the same period in 1995. Interest income increased $1.0
million, or 8%, from $12.5 million in 1995 to $13.5 million in 1996. This
increase was due to greater interest income generated from the 33% increase in
the Company's loan portfolio from $62.2 million at December 31, 1995, to
$82.9 million at December 31, 1996, offset by the increase in the amortization
of excess interest of $2.2 million as explained in Note 2 of the Notes to
Consolidated Financial Statements.
The most significant aspect of the growth in the Company's loan portfolio is
attributable to the increased number of loans generated from the Dealer
Network. The number of contracts generated from the Dealer Network increased
25% from 4,892 in 1995 to 6,125 in 1996. The dollar value of these Contracts
increased $21.5 million, or 51%, from $42.6 million in 1995 to $64.1 million
in 1996. The increase in Contracts mainly was due to the expansion of the
Dealer Network in 1996.
The number of loan originations from the CarMart operations decreased 90%
from 1,480 in 1995 to 148 in 1996. The dollar value of these Contracts
decreased $9.9 million, or 90%, from $11.0 million in 1995 to $1.1 million in
1996. The decrease in Contacts mainly was due to the March 31, 1995 closing of
the Company's Lakewood, Colorado, retail store, the January 1996 closings of
the Englewood, Colorado, and Colorado Springs, Colorado, retail stores, the
May 31, 1996 closing of the Aurora, Colorado, retail store and the Company's
continued focus in 1996 on the expansion of the Dealer Network.
The total number of Contracts generated by the Company decreased 2% from
6,372 in 1995 to 6,273 in 1996. The dollar value of these Contracts increased
$11.6 million, or 22%, from $53.6 million in 1995 to $65.2 million in 1996.
The average amount financed increased 24% from $8,407 in 1995 to $10,390 in
1996. The average discount on all Contracts purchased pursuant to the
discounted Finance Programs decreased from 17.1% in 1995 to 6.6% in 1996. The
increase in the average amount financed and the decrease in the purchase
discount were primarily due to new Finance Programs introduced in 1995 and
1996 and more selective buying beginning in the third quarter of 1996, with
the intent to reduce credit loses.
At December 31, 1995 and 1996, approximately $12.8 million, or 21%, and
$4.7 million, or 6%, of the Automobile Receivables loan portfolio were
generated from the CarMart operations.
Other income decreased $111,000, or 79%, from $141,000 in 1995 to
$30,000 in 1996 due primarily to a decrease in insurance servicer income.
19
<PAGE>
COSTS AND EXPENSES
The provision for credit losses decreased $.7 million, or 44%, from $1.6
million in 1995 to $.9 million in 1996. The provision for credit losses
represents estimated current losses based on the Company's risk analysis of
historical trends and expected future results for Contracts purchased prior to
January 1, 1995. The decrease in the provision for credit losses
primarily was due to the introduction of the excess interest method to record
allowances effective January 1, 1995 (see Note 2 of the Notes to Consolidated
Financial Statements), as well as changes in certain of the Company's
programs. Net charge-offs as a percentage of average net automobile
receivables increased ("Net Charge-off Increase") from 16.5% in 1995 to 19.5%
in 1996. The Company anticipates that net charge-offs as a percentage of
average net automobile receivables will decrease in the future due to the
implementation of the company's credit scoring system in 1996. The Company had
2.9% of its loan portfolio over 60 days past due at December 31, 1995 compared
with 2.2 % at December 31, 1996.
Certain of the increase in charge-offs are a result in the change in the
mix of loan program type purchased by the Company and a general increase in
the age of the portfolio. In addition, certain Contracts purchased in 1995
have contributed to the increase in charge-offs in 1996. In 1996, the number
of loans purchased at less than face value increased by 239% when compared to
1995. The risk model for these loans anticipates a higher percentage of
charge-offs and delinquencies, the cost of which is intended to be off-set by
the discount in the purchase of these loans. The risk adjusted yields (net
yield on amounts paid for Contracts based on Contract cash flows calculated at
the note interest rate and adjusted for prepayments, defaults and recoveries)
in these programs is estimated to be as good as, or better than, the Company's
loan programs which have lower anticipated charge-offs and delinquencies.
In an attempt to improve the credit quality of Contracts purchased, and
reduce charge-offs, the Company implemented an internally developed credit
scorecard during the third quarter of 1996 to assist in the evaluation of
credit quality and lower future charge-offs.
Effective October 1, 1996, the Company adopted a new methodology for
reserving for and analyzing its loan losses. This accounting method is
commonly referred to as static pooling. The static pooling reserve methodology
allows the Company to stratify its Automobile Receivables portfolio, and the
related components of its Allowance for Credit Losses (i.e. discounts, excess
interest, charge offs and recoveries) into separate and identifiable quarterly
pools. These quarterly pools, along with the Company's estimate of future
principle losses and recoveries, are analyzed quarterly to determine the
adequacy of the Allowance for Credit Losses. The method previously used by the
Company to analyze the Allowance for Credit Losses was based on the total
Automobile Receivables portfolio.
As part of its adoption of the static pooling reserve method, where
necessary, the Company adjusted its quarterly pool allowances to a level
necessary to cover all anticipated future losses (i.e. life of loan) for each
related quarterly pool of loans.
Under static pooling, excess interest and discounts are used to increase
the Allowance for Credit Losses and represent the Company's primary reserve
for future losses on its portfolio. To the extent that any quarterly pool's
excess interest and discount reserves are insufficient to absorb future
estimated losses, net of recoveries, adjusted for the impact of current
delinquencies, collection efforts, and other economic indicators including
analysis of the Company's historical data, the Company will provide for such
deficiency through a charge to the Provision for Credit Losses and the
establishment of an additional Allowance for Credit Losses. To the extent that
any excess interest and discount reserves are determined to be sufficient to
absorb future estimated losses, net of recoveries, the difference will be
accreted into interest income on an effective yield method over the estimated
remaining life of the related quarterly static pool.
20
<PAGE>
Operating expenses increased $5.3 million, or 83%, from $6.5 million in
1995 to $11.8 million in 1996. The major components of the increase in
operating expenses are as follows:
<TABLE>
<CAPTION>
<S> <C> <C> <C>
(dollars in thousands) 1996 1995 Increase
-------- -------- ---------
Salaries and benefits $ 5,737 $ 3,693 $ 2,044
Depreciation and amortization 1,321 922 399
Consulting and professional fees 2,535 1,363 1,172
Telephone 487 226 261
Travel and entertainment 404 163 241
Loan origination fees (1,155) (2,227) 1,072
Rent/Office Supplies/Postage 1,077 988 89
All other 1,395 1,335 60
-------- -------- ---------
$11,801 $ 6,463 $ 5,338
======== ======== =========
<FN>
</TABLE>
Interest expense increased $1.0 million, or 29%, from $3.7 million in
1995 to $4.7 million in 1996. This increase primarily was due to an increase
in borrowings that provided the necessary working capital for the Company to
increase its loan portfolio from $62.2 million at December 31, 1995 to $82.9
million at December 31, 1996. Since December 31, 1995, net increases in the
Company's debt were as follows:
<TABLE>
<CAPTION>
(dollars in thousands)
<S> <C>
Notes payable - LaSalle $ 5,250
Installment note payable 3,000
Convertible senior subordinated debt 5,000
Automobile receivables-backed notes 9,486
-------
Total $22,736
=======
<FN>
</TABLE>
The average annualized interest rate on the Company's debt was 7.1% in
1996 versus 7.7% in 1995. This decrease was primarily due to lower interest
rates associated with the Company's Series 1994-A, Series 1995-A and Series
1995-B Notes as compared to those charged under the Company's prior credit
facility with Citicorp.
The annualized net interest margin percentage, representing the
difference between interest income and interest expense divided by average
finance receivables, decreased from 16.2% in 1995 to 12.3% in 1996. The
decrease was due primarily to the amortization of excess interest receivable
as described in Note 2 of the Notes to Consolidated Financial Statements.
NET INCOME
Net income (loss) from continuing operations decreased $3.0 million from $.5
in 1995 to $(2.5) million in 1996. This decrease was primarily due to the
following changes on the Consolidated Statement of Operations:
<TABLE>
<CAPTION>
<S> <C>
Increase (Decrease) to Net Income
(in millions of dollars) From Cont. Operations
-----------------------------------
Interest and other income $ 0.9
Provision for credit losses 0.7
Operating expenses (5.3)
Interest expense (1.1)
Income tax expense 1.8
-----------------------------------
Net (decrease) to net income
from continuing operations $ (3.0)
===================================
<FN>
</TABLE>
21
<PAGE>
<TABLE>
<CAPTION>
DISCONTINUED OPERATIONS
SELECTED OPERATING DATA
Years ended December 31,
<S> <C> <C>
(dollars in thousands, except where noted) 1996 1995
------- ---------
Sale of vehicles $1,301 $ 11,307
Other income $ 15 $ 55
Cost of vehicles sold $1,085 $ 6,576
Provision for credit losses $ 274 $ 2,893
Operating expenses $ 795 $ 3,013
Interest expense - $ 31
Loss on disposal of discontinued business ($301) ($1,158)
Gross margin % on vehicle sales 20% 42%
Operating expenses as a % of revenues 60% 27%
<FN>
</TABLE>
In February 1996, the Company announced that it intended to discontinue
its CarMart retail used car sales and associated financing operations. In
April 1996, the Company extended the disposal date of the CarMart business
from April 30, 1996 to May 31, 1996. The CarMart business ceased operations on
May 31, 1996. The results of operations of the CarMart business for 1995 are
included in the Consolidated Statement of Operations under the caption (Loss)
from discontinued operations. The results of operations for 1996 were included
in the loss on disposal. At March 31, 1996 and September 30, 1996, the Company
recorded additional losses on disposal of $150,000 and $355,000 pretax
($93,900 and $207,551 after tax), respectively, related to the disposal of the
CarMart business.
On January 15, 1996 and January 31, 1996, the Company closed its retail
car lots located in Englewood, Colorado, and Colorado Springs, Colorado,
respectively, and transferred the remaining retail inventory to its Aurora,
Colorado retail store. Effective March 15, 1996, the Company entered into a
sublease agreement on the Englewood, Colorado, and Colorado Springs, Colorado,
properties, for the entire lease terms, at an amount approximately equal to
the Company's obligation. On May 31, 1996, the Company closed its retail car
lot in Aurora, Colorado and entered into a sublease agreement for the entire
lease term. As of October 17, 1996, the remaining retail inventory had been
liquidated. The Company had previously closed its retail car lot in Lakewood,
Colorado, on March 15, 1995. All personnel associated with the CarMart
operations have been reassigned to other positions within the Company or have
been released.
REVENUES
Revenues from the sale of vehicles decreased $10.0 million, or 88%, from
$11.3 million in 1995 to $1.3 million in 1996. This decrease was primarily due
to the March 15, 1995 closing of the Company's Lakewood, Colorado, retail
car lot, the January 1996 closings of the Englewood, Colorado, and Colorado
Springs, Colorado, retail car lots and the May 31, 1996 closing of the Aurora,
Colorado retail lot.
Other income, which primarily represents revenue derived from customer
repairs performed by the Company's repair shop, decreased $40,000 in 1996.
COSTS AND EXPENSES
The cost of vehicles sold decreased $5.5 million, or 84%, from $6.6 million
in 1995 to $1.1 million in 1996. As a percentage of corresponding vehicle
sales, the cost was 58% in 1995 and 83% in 1996.
The provision for credit losses decreased $2.6 million, or 91%, from $2.9
million in 1995 to $.3 million in 1996. The provision for credit losses
represents estimated current losses based on the Company's risk analysis of
historical trends and expected future results for its CarMart portfolio. The
decrease in the provision for credit losses was due primarily to the decrease
in CarMart sales and associated financing over this period. See the discussion
22
<PAGE>
above in Continuing Operations regarding the provision and allowance for
credit losses for additional analysis and explanation of the Company's
charge-offs, delinquencies and risk model.
Operating expenses decreased $2.2 million, or 73%, from $3.0 million in
1995 to $.8 million in 1996. As a percentage of revenues, operating expenses
for 1995 were 27% compared to 61% in 1996. This increase was due primarily to
the relatively high percentage of fixed to variable overhead costs associated
with operating the CarMart business and the general decrease in CarMart sales
from 1995 to 1996.
The major components of the increase in operating expenses are as follows:
<TABLE>
<CAPTION>
<S> <C> <C> <C>
Increase
(dollars in thousands) 1996 1995 (Decrease)
----- ------ ----------
Salaries and benefits $ 161 $1,611 ($1,450)
Advertising 88 678 (590)
Rent 100 334 (234)
All other 446 390 56
----- ------ ----------
$ 795 $3,013 ($2,218)
===== ====== ==========
<FN>
</TABLE>
The Company allocated interest expense of $31,000 to discontinued
operations in 1995. The allocation was based on the ratio of discontinued net
assets to consolidated net assets plus consolidated debt.
LOSS ON DISPOSAL
The loss on disposal of the CarMart business of $1.8 million in 1995 ($1.2
million after tax) was comprised primarily of a provision of $1.2 million
(pre-tax) for estimated future losses on Contracts originated through the
CarMart retail stores. Also, included in the loss on disposal was $.5 million
(pre-tax) for estimated 1996 losses from the operations of the CarMart
business through the disposal date and $.1 million (pre-tax) related to
estimated CarMart closing costs.
The loss on disposal of the Carmart business of $.5 million in 1996 ($.3
million after tax) was due primarily to greater than anticipated closing costs
and the extension of the disposal date from April 30, 1996 to May 31, 1996.
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash flows for the years ended December 31, 1996 and 1995
are summarized as follows:
<TABLE>
<CAPTION>
CASH FLOW DATA
(dollars in thousands) Years ended December 31,
<S> <C> <C>
1996 1995
--------- ---------
Cash flows from:
Operating activities $ 2,377 $ 5,937
Investing activities (30,004) (28,306)
Financing activities 21,607 29,590
--------- ---------
Net increase (decrease) in cash and cash equivalents ($6,020) $ 7,221
========= =========
<FN>
</TABLE>
The Company's business has been and will continue to be cash intensive.
The Company's principal need for capital is to fund cash payments made to
Dealers and to third-party originators in connection with purchases of
installment contracts. These purchases have been financed through the
Company's capital, private placement borrowings and cash flows from
operations. It is the Company's intent to use its Revolving Note and revolving
line of credit, as described in detail below, to provide the liquidity to
finance the purchase of installment Contracts.
23
<PAGE>
In order to further insure the Company's ability to finance the purchase
of installment contracts and thereby continue to grow, the Company is seeking
to obtain an additional warehouse credit facility on terms more favorable than
the Revolving Note described in Note 5 to the Company's Consolidated Financial
Statements. If the Company is successful in obtaining such a credit facility,
it will provide the Company with additional working capital to the extent that
the new cash advance terms are more favorable than the Revolving Note.
Although the Company believes it will be able to consummate such a new credit
facility, no assurance can be given that it will be consummated.
In addition to its efforts to obtain a new credit facility, as described
above, the Company on November 1, 1996, obtained a $3 million term loan from
Pacific USA Holdings Corp. as described in Note 5 to the Company's
Consolidated Financial Statements.
The Agreements underlying the terms of the Company's Automobile
Receivable - Backed Securitization Program ("Securitization Program") and the
corresponding Revolving Notes and Warehouse Notes, described below, contain
certain covenants which if not complied with, could materially restrict the
Company's liquidity. Although the Company endeavors to comply with these
covenants, no assurance is given that the Company will continue to be in
compliance. Furthermore, if the Net Charge-Off Increase continues to grow
substantially in future reporting periods, it negatively will impact the
Company's liquidity and could impair its ability to increase its loan
portfolio. Under the terms of the Revolving Note, approximately 80% of the
face amount of Contracts, in the aggregate, is advanced to the Company for
purchasing qualifying Contracts. The balance must be financed through capital.
During 1993, the Company completed the Note Offering described in Note 5
of the Notes to Consolidated Financial Statements. In the Note Offering, the
Company sold 7% Convertible Subordinated Notes in the aggregate principal
amount of $2,000,000. The purchasers of the Notes exercised an option to
purchase an additional $1,000,000 aggregate principal amount on September 15,
1993. The principal amount of the Notes, plus accrued interest thereon, is due
March 1, 1998. The Notes are convertible into Class A Common Stock of the
Company at any time prior to maturity at a conversion price of $3.42 per
share, subject to adjustment for dilution. Certain of these Notes with an
aggregate principal amount of $1,615,000 were converted in 1994 and 1995,
resulting in the issuance of 472,219 shares of Class A Common Stock.
On November 1, 1994, the Company sold in a private placement unsecured
Senior Subordinated Notes (Senior Notes") in the principal amount of
$5,000,000 to Rothschild North America, Inc. Interest is due and payable the
first day of each quarter commencing on January 1, 1995. Principal payments in
the amount of $416,667 are due and payable the first day of January, April,
August and October of each year, commencing January 1, 1997. The unpaid
principal amount of the Notes, plus accrued and unpaid interest, are due
October 1, 1999.
In November 1994, MF Receivables Corp. I ("MF Receivables") sold, in a
private placement, $23,861,823 of 7.6% automobile receivables- backed notes
("Series 1994-A Notes"). The Series 1994-A Notes accrue interest at a fixed
rate of 7.6% per annum. The Series 1994-A Notes are expected to be fully
amortized by March 1998; however, the debt maturities are based on principal
payments received on the underlying receivables, which may result in a
different final maturity.
In May of 1995, MF Receivables issued its Floating Rate Auto
Receivable-Backed Note ("Revolving Note" or "Series 1995-A Note"). The
Revolving Note has a stated maturity of October 16, 2002. MF Receivables
acquires Contracts from the Company which are pledged under the terms of the
Revolving Note and Indenture for up to $40 million in borrowing. Subsequently,
the Revolving Note is repaid by the proceeds from the issuance of secured Term
Notes or repaid from collection of principal payments and interest, on the
underlying Contracts. The Revolving Note can be used to borrow up to an
aggregate of $150 million through May 16, 1998. The Term Notes have a fixed
rate of interest and likewise are repaid from collections on the underlying
Contracts. An Indenture and Servicing Agreement require that the Company and
MF Receivables maintain certain financial ratios, as well as other
representations, warranties and covenants. The Indenture requires MF
Receivables to pledge all Contracts owned by it for repayment of the Revolving
Note or Term Notes, including Contracts pledged as collateral for Series
1994-A Term Notes and the Series 1995-B Term Notes, as well as all future
Contracts acquired by MF Receivables.
The Series 1995-A Note bears interest at LIBOR plus 75 basis points. The
initial funding of this Note was $26,966,489 on May 16, 1995. The Company, as
servicer, provides customary collection and servicing activities for the
Contracts. The Revolving Note has a stated maturity of October 16, 2002 and an
expected termination date of May 16, 1998. The maximum limit for the Series
1995-A Note is $40 million. On September 15, 1995, MF Receivables issued the
24
<PAGE>
Series 1995-B Term Notes ("Series 1995-B Notes") in the amount of $35,552,602.
The Series 1995-B Notes accrue interest at a fixed note rate of 6.45% per
annum. The Series 1995-B Notes are expected to be fully amortized by June
1999; however, the debt maturities are based on principal payments received on
the underlying receivables which may result in a different final maturity. The
proceeds from the issuance of the Series 1995-B Notes were used to retire, in
full, the 1995-A Note, which will be used to accumulate an additional $114.4
million in $40 million increments.
The assets of MF Receivables are not available to pay general creditors
of the Company. In the event there is insufficient cash flow from the
Contracts (principal and interest) to service the Revolving Note and Term
Notes, a nationally recognized insurance company (MBIA) has guaranteed to
repay. The MBIA insured Series 1994-A Notes, Series 1995-A Note and Series
1995-B Notes received a corresponding AAA rating by Standard and Poor's and an
Aaa rating by Moody's and were purchased by institutional investors. The
underlying Contracts accrue interest at rates of approximately 21% to 29%. All
cash collections in excess of disbursements to the Series 1994-A, Series
1995-A and Series 1995-B noteholders and other general disbursements are paid
to MF Receivables monthly.
As of December 31 1996, the Series 1994-A Notes, Series 1995-A Note and
Series 1995-B Notes and underlying receivables backing those notes were as
follows:
<TABLE>
<CAPTION>
<S> <C> <C>
Underlying
(dollars in thousands) Note Balance Receivable Balance
------------- -------------------
Series 1994-A Notes $ 4,837 $ 4,898
Series 1995-A Note 39,967 50,551
Series 1995-B Notes 14,352 15,680
------------- -------------------
Total $ 59,156 $ 71,129
============= ===================
<FN>
</TABLE>
On January 9, 1996, the Company entered into a Purchase Agreement for the
sale of an aggregate of $5 million in principal amount of 12% Convertible
Senior Subordinated Notes due 2001 (the "12% Notes"). Interest on the 12%
Notes is payable monthly at the rate of 12% per annum and the 12% Notes are
convertible, subject to certain terms contained in the Indenture, into shares
of the Company's Class A Common Stock, par value $.01 per share, at a
conversion price of $4.625 per share, subject to adjustment under certain
circumstances. The 12% Notes were issued pursuant to an Indenture dated
January 9, 1996, between the Company and Norwest Bank Minnesota, N.A., as
trustee. The Company agreed to register, for public sale, the shares of
restricted Common Stock issuable upon conversion of the 12% Notes. The 12%
Notes were sold pursuant to an exemption from the registration requirements
under the Securities Act of 1933, as amended.
Provision has been made for the issuance of up to an additional $5
million in principal amount of the 12% Notes ("Additional 12% Notes") on or
before January 9, 1998, upon such terms and conditions as shall be agreed to
between the Company and Black Diamond Advisors, Inc. ("Black Diamond"), one of
the initial purchasers.
On or about June 28, 1996, the Company and Black Diamond entered into a
letter agreement amending (the "Amendment") their rights and obligations with
respect to the Purchase Agreement and Indenture dated January 9, 1996. The
Amendment provides the following:
1. The conversion price of the $5,000,000 in principal amount of 12% Notes
issued on or about January 9, 1996, is fixed at $4.00 per share.
2. The initial conversion price for up to $5,000,000 in principal amount
of any Additional 12% Notes, if any, is $3.00 per share.
3. The expiration date of the option is September 10, 1998.
At the Annual Shareholders' Meeting held on September 10, 1996, the
shareholders voted to ratify the amended Purchase Agreement and Indenture
dated January 9, 1996.
25
<PAGE>
In January 1996, the Company entered into a revolving line of credit
agreement with LaSalle National Bank providing a line of credit of up to $15
million, not to exceed a borrowing base consisting of eligible accounts
receivable to be acquired. The scheduled maturity date of the line of credit
is January 1, 1998. At the option of the Company, the interest rate charged on
the loans shall be either .5% in excess of the prime rate charged by the
lender or 2.75% over the applicable LIBOR rate. The Company is obligated to
pay the lender a fee equal to .25% per annum of the average daily unused
portion of the credit commitment. The obligation of the lender to make
advances is subject to standard conditions. The collateral securing payment of
the line of credit consists of all Contracts pledged and all other assets of
the Company. The Company has agreed to maintain certain restrictive loan
covenants. As of December 31, 1996, the Company had borrowed $5,250,000
against this line of credit.
On October 9, 1996, the Company entered into a Securities Purchase
Agreement with Pacific USA Holdings Corp. ("Pacific") whereby, amongst other
things, Pacific agreed to acquire certain shares of the Company's Class A
Common Stock. On November 1, 1996, the Company entered into a Loan Agreement
with Pacific whereby Pacific loaned the Company $3 million ("Pacific Loan").
On February 7, 1997, the Securities Purchase Agreement was terminated by the
parties; however, the Pacific Loan and its corresponding Installment Note
remained in effect.
The Installment Note accrues interest at a fixed rate per annum of 9% and
is payable interest only from November, 1996 through November, 1997; monthly
principal payments of $100,000 are due beginning December, 1997, and
continuing each month thereafter through and including November, 1998. The
unpaid principal amount of the Installment Note, plus accrued and unpaid
interest, is due and payable November 16, 1998.
The collateral securing payment of the Installment Note consists of 100%
of the authorized, issued and outstanding shares of stock of MF Receivables
Corp. I, consisting of 1,000 shares of common stock $0.01 par value per share.
Among other covenants, the Company has agreed to maintain the monthly
outstanding balance of all retail installment contracts owned by MF
Receivables Corp. I, less the then outstanding principal balance of all debt
issued by MF Receivables Corp. I, at a level in excess of 3.5 times the then
outstanding principal balance of the Installment Note.
On or about November 8, 1995, the Company reduced the exercise price of
its then outstanding Class B Common Stock purchase warrants from $6.00 per
warrant to $4.90 per warrant through their expiration date, December 11, 1995.
As a result of the Class B warrant exercises, 1,622,970 shares of the
Company's Class A Common Stock were issued. The Company received net proceeds
of $7,602,606 after deduction of a 4% solicitation fee payable to D.H. Blair &
Co., Inc. A total of 108,120 Class B warrants were not exercised and have
expired.
In 1990, as part of its initial public stock offering and as partial
underwriter's compensation, the Company issued options to the underwriter for
the purchase of 70,000 units. Each unit, exercisable at $7.20, consisted of
two shares of Class A Common Stock and two Class A warrants. Each Class A
warrant was exercisable, at an exercise price of $4.50 per Class A warrant,
for one share of Class A Common Stock and one Class B warrant. By late 1995,
all the units were exercised resulting in the issuance of 137,000 shares of
Class A Common Stock in 1995 and 3,000 shares of Class A Common Stock in 1994,
for net proceeds to the Company of $493,200 and $10,800, respectively. All
Class A warrants which were issued as a result of the units were exercised in
1995 resulting in the issuance of 140,000 shares of Class A Common Stock for
net proceeds to the Company of $630,000.
In March 1996, the Company announced that its Board of Directors had
authorized the purchase of up to 500,000 shares of Class A Common Stock,
representing approximately 10% of its Class A Common Stock outstanding.
Subject to applicable securities laws, repurchases may be made at such times,
and in such amounts, as the Company's management deems appropriate. As of
December 31, 1996, the Company had repurchased 26,900 shares of Class A Common
Stock.
The Company has never paid cash dividends on its Common Stock and does
not anticipate a change in this policy in the foreseeable future. Certain of
the Company's loan agreements contain covenants that restrict the payment of
cash dividends.
The Company's cash needs will, in part, continue to be funded through a
combination of earnings and cash flow from operations and its existing
warehouse credit facility and line of credit. In addition, the Company
continues to pursue additional sources of funds including, but not limited to,
various forms of debt and/or equity. The ability of the Company to maintain
past growth levels will, in large part, be dependent upon obtaining such
additional sources of funding, of which no assurance can be given. Failure to
obtain additional funding sources will materially restrict the Company's
26
<PAGE>
future business activities and could, in the future, require the Company to
sell certain of the Loans in its Portfolio to meet its liquidity requirments.
OTHER
ACCOUNTING PRONOUNCEMENTS
In 1995, the Financial Accounting Standards Board ("FASB")issued Statement
No. 123, Accounting for Stock Based Compensation, (SFAS 123) which encourages,
but does not require, companies to recognize compensation expense for
grants of stock, stock options and other equity instruments to employees. SFAS
123 is required for such grants, described above, to acquire goods and
services from non-employees. Additionally, although expense recognition is not
mandatory, SFAS 123 requires companies that choose not to adopt the new fair
value accounting rules to disclose pro forma net income and earnings per share
information using the new method. The Company has adopted SFAS 123 in the
fourth quarter of fiscal 1995 and disclosed pro forma net income and earnings
per share information related to the 272,500 employee stock options granted in
1996 in Note 6 of the Notes to Consolidated Financial Statements.
In June 1996, the FASB issued SFAS No. 125, Accounting for Transfers and
Servicing of Financial Assets and Extinguishment of Liabilities. The Company
intends to adopt SFAS No. 125. effective January 1, 1997. Under SFAS No. 125,
future asset securitization in which control of the securitized financial
assets is transferred would be accounted for by recognizing all assets sold
and recognizing in earnings any gain or loss on the sale.
INFLATION
Inflation was not a material factor in either the sales or the operating
expenses of the Company from inception to December 31, 1996.
FUTURE EXPANSION AND STRATEGY
The Company's strategy is to increase the size of its loan portfolio
while maintaining the integrity of the credit quality of auto loans acquired.
The Company plans to implement its growth strategy by: (1) Expanding its
Dealer Network; (2) Increasing the number and amount of loans purchased from
third-party originators; (3) Purchasing portfolios of seasoned loans
originated by others; (4) Continuing its efforts to increase the credit
quality of its portfolios and reduce credit losses and charge-offs; and (5)
Decrease the percentage of Operating Expenses to Total Portfolio Outstanding
by increasing the Portfolio while decreasing Operating Expenses.
During 1996 the Company acquired Contracts from approximately 425 Dealers
in 21 states, the majority of which were purchased in 5 states ("Primary
States"). In order to increase efficiency and reduce operating expenses , the
Company in 1997 has temporarily reduced its marketing representatives from 16
to 6 in the Primary States. In order to expand it's Dealer Network in the last
three quarters of 1997 the Company intends selectively to hire and train new
marketing representatives and to emphasize quality Dealer service.
In the latter part of 1996 the Company initiated a program of purchasing
loans from a third-party originator for a fee. These loans were underwritten
by the third-party originator to conform to standards established by the
Company. All loans purchased by the Company are either re-underwritten or
audited by Company personnel prior to funding. During the first quarter of
1997 the Company has entered into agreements with two similar originators and
is negotiating an agreement with an additional party to provide contracts for
the Company to purchase These third-party agreements, if successful, may
provide additional loan production for the Company without certain of the
costs associated with purchasing loans through its dealer network.
The Company also plans to pursue the purchase of loan portfolios
previously originated by sub-prime automobile contract originators. The
Company does not know, at this time, if such portfolios can be acquired at
prices that provide a risk adjusted yield to the Company that is sufficient to
meet the Company's criteria. Nor does the Company know if Capital or credit
facilities can be obtained to fund such purchases.
27
<PAGE>
The Company in 1997 believes it has improved the credit quality of loans
through instituting new in house training programs for its credit buyers
and underwriters. This re-emphasis on its people in conjunction with
program modifications and its credit scoring system may help to decrease
charge-offs in the future. The Company also has revised certain of its
collection and recovery policies along with employing a new Vice President and
Senior Manager of collections and strongly believes that collections in 1997
will positively be affected by these changes.
.
Other strategies for the future include forming a strategic alliance with
another company, either currently engaged in or interested in entering the
sub-prime automobile finance industry. An alliance, if formed, may result in
additional Capital and warehouse lines of credit as well as increased loan
volume and cost efficiencies obtained by combining operations.
In addition to the above, the Company intends to pursue contractual
servicing arrangements, whereby, the Company will earn fee income by
providing servicing of loan portfolios owned by third-parties. Although no
assurance can be given that such contractual arrangements will be consummated,
the Company believes such opportunities exist and intends to pursue them
accordingly.
Implementation of the foregoing strategy will be dependent upon a number
of factors including, but not limited to: i) competition; ii) marketing
efficiency; iii) ability of the Company to acquire Contracts at prices
commensurate with estimated risk; and, iv) maintaining and increasing capital
and warehouse lines of credit, of which no assurance is given..
28
<PAGE>
ITEM 7. FINANCIAL STATEMENTS.
MONACO FINANCE, INC. AND SUBSIDIARIES
TABLE OF CONTENTS
Page
Independent Auditors' Report 30
Consolidated Balance Sheets
- - December 31, 1996 and 1995 31
Consolidated Statements of
Operations - For the Years Ended
December 31, 1996 and 1995 32
Consolidated Statements of
Stockholders' Equity - For the
Years Ended
December 31, 1996 and 1995 33
Consolidated Statements of
Cash Flows - For the Years
Ended December 31, 1996 and 1995 34
Notes to the Consolidated
Financial Statements 35-55
29
<PAGE>
Ehrhardt
Keefe
Steiner &
Hottman PC
Certified Public Accountant
and Consultants
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Monaco Finance, Inc. and Subsidiaries
Denver, Colorado
We have audited the accompanying consolidated balance sheets of Monaco
Finance, Inc. and Subsidiaries as of December 31, 1996 and 1995, and the
related consolidated statements of operations, stockholders' equity and cash
flows for the years then ended. 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 generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Monaco
Finance, Inc. and Subsidiaries at December 31, 1996 and 1995, and the results
of their operations and their cash flows for the years then ended in
conformity with generally accepted accounting principles.
/s/ Ehrhardt Keefe Steiner & Hottman PC
Ehrhardt Keefe Steiner & Hottman PC
March 21, 1997
Denver, Colorado
30
<PAGE>
MONACO FINANCE, INC. AND SUBSIDIARIES
<TABLE>
<CAPTION>
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1996 AND 1995
December 31,
1996 1995
------------ -----------
<S> <C> <C> <C>
ASSETS
Cash and cash equivalents $ 1,227,441 $ 7,247,670
Restricted cash 4,463,744 3,694,886
Automobile receivables - net (Notes 2 and 5) 81,890,935 60,668,324
Repossessed vehicles held for sale 2,314,869 2,637,188
Income tax receivable (Note 7) 350,000 23,608
Deferred income taxes (Note 7) 1,581,651 42,758
Furniture and equipment, net of accumulated
depreciation of $1,326,215 (1996) and $701,487 (1995) 2,055,902 1,615,428
Net assets of discontinued operations (Note 8) - 1,661,986
Other assets 1,379,526 1,759,253
------------ -----------
Total assets $95,264,068 $79,351,101
============ ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable $ 851,838 $ 453,240
Accrued expenses and other liabilities 619,125 93,151
Notes payable (Note 3) 5,250,000 -
Installment note payable (Note 5) 3,000,000 -
Convertible subordinated debt (Note 5) 1,385,000 1,385,000
Senior subordinated debt (Note 5) 5,000,000 5,000,000
Convertible senior subordinated debt (Note 5) 5,000,000 -
Automobile receivables-backed notes (Note 5) 59,156,101 49,670,127
------------ -----------
Total liabilities 80,262,064 56,601,518
Commitments and contingencies (Note 4)
Stockholders' equity (Note 6)
Preferred stock; no par value, 5,000,000 shares
authorized, none issued or outstanding - -
Class A common stock, $.01 par value; 17,750,000
shares authorized, 5,648,379 shares (1996) and
5,672,279 shares (1995) issued 56,484 56,723
Class B common stock, $.01 par value; 2,250,000
shares authorized, 1,323,715 shares (1996) and
1,306,000 shares (1995) issued 13,237 13,060
Additional paid-in capital 22,066,089 22,127,941
Retained earnings (deficit) (7,133,806) 551,859
Total stockholders' equity 15,002,004 22,749,583
------------ -----------
Total liabilities and stockholders' equity $95,264,068 $79,351,101
============ ===========
<FN>
See notes to consolidated financial statements.
</TABLE>
31
<PAGE>
MONACO FINANCE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1996 AND 1995
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
<S> <C> <C>
1996 1995
------------- -------------
REVENUES:
Interest $ 13,470,631 $ 12,500,879
Other income 30,122 141,264
------------- -------------
Total revenues 13,500,753 12,642,143
COSTS AND EXPENSES:
Provision for credit losses (Note 2) 910,558 1,634,698
Operating expenses 11,800,782 6,463,267
Interest expense (Notes 3 and 5) 4,737,375 3,685,707
------------- -------------
Total costs and expenses 17,448,715 11,783,672
------------- -------------
Income (loss) from continuing operations before income taxes and
cumulative effect of a change in accounting principle (3,947,962) 858,471
Income tax expense (benefit) (Note 7) (1,476,538) 321,068
------------- -------------
Income (loss) from continuing operations before cumulative effect
of a change in accounting principle (2,471,424) 537,403
(Loss) from discontinued operations, net of
applicable income taxes (Notes 7 and 8) - (720,607)
(Loss) on disposal of discontinued business, net of
applicable income taxes (Notes 7 and 8) (301,451) (1,157,891)
Cumulative effect of a change in accounting principle (Notes 2 and 7) (4,912,790) -
------------- -------------
Net (loss) ($7,685,665) ($1,341,095)
============= =============
EARNINGS (LOSS) PER SHARE (NOTES 1 AND 6):
Income (loss) from continuing operations before cumulative effect
of a change in accounting principle ($0.35) $ 0.10
(Loss) from discontinued operations - (0.13)
(Loss) on disposal of discontinued business (0.04) (0.21)
Cumulative effect of a change in accounting principle (0.71) -
------------- -------------
Net (loss) per common and common equivalent share ($1.10) ($0.24)
============= =============
Weighted average number of shares outstanding 6,965,485 5,603,689
<FN>
See notes to consolidated financial statements.
</TABLE>
32
<PAGE>
MONACO FINANCE, INC. AND SUBSIDIARIES
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1996 AND 1995
Class A Class B Additional
Common Stock Common Stock Paid-in- Retained
Shares Amount Shares Amount Capital Earnings Total
---------- -------- ---------- -------- ------------ ------------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance - December 31, 1994 3,363,662 $33,637 1,355,000 $13,550 $12,231,758 $ 1,892,954 $14,171,899
Exercise of B warrants 1,622,970 16,230 - - 7,586,376 - 7,602,606
Exercise of A warrants 140,000 1,400 - - 631,600 - 633,000
Exercise of underwriter's units 137,000 1,370 - - 491,830 - 493,200
Conversion of shares 49,000 490 (49,000) (490) - - 0
Conversion of debentures 359,647 3,596 - - 1,186,377 - 1,189,973
Net (loss) for the year - - - - - (1,341,095) (1,341,095)
---------- -------- ---------- -------- ------------ ------------- ------------
Balance - December 31, 1995 5,672,279 56,723 1,306,000 13,060 22,127,941 551,859 22,749,583
Purchase of treasury stock (26,900) (269) - - (84,845) - (85,114)
Conversion of shares 3,000 30 (3,000) (30) - - 0
Treasury stock adjustment - - 20,715 207 22,993 - 23,200
Net (loss) for the year - - - - - (7,685,665) (7,685,665)
---------- -------- ---------- -------- ------------ ------------- ------------
Balance - December 31, 1996 5,648,379 $56,484 1,323,715 $13,237 $22,066,089 ($7,133,806) $15,002,004
========== ======== ========== ======== ============ ============= ============
<FN>
See notes to consolidated financial statements.
33
<PAGE>
</TABLE>
MONACO FINANCE, INC. AND SUBSIDIARIES
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1996 AND 1995
Years ended December 31,
1996 1995
------------- -------------
<S> <C> <C>
Cash flows from operating activities:
- ---------------------------------------------------------------------
Net income (loss) ($7,384,214) $ 537,403
Adjustments to reconcile net income (loss) to
net cash provided by operating activities:
Depreciation 575,539 345,162
Provision for credit losses 910,558 1,634,698
Cumulative effect of a change in accounting principle 4,912,790 -
Amortization of excess interest 3,704,234 1,523,998
Amortization of other assets 745,258 575,969
Deferred tax asset (1,538,893) (42,758)
Other 77,154 70,679
------------- -------------
2,002,426 4,645,151
Change in assets and liabilities:
Receivables (1,570,892) (1,379,060)
Prepaid expenses (104,365) (43,318)
Accounts payable 300,761 (76,976)
Accrued liabilities and other 727,425 48,007
Income taxes payable - (548,418)
------------- -------------
Net cash flows from continuing operations 1,355,355 2,645,386
Net cash flows from discontinued operations 1,021,611 3,291,175
------------- -------------
Net cash provided by operating activities 2,376,966 5,936,561
------------- -------------
Cash flows from investing activities:
- ---------------------------------------------------------------------
Retail installment sales contracts - purchased (65,973,183) (41,485,949)
Retail installment sales contracts - originated (1,519,376) (11,699,374)
Proceeds from payments on contracts - purchased 33,818,222 19,579,396
Proceeds from payments on contracts - originated 4,611,648 6,323,846
Purchase of furniture and equipment (937,644) (1,023,694)
Equipment deposits and other (3,614) -
------------- -------------
Net cash (used in) investing activities (30,003,947) (28,305,775)
------------- -------------
Cash flows from financing activities:
- ---------------------------------------------------------------------
Net borrowings (repayments) under line of credit 5,250,000 (3,090,000)
Net (increase) in restricted cash (768,858) (2,100,883)
Proceeds from issuance of convertible senior subordinated notes 5,000,000 -
Proceeds from issuance of installment note 3,000,000 -
Borrowings on asset-backed notes 42,348,989 49,242,379
Repayments on asset-backed notes (32,863,015) (21,777,306)
Purchases of treasury stock and other adjustments (59,042) -
Proceeds from exercise of warrants - 8,718,613
Increase in debt issue and conversion costs (301,322) (1,402,506)
------------- -------------
Net cash provided by financing activities 21,606,752 29,590,297
------------- -------------
Net increase (decrease) in cash and cash equivalents (6,020,229) 7,221,083
Cash and cash equivalents, beginning of year 7,247,670 26,587
------------- -------------
Cash and cash equivalents, end of year $ 1,227,441 $ 7,247,670
============= =============
Supplemental disclosure of cash flow information:
Cash paid during the year for interest $ 4,535,614 $ 3,514,255
============= =============
Cash paid during the year for income taxes $ 1,455 $ 1,006,641
============= =============
<FN>
Non-cash investing and financing activities:
In 1996, the Company issued a note for $107,407 for the sale of furniture and equipment.
In 1995, $1,230,000 (net of debt issue costs) of 7% Convertible Subordinated Notes (Note 5)
were converted into 359,647 shares of Class A Common Stock.
</TABLE>
See notes to consolidated financial statements.
34
<PAGE>
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Monaco Finance, Inc. (the "Company"), is engaged in the business of
providing alternative financing programs primarily to purchasers of used
vehicles. The Company commenced operations in June 1988. The Company provides
such automobile financing programs by acquiring retail installment sale
contracts (the "Contracts") from certain selected automobile dealers in
approximately 21 states ("Dealer Network"). The Contracts are acquired by the
Company through automobile financing programs it sponsors. In February, 1996,
the Company announced that it intended to discontinue its CarMart retail used
car sales and associated financing operations. The CarMart business ceased
operations on May 31, 1996.
PRINCIPLES OF CONSOLIDATION
The Company's consolidated financial statements include the accounts of
Monaco Finance, Inc. and its wholly-owned subsidiaries, CarMart Auto
Receivables Company and MF Receivables Corp. I (the Subsidiaries). All
intercompany accounts and transactions have been eliminated in consolidation.
CASH AND CASH EQUIVALENTS
For purposes of cash flow reporting, cash and cash equivalents include cash,
money market funds, government securities, and certificates of deposit
with maturities of less than three months.
RESTRICTED CASH
Restricted cash represents cash collections related to the Automobile
Receivables-Backed Notes (Note 5). On a monthly basis, all cash collections in
excess of disbursements to the noteholders of the Automobile
Receivables-Backed Notes and other general disbursements are paid to MF
Receivables Corp. I. At December 31, 1996 and 1995, the Company had $3,329,031
and $2,911,582, respectively, of its restricted cash balances invested in U.S.
government securities.
FINANCE RECEIVABLES
Finance receivables primarily represent receivables generated from Contracts
purchased from the Dealer Network and from Contracts from the retail sale
of automobiles at the Company's CarMart stores. At December 31, 1996 and 1995,
approximately $4.7 million, or 6%, and $12.8 million, or 21%, of the
Automobile Receivables loan portfolio were generated from the CarMart
operations.
REPOSSESSED VEHICLES HELD FOR RESALE
Repossessed vehicles held for resale consists of repossessed vehicles
awaiting liquidation. Repossessed vehicles are carried at estimated actual
cash value. At December 31, 1996 and 1995, approximately 651 and 658
repossessed vehicles, respectively, were awaiting liquidation. Included are
vehicles held for resale, vehicles which have been sold for which payment has
not been received and unlocated vehicles (skips), the value of which may be
reimbursed from insurance.
35
<PAGE>
FURNITURE AND EQUIPMENT
Furniture and equipment are stated at acquisition cost. Major additions are
capitalized, whereas maintenance, replacements and repairs are expensed.
Depreciation is provided for in amounts sufficient to allocate the cost of
depreciable assets to operations over their estimated service lives using the
straight-line method.
REVENUE RECOGNITION
At Company owned CarMart stores, the Company recognized revenues on the
sales of vehicles at the point the sales contract was completed. Interest
income from finance receivables is recognized using the interest (actuarial)
method. Accrual of interest income on finance receivables is suspended when a
loan is contractually delinquent for ninety days or more. The accrual is
resumed when the loan is less than ninety days delinquent, and collectible
past-due interest income is recognized at that time. Any discounts recognized
from the purchase of installment contracts are added to the allowance for
credit losses. Insurance servicer income was recognized as earned.
CREDIT LOSSES
Provisions for credit losses are continually reviewed and adjusted to
maintain the allowance at a level considered adequate to cover losses over the
life of the loans in the existing portfolio. The Company's charge-off
policy is to automatically charge-off any installment contract that is 100
days contractually past due. Effective March 1, 1997, the Company changed its
charge-off policy to require that all contracts 120 days past due are
charged-off.
EXCESS INTEREST
Effective January 1, 1995, upon the acquisition of certain Contracts from
its Dealer Network, a portion of future interest income, as determined by the
Company's risk analysis, was capitalized into Automobile Receivables (excess
interest receivable) and correspondingly used to increase the allowance for
credit losses (unearned interest income). Excess interest receivable is
subsequently reduced based upon the amortization of excess interest income
from the related Contracts.
LOAN ORIGINATION FEES AND COSTS
Fees received and direct costs incurred for the origination of Contracts are
offset and any excess fees are deferred and amortized to interest income
over the contractual lives of the Contracts using the interest method.
Unamortized amounts, if any, are recognized in income at the time Contracts
are sold or paid in full. Direct costs incurred in excess of fees received are
expensed as incurred.
36
<PAGE>
CONCENTRATION OF CREDIT RISKS
The Company's customers are not concentrated in any specific geographic
region. However, their primary concentration of credit risk relates to
lending to individuals who cannot obtain traditional bank financing. The
Company places its temporary cash investments with high quality institutions,
and by policy, limits the amount of credit exposure to any one institution.
The Company does, however, on occasion exceed the FDIC federally insured
limits and at December 31, 1996 and 1995 exceeded the amount by $5,666,759 and
$8,100,788, respectively.
ADVERTISING COSTS
All costs associated with advertising are expensed as incurred.
EARNINGS PER SHARE
Earnings per share is computed by dividing net income by the weighted
average number of common and common equivalent shares outstanding during the
period. Common Stock equivalents are determined using the treasury stock
method. The computation of weighted average common and common equivalent
shares outstanding excludes anti-dilutive common equivalent shares.
INCOME TAXES
The Company recognizes deferred tax liabilities and assets based on
differences between the financial statement and tax basis of assets and
liabilities using enacted tax rates in effect for the year in which the
differences are expected to reverse.
USE OF ESTIMATES
The preparation of financial statements in conformity with general accepted
accounting principles requires management to make certain estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of financial statements and the reported amounts of revenues and expenses
during the reporting period. Management believes that such estimates have
been based on reasonable assumptions and that such estimates are adequate,
however, actual results could differ from those estimates.
TREASURY STOCK
In accordance with Section 7-106-302 of the Colorado Business Corporation
Act, shares of its own capital stock acquired by a Colorado corporation are
deemed to be authorized but unissued shares. APB Opinion No. 6 requires the
accounting treatment for acquired stock to conform to applicable state law.
As such, 26,900 shares of Class A Common Stock purchased in 1996 has been
reported as a reduction to Class A Common Stock and Additional
Paid-in-Capital.
37
<PAGE>
RECLASSIFICATIONS
Certain prior year balances have been reclassified in order to conform with
the current year presentation.
<TABLE>
<CAPTION>
NOTE 2 - AUTOMOBILE RECEIVABLES
Automobile receivables consist of the following:
December 31,
--------------
<S> <C> <C>
1996 1995
-------------- ------------
Automobile Receivables
Retail installment sales contracts $ 11,777,343 $ 3,843,301
Retail installment sales contracts-Trust (Note 5) 71,129,192 58,358,835
Excess interest receivable 6,555,682 3,312,635
Other 616,230 795,304
Accrued interest 1,331,450 1,020,166
-------------- ------------
Total finance receivables 91,409,897 67,330,241
Allowance for credit losses (9,518,962) (6,661,917)
-------------- ------------
Automobile receivables - net $ 81,890,935 $60,668,324
============== ============
<FN>
</TABLE>
At December 31, 1996, the accrual of interest income was suspended on
$244,060 of retail installment sale contracts.
At the time installments sale contracts ("Contracts") are originated or
purchased, the Company estimates future losses of principal based on the type
and terms of the Contract, the credit quality of the borrower and the
underlying value of the vehicle financed. This estimate of loss is based on
the Company's risk model, which takes into account historical data from
similar contracts originated or purchased by the Company since its inception
in 1988. However, since the risk model uses past history to predict the
future, changes in national and regional economic conditions, borrower mix and
other factors could result in actual losses differing from initially prediced
losses.
The allowance for credit losses, as presented below, has been established
utilizing data obtained from the Company's risk models and is continually
reviewed and adjusted in order to maintain the allowance at a level which, in
the opinion of management, provides adequately for current and future losses
that may develop in the present portfolio. This allowance is reported as a
reduction to Automobile Receivables.
38
<PAGE>
<TABLE>
<CAPTION>
<S> <C>
Allowance for
Credit Losses
---------------
Balance as of December 31, 1994 $ 2,559,763
Provisions for credit losses 5,739,454
Unearned interest income 4,836,633
Unearned discounts 2,368,127
Retail installment sale contracts charged off (17,978,277)
Recoveries 9,136,217
---------------
Balance as of December 31, 1995 $ 6,661,917
Provisions for credit losses 1,184,189
Unearned interest income 6,947,282
Unearned discounts 3,689,364
Cumulative effect of a change in accounting principle 4,912,790
Retail installment sale contracts charged off (24,819,803)
Recoveries 10,943,223
---------------
Balance as of December 31, 1996 $ 9,518,962
===============
<FN>
</TABLE>
The provision for credit losses is based on estimated losses on all
Contracts purchased prior to January 1, 1995 with zero discounts ("100%
Contracts") and for all Contracts originated by CarMart which have been
provided for by additions to the Company's allowance for credit losses as
determined by the Company's risk analysis.
Effective January 1, 1995, upon the acquisition of certain Contracts from
its Dealer Network, a portion of future interest income, as determined by the
Company's risk analysis, was capitalized into Automobile Receivables (excess
interest receivable) and correspondingly used to increase the allowance for
credit losses (unearned interest income). Excess interest receivable is
subsequently reduced based upon the amortization of excess interest income
from the related Contracts. For the years ended December 31, 1996 and 1995,
$3,704,234 and $1,523,998, respectively, of excess interest receivable was
amortized against interest income.
39
<PAGE>
The December 31, 1996, excess interest receivable balance of $6,555,682 will
be amortized as follows:
<TABLE>
<CAPTION>
<C> <S>
Amortization
-------------
1997 3,713,055
1998 1,859,930
1999 743,224
2000 226,884
2001 12,589
-------------
6,555,682
=============
<FN>
</TABLE>
Unearned discounts result from the purchase of Contracts from the Dealer
Network at less than 100% of the face amount of the note. All such discounts
are used to increase the allowance for credit losses.
CHANGE IN ACCOUNTING PRINCIPLE
Effective October 1, 1996, the Company adopted a new methodology for
reserving for and analyzing its loan losses. This accounting method is
commonly referred to as static pooling. The static pooling reserve methodology
allows the Company to stratify its Automobile Receivables portfolio, and the
related components of its Allowance for Credit Losses (i.e. discounts, excess
interest, charge offs and recoveries) into separate and identifiable quarterly
pools. These quarterly pools, along with the Company's estimate of future
principal losses and recoveries, are analyzed quarterly to determine the
adequacy of the Allowance for Credit Losses. The method previously used by the
Company to analyze the Allowance for Credit Losses was based on the total
Automobile Receivables portfolio. In management's opinion, the static pool
reserve method provides a more sophisticated and comprehensive analysis of the
adequacy of the Allowance for Credit Losses and is preferable to the method
previously used. With the adoption of the static pooling reserve method, the
Company increased its Allowance for Credit Losses by $4,912,790 in the fourth
quarter of 1996. This amount was included in the Consolidated Statements of
Operations under the caption "Cumulative effect of a change in accounting
principle".
As part of its adoption of the static pooling reserve method, where
necessary, the Company adjusted its quarterly pool allowances to a level
necessary to cover all anticipated future losses (i.e. life of loan) for each
related quarterly pool of loans.
Under static pooling, excess interest and discounts are used to increase
the Allowance for Credit Losses and represent the Company's primary reserve
for future losses on its portfolio. To the extent that any quarterly pool's
excess interest and discount reserves are insufficient to absorb future
estimated losses, net of recoveries, adjusted for the impact of current
delinquencies, collection efforts, and other economic indicators including
analysis of the Company's historical data, the Company will provide for such
deficiency through a charge to the Provision for Credit Losses and the
establishment of an additional Allowance for Credit Losses. To the extent that
any excess interest and discount reserves are determined to be sufficient to
absorb future estimated losses, net of recoveries, the difference will be
40
<PAGE>
accreted into interest income on an effective yield method over the estimated
remaining life of the related monthly static pool.
The pro forma effects of retroactive application of the above change in
accounting principle are as follows:
<TABLE>
<CAPTION>
<S> <C> <C>
AS REPORTED: 1996 1995
- ---------------------------------------------------------------------------- ------------ -------------
Income (loss) from continuing operations
before cumulative effect of a change in accounting principle ($2,471,424) $ 537,403
(Loss) from discontinued operations (net of taxes) - (720,607)
(Loss) on disposal of discontinued business (net of taxes) (301,451) (1,157,891)
Cumulative effect on prior years
of changing to a different reserve method (4,912,790) -
------------ -------------
Net (loss) ($7,685,665) ($1,341,095)
============ =============
EARNINGS (LOSS) PER SHARE (PRIMARY AND FULLY DILUTED):
- ----------------------------------------------------------------------------
Income (loss) from continuing operations
before cumulative effect of a change in accounting principle ($0.35) $ 0.10
(Loss) from discontinued operations (net of taxes) - (0.13)
(Loss) on disposal of discontinued business (net of taxes) (0.04) (0.21)
Cumulative effect on prior years of changing
to a different reserve method (0.71) -
------------ -------------
Net (loss) ($1.10) ($0.24)
============ =============
PRO FORMA AMOUNTS ASSUMING THE NEW RESERVE METHOD IS APPLIED RETROACTIVELY:
- ----------------------------------------------------------------------------
(Loss) from continuing operations ($2,471,424) ($2,348,342)
(Loss) per share-primary and fully diluted ($0.35) ($0.42)
Net (loss) ($2,772,875) ($4,226,840)
(Loss) per share-primary and fully diluted ($0.40) ($0.75)
<FN>
</TABLE>
NOTE 3 - NOTE PAYABLE
CITICORP
In May 1995, the Company repaid, in full, the then outstanding balance on
its $25 million revolving line of credit with Citicorp Leasing, Inc. and
terminated the facility.
41
<PAGE>
LASALLE NATIONAL BANK
In January 1996, the Company entered into a revolving line of credit
agreement with LaSalle National Bank ("LaSalle")providing a line of credit of
up to $15 million, not to exceed a borrowing base consisting of eligible
accounts receivable to be acquired. The scheduled maturity date of the line of
credit is January 1, 1998. At the option of the Company, the interest rate
charged on the loans shall be either .5% in excess of the prime rate charged
by lender or 2.75% over the applicable LIBOR rate. The Company is obligated to
pay the lender a fee equal to .25% per annum of the average daily unused
portion of the credit commitment. The obligation of the lender to make
advances is subject to standard conditions. The collateral securing payment
consists of all Contracts pledged and all other assets of the Company. The
Company has agreed to maintain certain restrictive financial covenants. As of
December 31, 1996, the Company had borrowed $5,250,000 against this line of
credit.
NOTE 4 - COMMITMENTS AND CONTINGENCIES
OPERATING LEASES
The Company leases office space, car lot facilities, computer and office
equipment for varying periods. Leases that expire generally are expected to
be renewed or replaced by other leases, or in the case of CarMart facilities,
the Company has options to extend the leases.
On March 31, 1994, the Company's lease at 1319 S. Havana, Aurora,
Colorado 80010 was terminated and the operations of the retail CarMart
Dealership at that location were transferred to 890 S. Havana, Aurora,
Colorado 80010. This property is owned by a corporation all of whose
shareholders are officers of the Company. The Company entered into a
seven-year lease commencing March 24, 1994 and ending March 23, 2001. In
September 1995, the Company amended its seven-year lease to include the
property at 894 S. Havana, Aurora, Colorado 80010. The Company currently pays
$14,238 per month on a triple net basis. The lease calls for periodic rental
adjustments over the term. It is the Company's belief that the terms of the
related party lease are generally no less favorable than could have been
obtained from unrelated third party lessors for properties of similar size,
condition and location. Effective June 1, 1996, the Company entered into a
sublease agreement on the property located at 890 S. Havana for the entire
lease term at an amount approximately equal to the Company's obligation.
Effective January 15, 1996 and January 31, 1996, the Company closed its
retail CarMart Dealerships located at 4940 S. Broadway, Englewood, Colorado
and 1005 Motor City Drive, Colorado Springs, Colorado, respectively. The
Englewood, Colorado lease ends March 31, 1997. The Company may, at its sole
discretion, extend the Englewood, Colorado lease for additional 3-year periods
through March 2003. The Company currently pays $9,833 per month. The Company
may, at its sole discretion, extend the Colorado Springs, Colorado lease for
additional yearly periods through May 31, 1998 if written notice of intent to
do so is given the lessor prior to April 15 of each year. The Company
currently pays monthly rent of $1,800 on a triple net basis. Effective March
15, 1996, the Company entered into a sublease agreement on both properties for
the entire lease terms at an amount approximately equal to the Company's
obligation.
42
<PAGE>
Effective December 1, 1996, the Company entered into a sublease agreement
for 6,571 square feet of office space located at 370 17th Street, Suite 4960,
Denver, Colorado, 80202. The Company pays $1,807 per month under a sublease
ending November 30, 2000. This office space will be utilized as additional
executive offices of the Company.
At December 31, 1996, future minimum rental payments applicable to
noncancelable operating leases were as follows:
<TABLE>
<CAPTION>
<S> <C> <C> <C>
Year Ended Gross Rental Sublease Net Rental
December 31, Payments Receipts Payments
- ------------ -------------
1997 $ 808,739 $ 176,698 $ 632,041
1998 815,829 151,000 664,829
1999 739,760 159,500 580,260
2000 245,243 162,000 83,243
2001 46,866 37,800 9,066
Thereafter - - -
------------- --------- -----------
$ 2,656,437 $ 686,998 $ 1,969,439
============= ========= ===========
<FN>
</TABLE>
Total net lease expense for the years ended December 31, 1996 and 1995
was $631,931 and $724,388, respectively.
CONTINGENCIES
On May 8, 1995, Milton Karsh, a former Officer and Director of the Company,
filed a civil suit in the District Court for the City and County of Denver,
State of Colorado against the Company, its President, Morris Ginsburg, and its
Executive Vice President, Irwin L. Sandler, both of whom are Directors of
the Company. The plaintiff alleged breach of contract, breach of fiduciary
duty and conversion in connection with the plaintiff's proposed sale of the
Class A Common Stock of the Company pursuant to Rule 144 under the Securities
Act of 1933. Plaintiff claimed he sustained approximately $450,000 in
damages. The defendants denied the material allegations of the complaint, set
forth several affirmative defenses, alleged that the complaint was frivolous
and filed a counterclaim against the plaintiff alleging breach of contract.
Mediation had been set for August 14, 1996.
In August 1996, the parties settled the above lawsuit. Under the
settlement, the Company agreed to retain the plaintiff as a consultant for the
period of three years, to reimburse the plaintiff's attorney fees and to
release and abandon any claim to ownership or option to acquire 20,715 shares
of Class B Common Stock owned by the plaintiff.
The Company has agreed to pay all litigation costs, including fees, and
to indemnify the Directors to the maximum extent provided by Colorado law, as
stated in the Company's By-Laws.
43
<PAGE>
EMPLOYMENT AGREEMENTS
The Company's two executive officers have entered into employment agreements
(the "Employment Agreements") with the Company.
Messrs. Ginsburg and Sandler are paid annual salaries of $200,000 and
$150,000, respectively, under their Employment Agreements and are eligible to
receive discretionary bonuses, compensation increases, death benefits, life
insurance with premiums payable by the Company, and two years regular salary
in the event of certain business combinations or changes in control. The
Employment Agreements have five-year terms which began in December, 1990. The
Employment Agreements are automatically renewed for consecutive one year terms
unless terminated by either party. The Company or the employee may terminate
the Employment Agreement for cause upon 30 days prior written notice. Each of
these individuals has agreed not to compete with the Company for a period of
two years following the termination of his relationship with the Company under
this Employment Agreement.
LOANS IN FUNDING (COMMITMENTS)
As of December 31, 1996, there were $8,744 in open commitments to extend
credit through the normal course of business.
401(K) EMPLOYEE SAVINGS PLAN
The Company has a voluntary 401(k) savings plan pursuant to Section 401(k)
of the Internal Revenue Code, whereby participants may contribute a percentage
of compensation, but not in excess of the maximum allowed under the code.
The plan provides for a matching contribution by the Company which amounted
to $26,239 and $15,443 in 1996 and 1995, respectively.
NOTE 5 - DEBT
CONVERTIBLE SUBORDINATED DEBENTURES
On March 15, 1993, the Company completed a private placement of $2,000,000,
7% Convertible Subordinated Notes (the "Notes") with interest payable
semiannually commencing September 1, 1993. The principal amount of the Notes,
plus accrued and unpaid interest, is due on March 1, 1998. Additionally, the
purchasers of the Notes exercised an option to purchase an additional
$1,000,000 aggregate principal amount of the Notes on September 15, 1993. The
Notes are convertible into the Class A Common Stock of the Company at any
time prior to maturity at a conversion price of $3.42 per share, subject to
adjustment for dilution. As detailed below, Notes with an aggregate principal
amount of $1,615,000 have been converted resulting in the issuance of 472,219
shares of Class A Common Stock. Commencing March 15, 1996, the Company has
the option to pre-pay up to one-third of the outstanding Notes at par.
44
<PAGE>
<TABLE>
<CAPTION>
<S> <C> <C>
Notes Class A Common
Conversion Date Converted Stock Issued
- --------------- ---------- --------------
September 1994 $ 385,000 112,572
March 1995 770,000 225,147
August 1995 85,000 24,853
September 1995 375,000 109,647
---------- --------------
$1,615,000 472,219
========== ==============
<FN>
</TABLE>
SENIOR SUBORDINATED DEBENTURES
On November 1, 1994 the Company sold, in a private placement, unsecured
Senior Subordinated Notes ("Senior Notes") in the gross principal amount of
$5,000,000 to Rothschild North America, Inc. The Senior Notes accrue interest
at a fixed rate per annum of 9.5% through October 1, 1997, and for each
month thereafter, a fluctuating rate per annum equal to the lesser of (a)
11.5% or (b) 3.5% above LIBOR.
Interest is due and payable the first day of each quarter commencing on
January 1, 1995. Principal payments in the amount of $416,667 are due and
payable the first day of January, April, August and October of each year
commencing January 1, 1997. The unpaid principal amount of the Senior Notes,
plus accrued and unpaid interest are due October 1, 1999.
AUTOMOBILE RECEIVABLES - BACKED NOTES
In November 1994 MF Receivables Corp. I ("MF Receivables"), the Company's
wholly owned special purpose subsidiary, sold, in a private placement,
$23,861,823 of 7.6% automobile receivables-backed notes ("Series 1994-A
Notes"). The Series 1994-A Notes accrue interest at a fixed rate of 7.6% per
annum. The Series 1994-A Notes are expected to be fully amortized by March
1998; however, the debt maturities are based on principal payments received on
the underlying receivables, which may result in a different final
maturity.
In May of 1995, MF Receivables issued its Floating Rate Auto
Receivable-Backed Note ("Revolving Note" or "Series 1995-A Note"). The
Revolving Note has a stated maturity of October 16, 2002. MF Receivables
acquires Contracts from the Company which are pledged under the terms of the
Revolving Note and Indenture for up to $40 million in borrowing.
Subsequently, the Revolving Note is repaid by the proceeds from the issuance
of secured Term Notes or repaid from collection of principal payments and
interest on the underlying Contracts. The Revolving Note can be used to
borrow up to an aggregate of $150 million through May 16, 1998. The Term
Notes have a fixed rate of interest and likewise are repaid from collections
on the underlying Contracts. An Indenture and Servicing Agreement require
that the Company and MF Receivables maintain certain financial ratios, as well
as other representations, warranties and covenants. The Indenture requires MF
Receivables to pledge all Contracts owned by it for repayment of the Revolving
Note or Term Notes, including Contracts pledged as collateral for Series
1994-A Term Notes, the Series 1995-B Term Notes, as well as all future
Contracts acquired by MF Receivables.
45
<PAGE>
The Series 1995-A Note bears interest at LIBOR plus 75 basis points. The
initial funding of this Note was $26,966,489 on May 16, 1995. The Company, as
servicer, provides customary collection and servicing activities for the
Contracts. The Revolving Note has a stated maturity of October 16, 2002 and
an expected termination date of May 16, 1998. The maximum limit for the
Series 1995-A Note is $40 million. On September 15, 1995, MF Receivables
issued its Series 1995-B Term Notes ("Series 1995-B Notes") in the amount of
$35,552,602. The Series 1995-B Notes accrue interest at a fixed note rate of
6.45% per annum. The Series 1995-B Notes are expected to be fully amortized
by June 1999; however, the debt maturities are based on principal payments
received on the underlying receivables which may result in a different final
maturity. The proceeds from the issuance of the Series 1995-B Notes were used
to retire, in full, the 1995-A Note, which will be used to accumulate an
additional $114.4 million in $40 million increments.
The assets of MF Receivables are not available to pay general creditors
of the Company. In the event there is insufficient cash flow from the
Contracts (principal and interest) to service the Revolving Note and Term
Notes, a nationally recognized insurance company (MBIA) has guaranteed
repayment. The MBIA insured Series 1994-A Notes, Series 1995-A Note and
Series 1995-B Notes received a corresponding AAA rating by Standard and Poor's
and an Aaa rating by Moody's and were purchased by institutional investors.
The underlying Contracts accrue interest at rates of approximately 17% to 29%.
All cash collections in excess of disbursements to the Series 1994-A, Series
1995-A and Series 1995-B noteholders and other general disbursements are paid
to MF Receivables monthly.
As of December 31, 1996, the Series 1994-A Notes, Series 1995-A Note and
the Series 1995-B Notes and underlying receivables backing those notes were as
follows:
<TABLE>
<CAPTION>
<S> <C> <C>
Underlying
Note Balance Receivable Balance
------------- -------------------
Series 1994-A Notes $ 4,837,297 $ 4,897,944
Series 1995-A Note 39,967,130 50,550,645
Series 1995-B Notes 14,351,674 15,680,603
------------- -------------------
TOTAL $ 59,156,101 $ 71,129,192
============= ===================
<FN>
</TABLE>
CONVERTIBLE SENIOR SUBORDINATED NOTE OFFERING
On January 9, 1996, the Company entered into a Purchase Agreement for the
sale of an aggregate of $5 million in principal amount of 12% Convertible
Senior Subordinated Notes due 2001 (the "12% Notes"). Interest on the 12%
Notes is payable monthly at the rate of 12% per annum and the 12% Notes are
convertible, subject to certain terms contained in the Indenture, into shares
46
<PAGE>
of the Company's Class A Common Stock, par value $.01 per share, at a
conversion price of $4.625 per share, subject to adjustment under certain
circumstances. The 12% Notes were issued pursuant to an Indenture dated
January 9, 1996, between the Company and Norwest Bank Minnesota, N.A., as
trustee. The Company agreed to register, for public sale, the shares of
restricted Common Stock issuable upon conversion of the 12% Notes. The 12%
Notes were sold pursuant to an exemption from the registration requirements
under the Securities Act of 1933, as amended.
Provisions have been made for the issuance of up to an additional $5
million in principal amount of the 12% Notes ("Additional 12% Notes") on or
before January 9, 1998, between the Company and Black Diamond Advisors, Inc.
("Black Diamond"), one of the initial purchasers.
On or about June 28, 1996, the Company and Black Diamond entered into a
letter agreement amending (the "Amendment") their rights and obligations with
respect to the Purchase Agreement and Indenture dated January 9, 1996. The
Amendment provides the following:
1. The conversion price of the $5,000,000 in principal amount of 12% Notes
issued on or about January 9, 1996, is fixed at $4.00 per share.
2. The initial conversion price for up to $5,000,000 in principal amount
of any Additional 12% Notes, if any, is $3.00 per share.
3. The expiration date of the option is September 10, 1998.
At the Annual Shareholders' Meeting held on September 10,1996, the
shareholders voted to so ratify the amended Purchase Agreement and Indenture
dated January 9, 1996.
INSTALLMENT NOTE PAYABLE - PACIFIC USA HOLDINGS CORP.
On October 9, 1996, the Company entered into a Securities Purchase Agreement
with Pacific USA Holdings Corp. ("Pacific") whereby, among other things,
Pacific agreed to acquire certain shares of the Company's Class A Common
Stock. On November 1, 1996, the Company entered into a Loan Agreement with
Pacific whereby Pacific loaned the Company $3 million ("Pacific Loan"). On
February 7, 1997, the Securities Purchase Agreement was terminated by the
parties; however, the Pacific Loan and its corresponding Installment Note
remained in effect.
The Installment Note accrues interest at a fixed rate per annum of 9% and
is payable interest only from November, 1996 through November, 1997; monthly
principal payments of $100,000 are due beginning December, 1997, and
continuing each month thereafter through and including November, 1998. The
unpaid principal amount of the Installment Note, plus accrued and unpaid
interest, is due and payable November 16, 1998.
The collateral securing payment of the Installment Note consists of 100%
of the authorized, issued and outstanding shares of stock of MF Receivables
Corp. I, consisting of 1,000 shares of common stock $0.01 par value per share.
Among other covenants, the Company has agreed to maintain the monthly
outstanding balance of all retail installment contracts owned by MF
Receivables Corp. I, less the then outstanding principal balance of all debt
issued by MF Receivables Corp. I, at a level in excess of 3.5 times the then
outstanding principal balance of the Installment Note.
47
<PAGE>
TOTAL DEBT MATURITIES
Estimated aggregate debt maturities for the years ending December 31, 1997
through 2001 are as follows:
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C>
1997 1998 1999 2000 2001
- ----------- ----------- ---------- ----- ----------
38,579,507 $27,737,478 $2,224,116 $ -0- $5,000,000
<FN>
</TABLE>
NOTE 6 - STOCKHOLDERS' EQUITY
COMMON STOCK
The Company has two classes of common stock. The two classes are the same
except for the voting rights of each. Each share of Class B stock retains
three votes while each share of Class A stock retains one vote per share.
STOCK OPTION PLANS
The Company has reserved 1,775,000 of its authorized but unissued Class A
Common Stock for a stock option plan (the "Plan") pursuant to which officers,
directors and employees of the Company are eligible to receive incentive and /
or non-qualified stock options. The Plan, which expires in the year
2000, is administered by a committee designated by the Board of Directors.
Incentive stock options granted under the Plan are exercisable for a period of
up to 10 years from the date of grant and at an exercisable price which is not
less than the fair market value of the Class A Common Stock on the date of
grant, except that the term of an incentive stock option granted under the
Plan to a stockholder owning more than 10% of the outstanding Class A Common
Stock of the Company must not exceed five years and the exercise price of an
incentive stock option granted to such a stockholder must not be less than
110% of the fair market value of the Class A Common Stock on the date of the
grant. The Plan also provides for issuance of stock appreciation rights. At
December 31, 1996 and 1995, the Company has granted options to acquire a total
of 840,300 and 666,200 shares, respectively, of the Company's Class A Common
Stock. These options are exercisable for a period of up to 10 years from the
date of grant and have exercise prices from $1.88 to $6.63 a share, which
represents bid prices of the Company's Common Stock at the date of grant.
Through December 31, 1996, none of these options have been exercised.
48
<PAGE>
<TABLE>
<CAPTION>
<S> <C> <C>
Option Price
Per Share Options
------------- --------
Outstanding December 31, 1994 $2.13 - $6.63 673,000
Granted $ 4.50 10,000
Canceled $ 6.63 (16,800)
Exercised - -
------------- --------
Outstanding December 31, 1995 $2.13 - $6.63 666,200
Granted $ 1.88 272,500
Canceled $ 2.50-$6.63 (98,400)
Exercised - -
------------- --------
Outstanding December 31, 1996 $1.88 - $6.63 840,300
========
<FN>
</TABLE>
In 1995, the Financial Accounting Standards Board issued Statement No.
123, "Accounting for Stock Based Compensation," ("FAS 123") which encourages,
but does not require, companies to recognize compensation expense for grants
of stock, stock options and other equity instruments to employees. FAS 123 is
required for such grants, described above, to acquire goods or services from
nonemployees. Additionally, although expense recognition is not mandatory,
FAS 123 requires companies that choose not to adopt the new fair value
accounting rules to disclose pro forma net income and earnings per share
information using the new method.
The Company has adopted the disclosure-only provisions of FAS 123.
Accordingly, no compensation cost has been recognized for the stock option
plan. Had compensation cost for the Company's stock option plan been
determined based on the fair value at the grant date for awards in 1996
consistent with the provisions of FAS 123, the Company's 1996 net loss and
loss per share would have been increased to the pro forma amounts indicated
below:
<TABLE>
<CAPTION>
<S> <C>
Net (loss) - as reported ($7,685,665)
Net (loss) - pro forma ($7,857,956)
(Loss) per share (primary) - as reported ($1.10)
(Loss) per share (primary) - pro forma ($1.13)
<FN>
</TABLE>
The assumption regarding the stock options issued in 1996 was that 100%
of such options vested in 1996, which was the case for all but 10,000 options
which vest at December 31, 1997.
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option-pricing model with the following weighted
average assumptions used for grants in 1996: dividend yield of 0.0%; expected
average annual volatility of 44.5%; average annual risk-free interest rate of
5.9%; and expected lives of 10 years.
49
<PAGE>
PUBLIC OFFERING
In December 1990, the Company completed its initial public offering of
securities. The offering consisted of 1,400,000 shares of Class A Common
Stock and 1,400,000 redeemable Class A warrants offered in $6 units,
consisting of two Class A common shares and two Class A common share purchase
warrants. The Class A purchase warrants were immediately exercisable. Each
Class A warrant entitled the holder to purchase one share of Class A Common
Stock and one Class B warrant for $4.50 until December 1994. Each Class B
warrant entitled the holder to purchase one share of Class A Common Stock for
$6.00 through December 11, 1995.
On or about November 8, 1995, the Company reduced the exercise price of
its then outstanding Class B Common Stock purchase warrants from $6.00 per
warrant to $4.90 per warrant through their expiration date, December 11, 1995.
As a result of the Class B warrant exercises, 1,622,970 shares of the
Company's Class A Common Stock were issued. The Company received net proceeds
of $7,602,606 after deduction of a 4% solicitation fee payable to D.H. Blair &
Co., Inc. A total of 108,120 Class B warrants were not exercised and have
expired.
In 1990, as part of the initial public stock offering and as partially
underwriter's compensation, the Company issued options to the underwriter for
the purchase of 70,000 units. Each unit, exercisable at $7.20, consisted of
two shares of Class A Common Stock and two Class A warrants. Each Class A
warrant was exercisable, at an exercise price of $4.50 per Class A warrant,
for one share of Class A Common Stock and one Class B warrant. By late 1995,
all the units were exercised resulting in the issuance of 137,000 shares of
Class A Common Stock in 1995 and 3,000 shares of Class A Common Stock in 1994,
for net proceeds to the Company of $493,200 and $10,800, respectively. All
Class A warrants, which were issued as a result of the units, were exercised
in 1995 resulting in the issuance of 140,000 shares of Class A Common Stock
for net proceeds to the Company of $630,000.
50
<PAGE>
NOTE 7 - INCOME TAXES
<TABLE>
<CAPTION>
The provision for income taxes is summarized as follows:
<S> <C> <C>
For the Years Ended
December 31,
---------------------------------
1996 1995
--------------------- ----------
Current expense (benefit)
Federal $ (350,000) $(672,383)
State - (35,388)
--------------------- ----------
$ (350,000) $(707,771)
--------------------- ----------
Deferred expense (benefit)
Federal $ (1,164,007) $ (88,786)
State (166,080) (4,673)
--------------------- ----------
$ (1,330,087) $ (93,459)
--------------------- ----------
TOTAL $ (1,680,087) $(801,230)
=====================
<FN>
</TABLE>
<TABLE>
<CAPTION>
The following is a reconciliation of income taxes at the Federal Statutory rate with income
taxes recorded by the Company.
For the Years Ended
December 31,
---------------------------------
<S> <C> <C>
1996 1995
--------------------- ----------
Computed income taxes (benefit) at statutory rate - 34% $ (3,184,356) $(728,390)
State income taxes (benefit), net of Federal income tax benefit (333,114) (72,840)
Change in valuation allowance 1,837,383 -
---------------------
$ (1,680,087) $(801,230)
===================== ==========
<FN>
</TABLE>
Deferred taxes are recorded based upon differences between the financial
statements and tax basis of assets and liabilities and available tax credit
carryforwards. Temporary differences and carryforwards which give rise to a
significant portion of deferred tax assets and liabilities were as follows:
51
<PAGE>
<TABLE>
<CAPTION>
December 31,
--------------------------
<S> <C> <C>
1996 1995
-------------- ----------
Deferred tax assets:
- ---------------------------------------
Federal and State NOL tax carry-forward $ 5,143,530 $ 101,000
Loss on disposal of CarMart - 238,627
Other 48,296 67,721
-------------- ----------
5,191,826 407,348
Valuation allowance (1,837,383) -
-------------- ----------
Total deferred tax assets 3,354,443 407,348
-------------- ----------
Deferred tax liabilities:
- ---------------------------------------
Depreciation (90,768) (72,377)
Allowances and loan origination fees (1,682,024) (109,499)
Other - (8,566)
-------------- ----------
Total deferred tax liability (1,772,792) (190,442)
-------------- ----------
Net deferred tax asset $ 1,581,651 $ 216,906
============== ==========
<FN>
</TABLE>
The net deferred tax asset disclosed above equals the deferred income taxes
on the balance sheet. The valuation allowance relates to those deferred tax
assets that may not be fully utilized.
As of December 31, 1996, the Company has a net operating loss
carryforward of approximately $13,750,000 for income tax reporting purposes
which expires in 2011.
NOTE 8 - DISCONTINUED OPERATIONS
In February 1996, the Company announced that it intends to discontinue
its CarMart retail used car sales and associated financing operations.
In April 1996, the Company extended the expected disposal date of the
CarMart business from April 30, 1996 to May 31, 1996. The CarMart business
ceased operations on May 31, 1996.
On January 15, 1996 and January 31, 1996, the Company closed its retail
car lot in Englewood, Colorado and Colorado Springs, Colorado, respectively,
and transferred the remaining retail inventory to its Aurora, Colorado retail
store. Effective March 15, 1996, the Company entered into a sublease agreement
on both properties for the entire lease terms at an amount approximately equal
to the Company's obligation. On May 31, 1996, the Company closed its retail
car lot in Aurora, Colorado and entered into a sub-lease agreement for the
entire lease term. As of October 17, 1996, the remaining inventory at the
Aurora, Colorado store had been liquidated.
On March 31, 1995, the Company closed its retail car lot in Lakewood,
Colorado. The Company made monthly rental payments of $4,000 through the end
of the lease term on October 15, 1995.
52
<PAGE>
All personnel associated with the CarMart operations have been reassigned
to other positions within the Company or have been released.
The results of operations of the CarMart business for 1995 are included
in the Consolidated Statements of Operations under the caption " (Loss) from
discontinued operations" and includes:
<TABLE>
<CAPTION>
For the Year Ended December 31,
<S> <C>
1995
------------
Revenues $11,361,642
Total costs and expenses 12,512,772
------------
(Loss) from discontinued operations before
income taxes (1,151,130)
Income tax (benefit) (430,523)
------------
(Loss) from discontinued operations ($720,607)
============
<FN>
</TABLE>
The Company allocated interest expense and associated direct costs of
$36,337 to discontinued operations in 1995. The allocations were based on the
ratio of discontinued net assets to consolidated net assets plus consolidated
debt.
The loss on the disposition of the CarMart business has been accounted
for as discontinued operations. In March 1996, and June 1996, the Company
recorded additional pretax charges of $150,000 and $355,000 ($93,900 and
$207,551 after tax), respectively, related to the estimated 1996 loss from
operations of CarMart. The 1995 loss on disposal includes:
<TABLE>
<CAPTION>
<S> <C>
(Loss) on Disposal
-------------------
Estimated losses on Contracts originated at CarMart ($1,211,627)
Estimated 1996 loss from operations of CarMart through April 30, 1996 (547,342)
Estimated closing costs ( 90,697)
-------------------
Total disposal costs before taxes (1,849,666)
Tax (benefit) (691,775)
-------------------
(Loss) on disposal of discontinued business ($1,157,891)
===================
<FN>
</TABLE>
The components of the loss on disposal of the CarMart business were based
on reasonable estimates and assumptions by Management.
Summarized balance sheet data for the discontinued CarMart operations is as
follows:
53
<PAGE>
<TABLE>
<CAPTION>
December 31,
<S> <C>
1995
-------------
Assets
- -------------------------------------
Vehicles held for sale $ 790,424
Income tax receivable 948,150
Deferred tax asset 174,148
Furniture and equipment, net 269,563
Other receivables 83,710
Other assets 58,746
-------------
Total assets $ 2,324,741
=============
Liabilities
- -------------------------------------
Accounts payable and accrued expenses $ 662,755
Income taxes payable -
-------------
Total liabilities $ 662,755
=============
Net assets of discontinued operations $ 1,661,986
=============
<FN>
</TABLE>
54
<PAGE>
NOTE 9- DISCLOSURE ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
CASH AND CASH EQUIVALENTS. RESTRICTED CASH AND ACCRUED INTEREST PAYABLE
The carrying value approximates fair value due to its liquid or short-term
nature.
AUTOMOBILE RECEIVABLES - NET
The interest rates and credit ratings of the net Automobile Receivables
outstanding at December 31, 1996 are consistent with the interest rates and
credit ratings on current purchases by the Company of Contracts with the same
maturities and collateral; as such, the carrying value of the net Automobile
Recievables outstanding at December 31, 1996 approximates fair value at that
date.
INSTALLMENT NOTE PAYABLE, CONVERTIBLE SUBORDINATED DEBT, SENIOR SUBORDINATED
DEBT, CONVERTIBLE SENIOR SUBORDINATED DEBT AND AUTOMOBILE RECEIVABLES-BACKED
NOTES
Rates currently available to the Company for debt with similar terms and
maturities are used to estimate the fair value of existing debt.
The estimated fair value of the Company's financial instruments at
December 31, 1996 were as follows:
54
<PAGE>
<TABLE>
<CAPTION>
December 31, 1996
<S> <C> <C>
Carrying Amount Fair Value
----------------- ------------
Financial Assets:
- ----------------------------------------------
Cash and Cash Equivalents and Restricted Cash $ 5,691,185 $ 5,691,185
Automobile Receivables 91,409,897 91,409,897
Less: Allowance for Credit Losses (9,518,962) (9,518,962)
----------------- ------------
Total $ 87,582,120 $87,582,120
================= ============
Financial Liabilities:
- ----------------------------------------------
Accrued Interest Payable (included in
Accrued expenses and other liablities) $ 343,570 $ 343,570
Installment Note Payable 3,000,000 3,000,000
Convertible Subordinated Debt 1,385,000 1,385,000
Senior Subordinated Debt 5,000,000 5,000,000
Convertible Senior Subordinated Debt 5,000,000 5,000,000
Automobile Receivables-backed Notes 59,156,101 59,156,101
----------------- ------------
Total $ 73,884,671 $73,884,671
================= ============
<FN>
</TABLE>
55
<PAGE>
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
NONE
PART III
Part III, including the following items, is incorporated by reference to
the Company's Proxy Statement which will be filed with the Securities and
Exchange Commission and mailed to shareholders on or before April 30, 1997:
ITEM 9. DIRECTORS AND EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS,
COMPLIANCE WITH THE SECTION 16(A) OF THE EXCHANGE ACT.
ITEM 10. EXECUTIVE COMPENSATION.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
PART IV
ITEM 13.EXHIBITS AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this Report:
1 Financial Statements Page of this
Report
Independent Auditors' Report 30
Consolidated Balance Sheets
December 31, 1996 and 1995 31
Consolidated Statements of
Operations For the Years
Ended December 31, 1996 and 1995 32
Consolidated Statements of
Stockholders' Equity For
The Years Ended
December 31, 1996 and 1995 33
Consolidated Statements
of Cash Flows For The Years
Ended December 31, 1996 and 1995 34
Notes to Consolidated Financial
Statements 35-55
56
<PAGE>
2.FINANCIAL STATEMENT SCHEDULES:
All other statements or schedules for which provision is made in the
applicable regulation of the Securities and Exchange Commission have been
omitted because they are not required under related instructions or are
inapplicable, or the information is shown in the financial statements and
related notes.
3.(a) Exhibits
3.1 Articles of Incorporation, dated August 12, 1986,
and Articles of amendment, dated July 2, 1990
and August 31, 1990 (1)
3.2 Bylaws (1)
4.4 Form of Mergers and Acquisitions Agreement with the
Underwriter (1)
10.1 Employment Agreement between the Registrant and Morris
Ginsburg dated July 9, 1990 (1)
10.2 Employment Agreement between the Registrant and Irwin L.
Sandler July 9,1990 (1)
10.3 Lease with BCE Development Properties, Inc., dated December
23, 1988 (1)
10.4 Key-man Insurance Policies on the lives of Messrs.Ginsburg
and Sandler (1)
10.5 Form of Purchase Agreement (re: Dealers) (1)
10.6 Agreement - Guaranty Bank and Trust Company (1)
10.7 Agreement - Central Bank of Denver (1)
10.8 Agreement - First National Bank of Southeast Denver
(1)
10.9 Agreement - Arapahoe Bank and Trust (1)
10.9 (A) First Amendment to Arapahoe Bank/Monaco Finance Agreement
dated February 22, 1991 with Assignment of Savings Account
and Security Agreement (2)
10.10 Agreement - Southwest State Bank (1)
10.11 Agreement - Lakeside National Bank (2)
10.12 Agreement - Western Funding, Inc. (2)
10.13 Form of Agreement - First Eagle (2)
10.14 Form of Financing Agreement (re: Floorplan Financing) (1)
10.15 Stock Option Plan (1)
10.16 Single Interest Blanket Insurance Policy (1)
10.17 Lease with Richard A. Boddicker dated September 4, 1990,
as amended, re: South Havana Lot (1)
10.18 Financing Agreement, Promissory Note and Security Agreement
(re:wholesale floorplan financing) (1)
10.19 Lease re: Colorado Springs Lot (3)
10.21 Lease re: West Colfax Lot (3)
10.22 Financing Agreement with Citicorp Leasing, Inc., including
three Amendments (4)
10.23 7% Subordinated Note Agreement (4)
10.24 Consent of Independent Certified Public Accountants (9)
10.25 Sixth Amendment to Financing Agreement with Citicorp Leasing,
Inc. dated June 1, 1994 (5)
10.26 Lease Agreement between the Registrant and GSC Ltd.
Liability Company, a related party owned company(5)
10.27 Note Purchase Agreement for Senior Subordinated Notes to
Rothschild North America, Inc.(6)
10.28 Seventh Amendment to Financing Agreement with Citicorp
Leasing, Inc. dated July 26, 1994
10.29 Eighth Amendment to Financing Agreement with Citicorp Leasing,
Inc. dated September 7, 1994 (7)
10.30 Ninth Amendment to Financing Agreement with Citicorp Leasing,
Inc.dated November 2, 1994 (7)
10.31 Indenture Agreement related to private placement of
$23,861,823 of 7.6% automobile receivables-backed notes (8)
10.32 Form of Term Note issued by MF Receivables Corp. I
related to private placement of $23,861,823 of 7.6%
automobile receivables-backed notes (8)
10.33 Tenth Amendment to Financing Agreement with Citicorp Leasing,
Inc. dated November 16, 1994 (10)
10.34 Amended and restated Lease re: Executive Offices at 370 17th
Street, 50th floor, Denver, Colorado 80202 with
Brookfield Republic, Inc. (10)
10.35 Amended and Restated Indenture Agreement dated as of May 1,
1995 related to private placement of $40 million
aggregate principal amount of floating rate automobile
receivable-backed warehouse notes (11)
10.36 Form of Warehouse Note issued by MF Receivables Corp I related
to private placement of $40 million aggregate principal
amount of floating rate automobile receivable-backed
warehouse note (11)
10.37 MBIA Forward Commitment to Issue related to private placement
of$40 million aggregate principal amount of floating rate
automobile receivables-backed warehouse notes (11)
10.38 Purchase Agreement dated January 9, 1996 by and among Monaco
Finance, Inc. and Black Diamond Advisors, Inc. and other
purchasers relating to $5,000,000 in 12% Convertible
Senior Subordinated Notes due 2001 (12)
57
<PAGE>
3.(a) Exhibits (continued)
10.39 Indenture dated as of January 9, 1996, between Monaco Finance,
Inc. and Norwest Bank of Minnesota, N.A., realting to
12% Convertable Senior Subordinated Notes due 2001 (12)
10.40 Loan and Security Agreement dated as of January 16, 1996,
between Registrant and LaSalle National Bank (12)
10.41 Revolving Credit Note in the principal amount of $15 million
or so much thereof as may be advanced, dated January 16,
1996, payable to the order of LaSalle National Bank by
Registrant (12)
10.42 Letter Agreement dated June 28, 1996, by and between the
Registrant and Black Diamond Advisors, Inc. (13)
10.43 Letter Agreement dated July 3, 1996, by and between the
Registrant and David M. Ickovic regarding director
compensation (13)
10.44 Securities Purchase Agreement between the Registrant and
Pacific USA Holdings Corp. (14)
10.45 Stock Purchase Warrant in favor of Pacific USA Holdings
Corp. (14)
10.46 Shareholder option Agreement among Pacific USA Holdings
Corp. and Morris Ginsburg, Irwin Sandler and Sandler
Family Partners, Ltd. (14)
10.47 Executive Employment Agreement between the Registrant
and Morris Ginsburg related to the Securities Purchase
Agreement with Pacific USA Holdings Corp. (14)
10.48 Executive Employment Agreement between the Registrant and
Irwin Sandler related to the Securities Purchase
Agreement with Pacific USA Holdings Corp. (14)
10.49 Loan Agreement between Pacific USA Holdings Corp. and the
Registrant (14)
10.50 Press Release of the Registrant related to the Securities
Purchase Agreement with Pacific USA Holdings Corp.(14)
10.51 Termination Agreement dated as of February 6, 1997, between
the Registrant and Pacific USA Holdings Corp. (15)
10.52 Press Release of the Registrant regarding the termination of
the Securities Purchase Agreement between the Registrant and
Pacific USA Holdings Corp. (15)
11 Statement Re: Computation of Earnings Per Share - PAGE60
18 Letter on Change in Accounting Principles - PAGE 61
23 Consent of Independent Certified Accountants - PAGE 62
99 Cautionary Statement Regarding Forward Looking Statements
- PAGES 63-68
Footnotes:
(1) Incorporated by reference to the Registrant's Registration Statement on
Form S-1 and all Amendments thereto, as filed with the Securities and Exchange
Commission, Registration No. 33-35843, and which was declared effective on
December 11, 1990.
(2) Incorporated by reference to the Registrant's Annual Report on Form 10-K
for the year ended December 31, 1990.
(3) Incorporated by reference to the Registrant's Annual Report on Form 10-K
for the year ended December 31, 1991.
(4) Incorporated by reference to the Registrant's Annual Report on Form
10-KSB for the year ended December 31, 1992.
(5) Incorporated by reference to the Registrant's Quarterly Report on Form
10-QSB for the quarter ended June 30, 1994.
(6) Incorporated by reference to the Registrant's Form 8-K dated November 3,
1994.
(7) Incorporated by reference to the Registrant's Quarterly Report on Form
10-QSB for the quarter ended September 30, 1994.
(8) Incorporated by reference to the Registrant's Form 8-K dated November 18,
1994.
(9) Incorporated by reference to the Registrant's Annual Report on Form
10-KSB for the year ended December 31, 1993.
(10) Incorporated by reference to the Registrant's Annual Report on Form
10-KSB for the year ended December 31, 1994.
(11) Incorporated by reference to the Registrant's Form 8-K dated May 18,
1995.
58
<PAGE>
(12) Incorporated by reference to the Registrant's Form 8-K dated January 9,
1996.
(13) Incorporated by reference to the Registrant's Form 8-K dated June 28,
1996.
(14) Incorporated by reference to the Registrant's Form 8-K dated October 29,
1996.
(15) Incorporated by reference to the Registrant's Form 8-K dated February 7,
1997.
3.(b) Reports on Form 8-K:
A Form 8-K dated October 31, 1996 was filed announcing the signing of a
Securities Purchase Agreement, a Stock Purchase Warrant, a Shareholder Option
Agreement and a Loan Agreement with Pacific USA Holdings Corp.
A Form 8-K dated February 7, 1997 was filed announcing the termination of
the Securities Purchase Agreement dated October 29, 1996 with Pacific USA
Holdings Corp.
59
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT 11
MONACO FINANCE, INC. AND SUBSIDIARIES
COMPUTATION OF EARNINGS PER SHARE
YEAR ENDED DECEMBER 31,
1996 1995
------------ ------------
<S> <C> <C>
EARNINGS (LOSS) PER SHARE - PRIMARY AND FULLY DILUTED
NET EARNINGS (LOSS)
- ----------------------------------------------------------------
Income (loss) from continuing operations $(2,471,424) $ 537,403
(Loss) from discontinued operations - (720,607)
(Loss) on disposal of discontinued business (301,451) (1,157,891)
Cumulative effect of a change in accounting principle (4,912,790) -
------------ ------------
Net (loss) $(7,685,665) $(1,341,095)
============ ============
AVERAGE SHARES OUTSTANDING
- ----------------------------------------------------------------
Weighted average shares outstanding 6,965,485 5,204,100
Shares issuable from assumed exercise of stock options (a) (b) 277,306
Shares issuable from assumed exercise of underwriters' units (a) (b) 50,723
Shares issuable from assumed exercise of stock warrants (a) (b) 71,560
------------ ------------
Common stock and common stock equivalents - primary 6,965,485 5,603,689
Additional dilutive effect of assumed exercise of
stock options (b) 18,972
Additional dilutive effect of assumed exercise of
stock warrants (b) 21,487
Additional dilutive effect of assumed exercise of
underwriters' units (b) 15,669
Shares issuable from assumed conversion of 7%
subordinated debt (c) (b) (b)
------------ ------------
Common stock and common stock equivalents - fully
diluted 6,965,485 5,659,817
============ ============
EARNINGS (LOSS)PER SHARE - PRIMARY
- ----------------------------------------------------------------
Income (loss) from continuing operations $ (0.35) $ 0.10
(Loss) from discontinued operations - (0.13)
(Loss) on disposal of discontinued business (0.04) (0.21)
Cumulative effect of a change in accounting principle (0.71) -
------------ ------------
Net (loss) per share $ (1.10) $ (0.24)
============ ============
EARNINGS (LOSS)PER SHARE - FULLY DILUTED
- ----------------------------------------------------------------
Income (loss) from continuing operations $ (0.35) $ 0.09
(Loss) from discontinued operations - (0.13)
(Loss) on disposal of discontinued business (0.04) (0.20)
Cumulative effect of a change in accounting principle (0.71) -
------------ ------------
Net (loss) per share $ (1.10) $ (0.24)
============ ============
<FN>
</TABLE>
Notes:
(a) Common Stock equivalents are calculated using the treasury stock
method.
(b) The computation of average number of common stock and common stock
equivalent shares outstanding excludes anti-dilutive common equivalent shares.
(c) Subordinated debentures were not included in the calculation of
primary earnings per share in accordance with paragraph 33 of APB Opinion No.
15.
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EXHIBIT 18
Monaco Finance, Inc. and Subsidiaries
370 17th, Suite 5060
Denver, Colorado 80202
Board of Directors:
We have audited the financial statements as of December 31, 1996 and 1995, and
for each of the two years in the period ended December 31, 1996, included in
your Annual Report on Form 10-KSB to the Securities and Exchange Commission
and have issued our report thereon dated March 21, 1997. Notes 2 and 7 to such
financial statements contains a description of your adoption during the year
ended December 31, 1996 of static pool accounting for the reserving and
analyzing of loan losses. In our judgment, such change is to an alternative
accounting principle that is preferable given current industry practices.
/s/ Ehrhardt Keefe Steiner & Hottman PC
Ehrhardt Keefe Steiner & Hottman PC
March 21, 1997
Denver, Colorado
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EXHIBIT 23
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
The Board of Directors
Monaco Finance, Inc.
370 17th, Suite 5060
Denver, Colorado 80202
We hereby consent to the incorporation by reference of our reports on Monaco
Finance, Inc. (the "Company") dated March 21, 1997, into the Company's
Registration Statement on Form S-3 (File No. 33-97976) and on Form S-8 (File
NO. 33-68530), and to all references to our firm in such Registration
Statements.
/s/ Ehrhardt Keefe Steiner & Hottman PC
Ehrhardt Keefe Steiner & Hottman PC
March 31, 1997
Denver, Colorado
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EXHIBIT 99
CAUTIONARY STATEMENT REGARDING
FORWARD LOOKING STATEMENTS
The Company wishes to take advantage of the new "safe harbor" provisions
of the Private Securities Litigation Reform Act of 1995 and is filing this
cautionary statement in connection with such safe harbor legislation. The
Company's Form 10-KSB, any Form 10-QSB, any Form 8-K, or any other written or
oral statements made by or on behalf of the Company may include forward
looking statements which reflect the Company's current views with respect to
future events and financial performance. The words "believe," "expect,"
"anticipate," "intends," "forecast," "project," and similar expressions
identify forward looking statements.
The Company wishes to caution investors that any forward looking
statements made by or on behalf of the Company are subject to uncertainties
and other factors that could cause actual results to differ materially from
such statements. These uncertainties and other factors include, but are not
limited to, the Risk Factors listed below (many of which have been discussed
in prior SEC filings by the Company). Though the Company has attempted to list
comprehensively these important factors, the Company wishes to caution
investors that other factors may in the future prove to be important in
affecting the Company's results of operations. New factors emerge from time to
time and it is not possible for management to predict all of such factors, nor
can it assess the impact of each such factor on the business or the extent to
which any factor, or combination of factors, may cause actual results to
differ materially from forward looking statements.
Investors are further cautioned not to place undue reliance on such
forward looking statements as they speak only of the Company's views as of the
date the statement was made. The Company undertakes no obligation to publicly
update or revise any forward looking statements, whether as a result of new
information, future events, or otherwise.
RISK FACTORS
DEPENDENCE UPON ADDITIONAL CAPITAL TO EXPAND OPERATIONS. The Company's
business has been and will continue to be cash intensive. Capital is required
primarily to purchase Contracts from the Dealer Network. Further expansion of
the Company's business and the Company's longer-term liquidity requirements
may require additional borrowings or other funding. There can be no assurance
that such additional financing will be available to the Company, or if
available, on terms satisfactory to the Company. The net proceeds from any
borrowings or other funding may be used for working capital and general
corporate purposes, including repayment of debt, origination and purchase of
additional Contracts and, if required, the hiring of additional personnel to
support expanded operations.
RELIANCE ON DEBT FINANCING. Since inception, in addition to shareholders'
equity, the Company has financed its capital requirements using debt from a
variety of sources including commercial banks and other institutional
investors. One of the Company's principal sources of such capital as of
December 31, 1996, consists of a warehouse line of credit, allowing issuance,
under certain circumstances, of automobile receivable-backed notes of up to
$150 million, of which approximately $35.6 million has been drawn. The
warehouse line of credit is secured by Contracts in face amount equal to
approximately 80% of the amount drawn. Other than the pledged Contracts, the
line is non-recourse to the Company. Senior subordinated debt, convertible
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subordinated debt, convertible senior subordinated debt, a line of credit and
cash flow from operations also provide capital. The ability of the Company to
receive additional advances on the warehouse credit facility and to secure new
financing sources is dependent upon compliance with loan covenants and other
factors. Based on current operations, management believes the Company is in
full compliance with its existing loan covenant requirements. However, failure
to meet any loan covenant requirements may have a material adverse effect on
the ability of the Company to obtain new sources of financing and expand its
operations.
SUBSTANTIAL LOSSES AND EFFECT OF DISCONTINUANCE OF CAR MART OPERATIONS.
During the fiscal years ended December 31, 1995 and 1996, the Company
sustained losses of $1,341,095 and $7,685,665, respectively. Of this amount,
approximately $1,878,498 and $301,451, respectively, was in connection with
discontinued operations relating to the Car Mart retail used car lots. For the
same periods, income (loss) from continuing operations was $537,403 and
$(2,471,424), respectively. The Car Mart retail used vehicle operations were
closed effective May 31, 1996. In 1995, the Car Mart operations generated
approximately 23% of the Contracts financed by the Company. However,
competition in the retail used car market resulted in reduced sale prices and,
accordingly, lower margins on used car sales. In addition, the default rate
with respect to certain Car Mart Contracts was higher than the default rate
with respect to Contracts purchased from the Dealer Network. Management
determined that the Company's best interests would be served by concentrating
on its core business of acquiring and servicing sub-prime Contracts purchased
from its Dealer Network. Operating expenses were approximately 12% of average
gross receivables for fiscal 1995 and increased to approximately 17% of
average gross receivables for fiscal 1996. During 1995, the Company expanded
its staff and other services so as to be able to support increased Contract
acquisitions and to service its growing Contract portfolio. However, factors,
including, but not limited to, termination of the Car Mart operations have
reduced the volume of Contracts acquired by the Company. Even though
management anticipates that the volume of Contracts purchased from the Dealer
Network will increase, the Company has undertaken efforts to decrease its
operating costs. If the number of Contracts purchased by the Company does not
increase significantly, the Company may reduce its operating costs further.
COST OF CAPITAL AND INTEREST RATE RISKS. A substantial part of the
Company's operating revenues are derived from the spread between the interest
income it collects on its contracts and the interest expense it pays on
borrowings incurred to purchase and retain such contracts. As of December 31,
1995 and 1996, the Company's interest expense as a percentage of revenues was
29.2% and 35.1%, respectively. Net interest margin percentage, representing
the difference between interest income and interest expense divided by average
finance receivables, decreased from 16.2% in 1995 to 12.3% in 1996. The
Company's capacity to generate earnings on its portfolio of contracts is
dependent upon its ability to maintain a sufficient margin between its fixed
portfolio yield and its floating or fixed cost of funds. In addition, losses
from Contract defaults reduce the Company's margins and profits. In the event
interest rates increase due to economic conditions or other reasons, resulting
in an increase in the cost of borrowed capital, it is likely that the
Company's spread will be reduced since the rates charged on the majority of
its Contracts are already at the legal limits. If defaults on outstanding
Contracts increase resulting in larger credit losses, the availability of
outside financing (i) may diminish and (ii) may become more costly due to
higher interest rates or fees. Either of these events could have an adverse
effect on the Company.
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RISK OF LENDING TO HIGHER-RISK BORROWERS. The market targeted by the
Company for financing of the purchase of vehicles consists of individuals with
low income levels and/or adverse credit histories but who fit within the
underwriting parameters established by the Company indicating a probability
that the borrower is a reasonable credit risk. The benefit to the Company is
that higher-risk borrowers are not able to obtain credit from traditional
financing sources and hence are willing to pay a relatively high annual
percentage rate of interest. The risk to the Company is that the default rate
for such borrowers is relatively high. Contracts which, according to the
Company's model, pose a higher risk of default will be acquired only if they
have a relatively high contract rate of interest and/or purchase prices at a
relatively high discount from face value in order to compensate for the
increased risk.
ADVERSE ECONOMIC CHANGES MAY INCREASE DELINQUENCIES. The majority of the
individuals who purchase automobiles financed by the Company and other
sub-prime finance companies are hourly wage earners with little or no cash
reserves. In most cases, the ability of such individuals to meet their
required semi-weekly or monthly payment on their installment contract is
completely dependent upon continued employment. Job losses generally will
result in defaults on their consumer debt, including their contracts with the
Company. An economic downturn or prolonged economic recession resulting in
local, regional or national unemployment could cause a large increase in
delinquencies, defaults and charge-offs. If this would occur, the Company's
cash reserves and allowance for losses may not be sufficient to support
current levels of operations if the downturn or recession were for a sustained
period of time.
RISK OF DELAYED REPOSSESSIONS. The relatively high default rate on
Contracts requires that the Company repossess and resell a substantial number
of vehicles. After a default occurs, the condition of the vehicle securing the
Contract in default generally deteriorates due to lack of maintenance or
otherwise. The Company carefully monitors delinquencies and moves quickly to
repossess, recondition and resell vehicles secured by Contracts in default so
as to minimize its losses. Any delays in repossessions could decrease loan
loss recoveries.
POTENTIAL INADEQUACY OF LOAN LOSS RESERVES. The Company maintains an
allowance for credit losses to absorb anticipated losses from Contract
defaults net of repossession recoveries. The allowance for credit losses,
which anticipates losses based on the Company's risk analysis of historical
trends and expected future results, is continually reviewed and adjusted to
maintain the allowance at a level which, in the opinion of management and the
Board of Directors, provides adequately for existing and future losses that
may develop in the present portfolio. However, since the risk model uses past
history to predict the future, changes in national and regional economic
conditions, borrower mix, competition for higher quality Contracts and other
factors could result in actual losses exceeding predicted losses.
CHANGE IN ACCOUNTING PRINCIPLE. Effective October 1, 1996, the Company
adopted a new methodology for reserving for and analyzing its loan losses.
This accounting method is commonly referred to as static pooling. The static
pooling reserve methodology allows the Company to stratify its Automobile
Receivables portfolio, and the related components of its Allowance for Credit
Losses (i.e. discounts, excess interest, charge offs and recoveries) into
separate and identifiable quarterly pools. These quarterly pools, along with
the Company's estimate of future principal losses and recoveries, are analyzed
quarterly to determine the adequacy of the Allowance for Credit Losses. The
65
<PAGE>
method previously used by the Company to analyze the Allowance for Credit
Losses was based on the total Automobile Receivables portfolio. In
management's opinion, the static pool reserve method provides a more
sophisticated and comprehensive analysis of the adequacy of the Allowance for
Credit Losses and is preferable to the method previously used. With the
adoption of the static pooling reserve method, the Company increased its
Allowance for Credit Losses by $4,912,790 in the fourth quarter of 1996. This
amount was included in the Consolidated Statements of Operations under the
caption "Cumulative effect of a change in accounting principle".
EFFECT OF SUPERVISION AND REGULATION UPON COMPANY OPERATIONS. The
Company's present and proposed operations are subject to extensive regulation,
supervision and licensing under various federal, state and local statutes,
ordinances and regulations and, in most of the states in which the Company
conducts business, limit the interest rates the Company is allowed to charge.
While management believes that it maintains all requisite licenses and permits
and is in substantial compliance with all applicable federal, state and local
regulations, there can be no assurance that the Company will be able to
maintain all requisite licenses and permits, and the failure to satisfy those
and other regulatory requirements could have a material adverse effect on the
operations of the Company, including severe monetary and other penalties.
Further, the adoption of additional laws, rules and regulations could have a
material adverse effect on the Company's business.
POSSIBILITY OF UNINSURED LOSSES. The Company requires that all vehicles
financed by it be covered by collision insurance. To reduce the risk that such
collision insurance will lapse because of nonpayment of premiums, the Company
monitors premium payments. When notification is received that a policy has
lapsed, the Company immediately contacts the borrower by telephone and sends a
letter indicating that failure to maintain insurance constitutes default under
the borrower's Contract. If the borrower fails to secure insurance, the
Company may repossess the vehicle. In addition, the Company has the ability to
force place collision insurance should the debtor fail to pay insurance
premiums resulting in cancellation of the debtor's insurance coverage.
Collision insurance, in the event of a total vehicle loss, generally will
cover only for the fair value of the vehicle which often can be substantially
less than the outstanding contract receivable. In addition, the Company may
incur losses in situations where the borrower fails to make payments and the
Company is unable to locate the car for repossession. Although the Company's
losses to date in such cases have been minimal, there can be no assurance that
this will continue to be the case.
SUBSTANTIAL COMPETITION. In connection with its business of financing
vehicle purchases, the Company competes with many well-established financial
institutions, including banks, thrifts, independent finance companies, credit
unions, captive finance companies owned by automobile manufacturers and others
who finance used vehicle purchases (some of which are larger, have
significantly greater financial resources and have relationships with
established captive dealer networks). Any increased competition could have a
material adverse effect on the Company, including its ability to acquire loans
meeting its underwriting requirements.
DEPENDENCE ON KEY PERSONNEL. The Company's success depends largely on the
efforts and abilities of senior management. The loss of the services of any of
these individuals could have a material adverse effect on the Company's
business. The Company maintains insurance policies in the amount of $2,000,000
each on the lives of Messrs. Ginsburg and Sandler for the purpose of funding
the Company's obligation to purchase shares of its common stock beneficially
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<PAGE>
owned by either of them upon death. The purchase obligation is limited to the
insurance proceeds. The purchase price is the greater of book value or 80% of
the average closing price of the Class A Common Stock for the 30 consecutive
trading days commencing 45 trading days before the death of the insured. At
December 31, 1996, the book value of the stock was approximately $2.15 per
share, while the closing price of the stock on December 31, 1996, was $2.50
per share. As of that date, the Company's purchase obligation would have been
less than $2,000,000 with respect to each of Messrs. Ginsburg and Sandler. Any
excess insurance proceeds will be used for general corporate purposes,
including replacement of the decedent. The Company also maintains a traveler's
accidental death policy on the lives of Messrs. Ginsburg and Caukin in the
amount of $1,000,000 each. The Company otherwise does not maintain key-man
insurance upon the lives of its executive officers.
INSURANCE RISKS. The Company maintains comprehensive insurance of the
type and in the amounts management believes are customarily obtained for
businesses similarly situated, including liability insurance for used
vehicles, sold, repaired or maintained by the Company. However, certain types
of losses generally of a catastrophic nature are either uninsurable or not
economically insurable. Any uninsured or partially insured loss could have an
adverse economic effect upon the Company.
VOTING POWER OF CLASS B COMMON STOCK. As of December 31, 1996, 1,323,715
shares of Class B Common Stock were issued and outstanding. These shares are
held by Messrs. Ginsburg and Sandler and by another individual. They are
identical in all respects to the Class A Common Stock except that the Class B
Common Stock has three votes per share while the Class A Common Stock has one
vote per share. The Class B Common Stock automatically converts into Class A
Common Stock on a share-for-share basis upon transfer (excluding certain
transfers for estate planning purposes) or upon death of the holder. As of
December 31, 1996, holders of the Class A Common Stock owned approximately 81%
of the aggregate issued and outstanding shares of Class A and Class B Common
Stock, but had the power to cast approximately 58.7% of the combined votes of
both classes. As of the same date, Messrs. Ginsburg and Sandler had the power
to vote an aggregate of 826,858 shares and 496,857 shares of Class B Common
Stock, respectively, and collectively had the power to cast approximately
41.3% of the combined votes of both classes. This effectively may constitute
voting control of the Company.
EFFECT OF ISSUANCE OF PREFERRED STOCK. The Company is authorized to issue
up to 5,000,000 shares of preferred stock, no par value. The preferred stock
may be issued in one or more series, the terms of which will be determined at
the time of issuance by the Board of Directors without any requirement for
shareholder approval. Such rights may include voting rights, preferences as to
dividends and upon liquidation, conversion and redemption rights and mandatory
redemption provisions pursuant to sinking funds or otherwise. No preferred
stock is currently outstanding and the Company has no present plans for
issuance thereof. However, any issuance of preferred stock could affect the
rights of the holders of Class A Common Stock and therefore reduce its value.
Rights could be granted to holders of preferred stock hereafter issued which
could reduce the attractiveness of the Company as a potential takeover target
or make the removal of management of the Company more difficult or adversely
impact the rights of holders of Class A Common Stock.
SHARES ELIGIBLE FOR FUTURE SALE. As of December 31, 1996, the Company had
1,323,715 shares of Class B Common Stock outstanding which are convertible,
on a share-for-share basis, into shares of Class A Common Stock. The shares of
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Class A Common Stock underlying the shares of Class B Common Stock will be,
when issued, "restricted securities," as that term is defined under Rule 144
promulgated under the Securities Act of 1933, as amended (the "Securities
Act"). In general, under Rule 144, a person who has satisfied a two-year
holding period may, under certain circumstances, sell within any three-month
period a number of shares of Common Stock which does not exceed the greater of
1% of the then outstanding shares of Common Stock or the average weekly
trading volume in such shares during the four calendar weeks prior to such
sale. Rule 144 also permits, under certain circumstances, the sale of shares
without any quantity or other limitation by a person who is not an affiliate
of the Company and who has satisfied a three-year holding period. The shares
of Class A Common Stock issued upon conversion of the Class B Common Stock
will be eligible for immediate sale under Rule 144. Sales of such stock in the
public market could adversely affect the market price of the Class A Common
Stock.
EFFECT OF CONVERSION OF NOTES. As of December 31, 1996, 5,648,379 shares
of Class A Common Stock, 1,323,715 shares of Class B Common Stock, 7% Notes
convertible into an aggregate of 404,971 shares of Class A Common Stock, and
12% Notes convertible into aggregate of 1,250,000 shares of Class A Common
Stock were issued and outstanding. If the option to purchase the Additional
12% Notes is exercised in full and if the entire $11,385,000 in principal
amount of convertible notes which would then be outstanding is converted into
Class A Common Stock, then the Company will be obligated to issue 3,321,637
shares of Class A Common Stock at an average exercise price of $3.43. Such
shares, if they had been issued as of December 31, 1996, would have
represented approximately 32.3% of the total number of shares of common stock
outstanding and approximately 25.7% of the voting power of the common stock.
Issuance of the shares upon conversion of the notes could result in dilution
to earnings and book value per share of common stock and will substantially
reduce the voting power of the common stock beneficially owned by Messrs.
Ginsburg and Sandler.
EFFECT OF OUTSTANDING OPTIONS AND WARRANTS. For the respective terms of
the Placement Warrants and the options granted by the Company pursuant to the
Company's stock option plans, the holders thereof are given an opportunity to
profit from a rise in the market price of the Company's Class A Common Stock,
with a resulting dilution in the interests of the other shareholders. Further,
the terms on which the Company may obtain additional financing during those
periods may be adversely affected by the existence of such securities. The
holders of such securities may be expected to exercise them at a time when the
Company might be able to obtain additional capital through a new offering of
securities on more favorable terms.
NO CASH DIVIDENDS. The holders of Class A and Class B Common Stock are
entitled to receive dividends when, as and if declared by the Board of
Directors of the Company out of funds legally available therefor. To date, the
Company has not paid any cash dividends. The Board of Directors of the Company
does not intend to declare any cash dividends in the foreseeable future, but
instead intends to retain all earnings, if any, for use in the Company's
business operations. The Company's credit facilities restrict or prohibit the
Company from paying dividends. Accordingly, it is unlikely any dividend will
be paid on the Class A Common Stock in the foreseeable future.
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<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
MONACO FINANCE, INC.
(Registrant)
March 31, 1997 By /s/ Morris Ginsburg
----------------------------
Morris Ginsburg, President
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
March 31, 1997 /s/ Morris Ginsburg
------------------------------
Morris Ginsburg, President,
Chief Executive Officer and
Director
March 31, 1997 /s/ Irwin L. Sandler
------------------------------
Irwin L. Sandler
Executive Vice President,
Secretary/Treasurer and
Director
March 31, 1997 /s/ Brian M. O'Meara
------------------------------
Brian M. O'Meara,
Director
March 31, 1997 /s/ David M. Ickovic
------------------------------
David M. Ickovic,
Director
March 31, 1997 /s/ Craig L. Caukin
------------------------------
Craig L. Caukin,
Executive Vice President,
Director
March 31, 1997 /s/ Michael Feinstein
------------------------------
Michael Feinstein,
Senior Vice President,
Chief Financial Officer
69
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