<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------
FORM 10-Q/A-1
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarter ended March 31, 1998 Commission file number 0-20526
----------
ARCADIA FINANCIAL LTD.
(Exact name of registrant as specified in its charter)
MINNESOTA 41-1664848
(State or other jurisdiction (I.R.S. Employer Identification
Of incorporation or organization) Number)
7825 WASHINGTON AVENUE SOUTH, MINNEAPOLIS, MN 55439-2435
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (612) 942-9880
----------
Indicate by checkmark whether the Registrant (1) has filed all reports
required to be filed by section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was require to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
---- ----
The number of shares of the Common Stock of the registrant outstanding as
of May 6, 1998 was 38,991,194.
<PAGE>
The undersigned registrant hereby amends its Quarterly Report on Form 10-Q
for the quarter ended March 31, 1998 to amend Items 1 and 2 of Part I in their
entirety. Such amendments reflect a restatement of the Company's consolidated
balance sheets and related consolidated statements of operations and
comprehensive income, shareholders' equity and cash flows resulting from a
change in account policy with respect to the valuation and accounting for the
Company's finance income receivable. Refer to Note 2 to the Unaudited
Consolidated Financial Statements for additional information.
FORM 10-Q/A-1 INDEX
PAGE
----
PART I FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements 3
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 11
SIGNATURES 19
The financial information for the interim periods presented herein is
unaudited. In the opinion of management, all adjustments necessary (which are of
a normal recurring nature) have been included for a fair presentation of the
results of operations. The results of operations for an interim period are not
necessarily indicative of the results that may be expected for a full year or
any other interim period.
SAFE HARBOR STATEMENT UNDER THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
Certain statements under the captions "Management's Discussion and Analysis
of Financial Condition and Results of Operations," and elsewhere in this Form
10-Q constitute "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. Such forward-looking statements may be
identified by the use of terminology such as "may," "will," "expect,"
"anticipate," "estimate," "should," or "continue" or the negative thereof or
other variations thereon or comparable terminology. Such forward-looking
statements are subject to certain risks and uncertainties that could cause
actual results to differ materially from historical results or from those
results presently anticipated or projected. Such factors include, among other
things, the following: increased delinquency and loan loss rates; modifications
to the Company's retail disposition program; accounting and regulatory changes;
interest rate fluctuations; difficulties or delays in the securitization of
automobile loans; availability of adequate short- and long-term financing;
general economic and business conditions; and other matters set forth under the
caption "Cautionary Statements" in exhibit 99.1 to the Company's March 31, 1998,
Quarterly Report on Form 10-Q filed May 14, 1998.
2
<PAGE>
ARCADIA FINANCIAL LTD.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
(RESTATED)
(UNAUDITED) (RESTATED)
(DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS ) MARCH 31, 1998 DECEMBER 31, 1997
-------------- -----------------
<S> <C> <C>
ASSETS
Cash and cash equivalents $ 6,387 $ 17,274
Due from securitization trust 122,223 107,207
Auto loans held for sale 20,582 49,133
Finance income receivable 655,338 602,454
Furniture, fixtures and equipment 17,157 17,371
Other assets 31,357 32,483
--------- ---------
Total assets $ 853,044 $ 825,922
--------- ---------
--------- ---------
<CAPTION>
LIABILITIES AND SHAREHOLDERS' EQUITY
<S> <C> <C>
Amounts due under warehouse facilities $ 53,919 $ 30,880
Senior notes 365,894 365,640
Subordinated notes 49,845 50,772
Capital lease obligations 4,982 5,368
Deferred income taxes 15,313 11,506
Accounts payable and accrued liabilities 20,437 26,302
--------- ---------
Total liabilities 510,390 490,468
Commitments and contingencies
Shareholders' equity:
Capital stock, $.01 par value, 100,000,000 shares authorized:
Common stock 38,991,194 and 38,813,735 shares issued
and outstanding, respectively 390 388
Additional paid-in capital 323,808 322,819
Accumulated other comprehensive income 4,957 3,704
Retained earnings 13,499 8,543
--------- ---------
Total shareholders' equity 342,654 335,454
--------- ---------
Total liabilities and shareholders' equity $ 853,044 $ 825,922
--------- ---------
--------- ---------
</TABLE>
See notes to unaudited consolidated financial statements
3
<PAGE>
ARCADIA FINANCIAL LTD.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(UNAUDITED)
<TABLE>
<CAPTION>
(RESTATED)
THREE MONTHS ENDED
MARCH 31,
------------------------
<S> <C> <C>
(DOLLARS IN THOUSANDS, EXCEPT SHARE AMOUNTS) 1998 1997
-------- --------
REVENUES:
Net interest margin $ 19,947 $ 18,058
Gain on sale of loans, net of $98.0 million special
charge in March 1997 27,000 (81,831)
Servicing fee income 19,666 13,952
--------- ---------
Total revenues 66,613 (49,821)
EXPENSES:
Salaries and benefits 17,347 14,478
General and administrative and other operating expenses 28,487 26,165
--------- ---------
Total operating expenses 45,834 40,643
Long-term debt and other interest expense 12,785 7,591
--------- ---------
Total expenses 58,619 48,234
--------- ---------
Operating income (loss) before income taxes and
extraordinary item 7,994 (98,055)
Income tax expense (benefit) 3,038 (37,262)
--------- ---------
Income (loss) before extraordinary item 4,956 (60,793)
Extraordinary item, net of tax (15,828)
--------- ---------
Net income (loss) 4,956 (76,621)
Other comprehensive income (loss):
Net unrealized gain (loss) on finance income receivable 2,024 (585)
Income tax provision (benefit) related to other 771 (222)
comprehensive income
--------- ---------
1,253 (363)
--------- ---------
COMPREHENSIVE INCOME (LOSS) $ 6,209 $ (76,984)
--------- ---------
--------- ---------
BASIC EARNINGS PER SHARE:
Net income (loss) per share before extraordinary item $ 0.13 $ (1.59)
Extraordinary item per share - (0.41)
--------- ---------
Net income (loss) per share $ 0.13 $ (2.00)
--------- ---------
--------- ---------
DILUTED EARNINGS PER SHARE:
Net income (loss) per share before extraordinary item $ 0.13 $ (1.59)
Extraordinary item per share - (0.41)
--------- ---------
Net income (loss) per share $ 0.13 $ (2.00)
--------- ---------
--------- ---------
Weighted average shares outstanding:
Basic 38,988,885 38,358,743
Diluted 39,360,968 38,358,743
</TABLE>
See notes to unaudited consolidated financial statements.
4
<PAGE>
ARCADIA FINANCIAL LTD.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
(RESTATED)
THREE MONTHS ENDED
MARCH 31,
----------------------
(DOLLARS IN THOUSANDS, EXCEPT SHARE AMOUNTS) 1998 1997
-------- --------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 4,956 $ (76,621)
Adjustments to reconcile net income to net cash used in
operating activities:
Depreciation and amortization 2,938 1,437
(Increase) decrease in assets:
Automobile loans held for sale:
Purchases of automobile loans (585,583) (781,872)
Sales of automobile loans 588,194 774,744
Repayments of automobile loans 25,939 3,376
Finance income receivable (51,630) 41,574
Due from securitization trusts (15,016) 19,382
Prepaid expenses and other assets 500 (41)
Increase (decrease) in liabilities:
Deferred income taxes 3,807 (47,184)
Accounts payable and accrued liabilities (5,865) 5,749
--------- ----------
Total cash used in operating activities (31,760) (59,456)
CASH FLOWS FROM INVESTING ACTIVITIES:
Net purchase of furniture, fixtures and equipment (1,431) (3,569)
Collections on subordinated certificates 274 248
--------- ----------
Total cash used in investing activities (1,157) (3,321)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from issuance of Common Stock 304 2,485
Proceeds from borrowings under warehouse facilities 716,229 500,513
Repayment of borrowings under warehouse facilities (693,190) (580,726)
Unsecured subordinated notes, net (927) (885)
Repayments of long-term debt - (145,000)
Proceeds from issuance of long term debt - 300,000
Deferred debt issuance cost - (5,428)
Reduction of capital lease obligations (386) (643)
--------- ----------
Total cash provided by financing 22,030 70,316
--------- ----------
Net increase (decrease) in cash and cash equivalents (10,887) 7,539
Cash and cash equivalents at beginning of period 17,274 16,057
--------- ----------
Cash and cash equivalents at end of period $ 6,387 $ 23,596
--------- ----------
--------- ----------
Supplemental disclosures of cash flow information:
Non cash activities:
Additions to capital leases $ - $ 132
Cash paid for:
Interest $ 24,638 $ 10,693
</TABLE>
See notes to unaudited consolidated financial statements.
5
<PAGE>
ARCADIA FINANCIAL LTD.
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(UNAUDITED)
<TABLE>
<CAPTION>
ACCUMULATED
NUMBER OF COMMON ADDITIONAL RETAINED OTHER
COMMON PAR PAID IN EARNINGS COMPREHENSIVE
SHARES VALUE CAPITAL (DEFICIT) INCOME TOTAL
---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
(DOLLARS IN THOUSANDS, EXCEPT SHARE AMOUNTS)
BALANCE, DECEMBER 31, 1997, AS RESTATED 38,813,735 $ 388 $ 322,819 $ 8,543 $ 3,704 $ 335,454
Exercise of options and warrants 39,357 1 104 - - 105
Issuance of Common Stock:
Benefit plans 138,102 1 198 - - 199
Amortization of deferred compensation - - 687 - - 687
Unrealized gain on financed income receivable - - - - 1,253 1,253
Net income, as restated - - - 4,956 - 4,956
---------- ---------- ---------- ---------- ---------- ----------
BALANCE, MARCH 31, 1998, AS Restated 38,991,194 $ 390 $ 323,808 $13,499 $ 4,957 $ 342,654
---------- ---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ---------- ----------
</TABLE>
See notes to unaudited consolidated financial statements.
6
<PAGE>
ARCADIA FINANCIAL LTD.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED MARCH 31, 1998
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION. The interim financial statements have been prepared
by the Company pursuant to the rules and regulations of the Securities and
Exchange Commission applicable to quarterly reports on Form 10-Q. Certain
information and footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have been
condensed or omitted pursuant to such rules and regulations, although management
believes that the disclosures present fairly the financial position of the
Company and its subsidiaries for the periods presented. These financial
statements should be read in conjunction with the audited consolidated financial
statements and related notes and schedules included in the Company's 1997 Annual
Report on Form 10-K/A filed March 30, 1998.
The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated.
Certain reclassifications have been made to the March 31, 1997 balances to
conform to current period presentation.
USE OF ESTIMATES
In conformity with generally accepted accounting principles, management
utilizes assumptions and estimates that affect the reported value of finance
income receivable and the gain on sale of automobile receivables. Such
assumptions include, but are not limited to, estimates of loan prepayments,
defaults, recovery rates and present value discount. The Company uses a
combination of its own historical experience, industry statistics and
expectation of future performance to determine such estimates. Actual results
may differ from the Company's estimates due to numerous factors both within and
beyond the control of Company management. Changes in these factors could
require the Company to revise its assumptions concerning the amount of voluntary
prepayments, the frequency and/or severity of defaults and the recovery rates
associated with the disposition of repossessed vehicles. The range of
assumptions, as well as actual performance, are reflective of the allocation of
receivables between Premier and Classic loans within specific securitization
pools.
REPORTING COMPREHENSIVE INCOME
The Company adopted Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income" ("SFAS 130"), effective January 1, 1998. SFAS
130 establishes standard for reporting comprehensive income and its components
in a full set of financial statements. The new standard requires that all items
that are required to be recognized under accounting standards as components of
comprehensive income, including an amount representing total comprehensive
income, be reported in a financial statement that is displayed with the same
prominence as other financial statements. Pursuant to SFAS 130, the Company has
reported comprehensive income in the accompanying consolidated financial
statements. Prior year financial statements have been reclassified to conform
to the requirements of SFAS 130.
SEGMENT OF AN ENTERPRISE AND RELATED INFORMATION
Effective January 1, 1998, the Company adopted the FASB's Statement No.
131, "Disclosure about Segments of an Enterprise and Related Information" ("SFAS
131"). SFAS 131 superceded SFAS No. 14, "Financial Reporting for Segments of a
Business Enterprise." SFAS 131 establishes standards for defining operating
segments and the reporting of certain information regarding operating segments.
As defined by SFAS 131, the Company continues to have only one operating and
reportable segment, and therefore no additional disclosures are required.
7
<PAGE>
2. ACCOUNTING CHANGE
Pursuant to the FASB's Special Report, "A Guide to Implementation of
Statement 125 on Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities, Second Edition," dated December 1998, and public
comments from the Securities and Exchange Commission released on December 8,
1998, during the fourth quarter of 1998 the Company changed its accounting
policy with respect to the valuation and accounting for its finance income
receivable to the "cash-out" method. Finance income receivable represents the
Company's retained interest in estimated future cash flows from securitization
transactions. Under the "cash-in" method previously used by the Company, (i)
the assumed discount period for measuring the present value of future cash flows
ended when these cash flows were deposited into the securitization trust
accounts and (ii) any initial deposits to spread accounts were recorded at face
value. Under the "cash-out" method, the assumed discount period for measuring
the present value of future cash flows from the trusts ends when cash, including
return of the initial deposits, its distributed to the Company on an
unrestricted basis. Prior period financial statements have been restated to
reflect this change on a retroactive basis. The effects of the restatement on
the consolidated balance sheet at December 31 and March 31, 1997 and the
consolidated statements of operations and comprehensive income and shareholders'
equity for the three months ended March 31, 1998 and 1997 are as follows:
<TABLE>
<CAPTION>
AT MARCH 31, 1998 AT DECEMBER 31, 1997
--------------------------- ------------------------------
ORIGINALLY AS ORIGINALLY AS
(IN MILLIONS, EXCEPT PER SHARE DATA) REPORTED RESTATED REPORTED RESTATED
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
BALANCE SHEET:
Finance income receivable $ 671,919 $ 655,338 $ 622,282 $ 602,454
Deferred income taxes 21,418 15,313 18,846 11,506
Shareholders' equity 353,130 342,654 347,942 335,454
<CAPTION>
THREE MONTHS ENDED MARCH 31,
------------------------------------------------------------------
1998 1997
--------------------------- ------------------------------
ORIGINALLY AS ORIGINALLY AS
REPORTED RESTATED REPORTED RESTATED
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
STATEMENT OF OPERATIONS:
Revenues $ 65,389 $ 66,613 $ (47,863) $ (49,821)
Income tax expense (benefit) 2,573 3,038 (36,586) (37,262)
Net Income (loss) 4,197 4,956 (75,339) (76,621)
Basic earnings per share $ 0.11 $ 0.13 $ (1.96) $ (2.00)
Diluted Earnings per share 0.11 0.13 (1.96) (2.00)
</TABLE>
8
<PAGE>
ARCADIA FINANCIAL LTD.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE QUARTER ENDED MARCH 31, 1998
3. FINANCE INCOME RECEIVABLE
The following table sets forth the components of finance income receivable:
<TABLE>
<CAPTION>
(RESTATED) (RESTATED)
AT AT
MARCH 31, DECEMBER 31,
1998 1997
------------ ------------
<S> <C> <C>
(DOLLARS IN THOUSANDS)
Estimated cash flows on loans sold, net of estimated prepayments (1) $ 1,066,084 $ 1,009,800
Deferred servicing income (89,589) (88,282)
Reserve for loan losses (236,266) (235,599)
------------ ------------
Undiscounted cash flows on loans sold, net of estimated prepayments 740,229 685,919
Discount to present value (84,891) (83,465)
------------ ------------
$ 655,338 $ 602,454
------------ ------------
------------ ------------
Reserve for loan losses as a percentage of servicing portfolio 4.70% 4.75%
</TABLE>
(1) Includes restricted cash deposits in securitization spread accounts of
$261.3 million and $250.3 million at March 31, 1998 and December 31, 1997,
respectively.
The following represents the roll-forward of the finance income receivable
balance:
<TABLE>
<S> <C>
(DOLLARS IN THOUSANDS)
BALANCE, DECEMBER 31, 1997, AS RESTATED $ 602,454
Present value of estimated future cash flows from current period securitizations 60,518
Interest earned on spread accounts 3,715
Recognition of present value effect of discounted cash flows 11,577
Unrealized gain on retained assets 2,024
Less:
Excess cash flows released to the Company (1) (24,950)
-----------
BALANCE AT MARCH 31, 1998, AS RESTATED $ 655,338
-----------
-----------
</TABLE>
- -------------------
(1) Includes $4.8 million that has been restricted pursuant to an arrangement
between the Company and its provider of asset-backed securities insurance.
Such arrangement provides that, if any insured securitization trust exceeds
the specified portfolio performance test as defined within the trust
agreement, the Company may, in lieu of retaining excess cash from that
securitization trust in the related spread accounts, pledge an equivalent
amount of cash, which has the effect of preventing the violation of the
portfolio performance test. Such pledged amounts are included in cash and
cash equivalents. Restrictions on the pledged amounts may be lifted if the
portfolio performance tests are met and maintained for the related
securitization trusts as defined in the arrangement, the violations are
waived, or the loans within the securitization trust are repurchased by the
Company.
9
<PAGE>
ARCADIA FINANCIAL LTD.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE QUARTER ENDED MARCH 31, 1998
4. OTHER ASSETS
<TABLE>
<CAPTION>
AT AT
MARCH 31, 1998 DECEMBER 31, 1997
-------------- -----------------
<S> <C> <C>
(DOLLARS IN THOUSANDS)
Advances due to servicer $ 5,375 $ 6,072
Deferred debt issuance costs 11,166 11,518
Investment in subordinated certificates 2,590 2,864
Servicing fee receivable 4,577 4,389
Prepaid expenses 1,811 1,078
Repossessed assets 1,006 1,181
Other assets 4,832 5,381
-------------- -----------------
$31,357 $32,483
-------------- -----------------
-------------- -----------------
</TABLE>
5. SUBORDINATED NOTES
<TABLE>
<CAPTION>
AT AT
MARCH 31, 1998 DECEMBER 31, 1997
-------------- -----------------
<S> <C> <C>
(DOLLARS IN THOUSANDS)
Senior subordinated notes, Series 1996-A $30,000 $30,000
Junior subordinated notes 19,845 20,772
-------------- -----------------
$49,845 $50,772
-------------- -----------------
-------------- -----------------
</TABLE>
6. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings
per share for each of the three month periods ended March 31:
<TABLE>
<CAPTION>
(DOLLARS IN THOUSANDS, EXCEPT SHARE AMOUNTS) (RESTATED) (RESTATED)
1998 1997
------------ -------------
<S> <C> <C>
Numerator
Net income (loss ) before extraordinary item $ 4,956 $ (60,793)
------------ -------------
------------ -------------
Denominator:
Denominator for basic earnings per share -
weighted average shares 38,988,885 38,358,743
Dilutive effect of options and warrants 372,083 838,786
------------ -------------
Denominator for diluted earnings per share - adjusted
weighted average shares 39,360,968 39,197,529
------------ -------------
------------ -------------
Basic earnings (loss) per share before extraordinary item $ 0.13 $ (1.59)
------------ -------------
------------ -------------
Diluted earnings (loss) per share before extraordinary item (1) $ 0.13 $ (1.59)
------------ -------------
------------ -------------
</TABLE>
- --------------------
(1) In 1997, the weighted average shares under the diluted computation have
an anti-dilutive effect; therefore diluted earnings per share are shown equal
to basic earnings per share.
Options and warrants to purchase 5.3 million shares of common stock at
prices between $6.94 and $21.50 per share were outstanding during the first
quarter 1998 but were not included in the computation of diluted earnings per
share because the exercise prices were greater that the average market price
of the common shares and, therefore, the effect would be antidulitive.
10
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
Substantially all of the Company's earnings are derived from the purchase,
securitization and servicing of consumer automobile loans originated in 45
states primarily by car dealers affiliated with major foreign and domestic
manufacturers. Loans are purchased through 18 regional buying centers (or
"hubs") located in 15 states, supplemented by a network of dealer development
representatives ("DDRs") which develop and maintain relationships with car
dealers operating within each "hub's" immediate market area or in surrounding
market areas referred to as "spokes." Credit approval and loan processing are
generally performed at the "hub" or at the Company's headquarters in
Minneapolis, Minnesota. The Company acts as the servicer of all loans originated
and securitized by it in return for a monthly servicing fee. To perform its
servicing responsibilities the Company operates a national customer service
center in Minneapolis, Minnesota and four regional collection centers located in
Charlotte, North Carolina; Dallas, Texas; Denver, Colorado; and Minneapolis,
Minnesota.
THREE MONTHS ENDED MARCH 31, 1998 AND 1997
RESULTS OF OPERATIONS
SPECIAL CHARGES. Included in the Company's financial results during the
three-month period ended March 31, 1997 are two special charges taken in
March 1997. These charges included a non-cash after-tax charge of approximately
$63.9 million, due primarily to a change in accounting estimate and
modifications to the Company's retail disposition strategy, and an extraordinary
charge of approximately $15.8 million, net of tax, due to the early
extinguishment of the Company's 13% Senior Term Notes, due 2000 (see
"EXTRAORDINARY ITEM").
Approximately $60.8 million of the $63.9 million after-tax charge was due
to (i) a change in estimated recovery rates on current repossessed inventory and
anticipated future inventory arising from existing securitization transactions,
and (ii) a change in the Company's accounting policy with respect to the
estimated recovery rate realized upon disposition of repossessed inventory. The
remaining $3.1 million after-tax charge related to various litigation and
severance charges (see "OPERATING EXPENSES").
NET INTEREST MARGIN. The components of net interest margin for each of the
three months ended March 31 were:
<TABLE>
<CAPTION>
(RESTATED) (RESTATED)
1998 1997
---------- ----------
<S> <C> <C>
(DOLLARS IN THOUSANDS)
Interest income on loans, net $ 6,279 $ 8,170
Interest income on short-term investments and other cash accounts 3,060 2,364
Recognition of present value discount 11,577 8,182
Provision for credit losses on loans held for sale (969) (658)
---------- ----------
Net interest margin $ 19,947 $ 18,058
---------- ----------
---------- ----------
</TABLE>
Net interest margin increased 10% during the three months ended March 31,
1998, compared with the same period a year ago. The increase in net interest
margin is primarily due to an increase in the recognition of present value
discount reflecting the growth in the Company's finance income receivable and
related present value discount applied to the estimate of future cash flows.
A 25% decline in loan purchasing volume (see table below) and the timing of
securitization transactions resulted in a reduction in the average monthly
balance of loans held for sale, on which the Company earns interest income until
such loans are securitized, to $183.1 million from $288.2 million during the
quarter ended March 31, 1998 and 1997, respectively. The decline in purchasing
volume is primarily due
11
<PAGE>
to the Company's emphasis on more selective loan purchases. The weighted
average net interest rate spread earned rose to 11.48% during the first quarter
of 1998 compared with 7.43% during the same period in 1997. The rise in net
interest rate spread earned on loans held for sale is principally due to higher
average annual percentage rates ("APR") paid by obligors primarily resulting
from a greater proportion of loan volume consisting of higher rate Classic
loans.
The Company's loan purchasing and securitization volume for each of the
three months ended March 31 are set forth in the table below.
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
(DOLLARS IN THOUSANDS)
Premier $172,283 $403,195
Classic 411,690 378,677
-------- --------
Total automobile loans purchased $583,973 $781,872
-------- --------
-------- --------
Automobile loans securitized $588,194 $774,744
</TABLE>
GAIN ON SALE OF LOANS. Revenue provided from gain on sale of loans was
$27.0 million during the three months ended March 31, 1998. Included in gain on
sale of loans during the three months ended March 31, 1997 was a non-recurring
pre-tax charge of $98.0 million resulting in a loss on sale of loans of $81.8
million (see "SPECIAL CHARGES"). Excluding this non-recurring charge, gain on
sale of loans increased 67%. This increase is primarily due to a widening of the
gross interest spread earned on loans securitized (see table below) and a
decline in the average participation rate paid to dealers for loan originations,
partially offset by a 24% decrease in loan securitization volume.
The following table summarizes the Company's gross interest rate spreads
for each of the three month periods ended March 31:
<TABLE>
<CAPTION>
1998 1997
-------- --------
<S> <C> <C>
Weighted average APR of loans securitized 17.04% 15.48%
Weighted average securitization rate 5.98 6.52
-------- --------
Gross interest rate spread (1) 11.06% 8.96%
-------- --------
-------- --------
</TABLE>
- ----------
(1) Before gains/losses on hedging transactions.
The rise in gross interest rate spread during the three months ended March
31, 1998 is primarily due to an increased proportion of higher-yielding Classic
loans, resulting in an increased APR earned on loans purchased and subsequently
securitized and to a reduction in the securitization rate reflecting a decline
in market interest rates and the Company's ability to obtain better pricing.
Any unamortized balance of participations paid to dealers is expensed at
the time the related loans are securitized and recorded as a reduction to gain
on sale. Due to the increased proportion of Classic loan purchases, which
generally require lower participation rates than Premier loans, and a reduction
of the maximum participation rate allowable under the Premier program,
participations paid as a percentage of the principal balance of loans purchased
declined to 2.86% during the three months ended March 31, 1998, from 3.26% in
the same period a year ago.
Gain on sale of loans has been adjusted for a $5.8 million net realized
loss and a $1.4 million net realized gain on hedging transactions during the
first quarter of 1998 and 1997, respectively.
12
<PAGE>
SERVICING FEE INCOME. The components of servicing fee income for each of
the three month periods ended March 31 were:
<TABLE>
<CAPTION>
(RESTATED)
1998 1997
-------- --------
<S> <C> <C>
(DOLLARS IN THOUSANDS)
Contractual servicing fee income $13,928 $ 9,478
Other servicing income 5,738 4,474
-------- --------
Total servicing fee income $19,666 $13,952
-------- --------
-------- --------
</TABLE>
The Company earns contractual servicing fee income for servicing loans sold
to investors through securitizations. The servicing fee is 1% per annum of the
outstanding principal balance of the loans for all securitizations entered into
prior to September 1997 and 1.25% per annum on loans included in and subsequent
to the third quarter 1997 securitization. The growth in contractual servicing
fee income is primarily related to an increase in the average servicing
portfolio outstanding (see table below).
Other servicing income consists primarily of collection fees, such as late
payment fees and insufficient fund charges, and interest on collection accounts
earned by the Company as servicer of the loans. The rise in other servicing
income is principally due to increases in income from late fees and insufficient
fund charges reflecting the increase in delinquency rates from the first quarter
of 1997 and growth in the Company's servicing portfolio compared to the same
period a year ago and increased collection account interest attributable to the
growth in the average servicing portfolio outstanding and related obligor
repayments.
The following table reflects the growth in the Company's servicing
portfolio from March 31, 1997 to March 31, 1998:
<TABLE>
<CAPTION>
AT MARCH 31,
------------------------
1998 1997
---------- ----------
<S> <C> <C>
(DOLLARS IN THOUSANDS, EXCEPT AS NOTED)
Principal balance of automobile loans held for sale $ 21,129 $ 41,605
Principal balance of loans serviced under securitizations 5,005,350 4,152,993
---------- ----------
Servicing portfolio $5,026,479 $4,194,598
---------- ----------
---------- ----------
Average unpaid principal balance (actual dollars) $ 11,775 $ 12,479
Number of loans serviced 426,884 336,129
</TABLE>
The Company's servicing portfolio increased 20% from March 31, 1997 to
March 31, 1998. This increase reflects loan purchases and subsequent
securitizations, partially offset by defaults, prepayments and scheduled
repayments. The decline in average outstanding balance of loans during the
first quarter of 1998 reflects an increase in the proportion of used to new cars
financed by the Company.
The Company's servicing fee approximates adequate compensation as defined
by SFAS 125 and therefore, the Company has not recorded a servicing asset or
liability at March 31, 1998.
OPERATING EXPENSES. Salaries and benefits increased to $17.3 million in
the first quarter of 1998, up 20% from $14.5 million during the same period in
1997. The increase in salaries and benefits is primarily attributable to an
increase in the average number of employees to 1,579 during the first quarter of
1998 from 1,360 during the same period in 1997. Increased staffing primarily
reflects additional employees hired in the Company's loan servicing and
collection departments.
Other operating costs, including administrative, occupancy, depreciation
and amortization, origination, servicing and collection expenses, increased 9%
during the three months ended March 31, 1998, compared with the same period in
1997. Included in operating costs during the first quarter of 1997 was a
one-time pre-tax charge of approximately $5.0 million primarily related to legal
costs and severance expenses for certain former executives of the Company.
Excluding this one-time charge, other operating costs increased 35%. The
increase in other operating costs is primarily a result of the higher percentage
of
13
<PAGE>
Classic program loans in the portfolio, since these generally require greater
collection efforts and related costs (including increased telephone, fax,
postage and repossession expenses) than Premier program loans. In addition, an
overall increase in delinquency rates during the first quarter of 1998 compared
to the same period a year ago further contributed to an increase in loan and
collection expenses.
IMPACT OF YEAR 2000. The Company recognizes that the arrival of the Year
2000 poses a unique worldwide challenge to the ability of all computer systems
to recognize the date change from December 31, 1999 to January 1, 2000 and, like
other companies, is assessing, enhancing and updating its computer applications
and business processes to provide for their continued functionality after said
date. In connection with its initiative to replace and enhance key operating
systems, the Company has engaged outside consultants to assist in the design and
implementation of various systems that will be Year 2000 compliant. The Company
anticipates that the testing and implementation of such systems will be
completed by mid-1999, which is prior to any anticipated impact on its operating
systems. The Company believes that with conversions to new software, the Year
2000 issue will not pose significant operational problems for its computer
systems. However, if such conversions are not made, or are not completed in a
timely manner, the Year 2000 issue could have a material impact on the
operations of the Company.
The costs associated with the Year 2000 project will be primarily for the
purchase of the new software being developed to replace and enhance the
Company's current operating systems. Consistent with its capitalization policy,
the costs of the Company's new operating software will be capitalized and
amortized over its expected useful life. As such, the Company believes that the
impact of the Year 2000 issue will not have a material effect on the results of
operations.
LONG-TERM DEBT AND OTHER INTEREST EXPENSE. Long-term debt and other
interest expense increased 68% during the three months ended March 31, 1998
compared to the same period in 1997. The increase is primarily due to the
issuance of $300.0 million and $75.0 million of 11.5% Senior Notes "the Senior
Notes" in March 1997 and October 1997, respectively, partially offset by the
concurrent extinguishment of $145.0 million of 13% Senior Term Notes in March
1997.
EXTRAORDINARY ITEM. In March 1997, the Company issued $300.0 million of
11.5% Senior Notes and utilized approximately $173.5 million to repurchase and
covenant defease the Company's $145.0 million 13% Senior Term Notes, including
accrued interest of $7.9 million and a premium of approximately $20.3 million.
These charges and additional professional fees incurred to retire such debt were
treated as an extraordinary item, net of tax.
FINANCIAL CONDITION
FINANCE INCOME RECEIVABLE. Finance income receivable increased to $655.3
million at March 31, 1998 from $602.5 million at December 31, 1997. This
increase is primarily due to amounts capitalized upon completion of
securitization transactions during the first quarter of 1998 related to the
present value of estimate cash flows partially off-set by excess cash flows
released to the Company.
ACCOUNTS PAYABLE AND ACCRUED LIABILITIES. Accounts payable and accrued
liabilities decreased 22% to $20.4 million at March 31, 1998 as compared with
$26.3 million at December 31, 1997. This decrease reflects the semi-annual
payment of accrued interest associated with the Company's Senior Notes in March
1998.
14
<PAGE>
DELINQUENCY, CREDIT LOSS AND REPOSSESSION EXPERIENCE
The following tables describe the Company's delinquency, credit loss and
repossession experience for the periods indicated. A delinquent loan may result
in the repossession and foreclosure of the collateral for the loan. Losses
resulting from repossession and foreclosure of loans are charged against
applicable allowances.
<TABLE>
<CAPTION>
DELINQUENCY EXPERIENCE (1):
MARCH 31, 1998 DECEMBER 31, 1997
-------------------------- --------------------------
NUMBER OF NUMBER OF
LOANS BALANCE LOANS BALANCE
--------- ---------- --------- ----------
<S> <C> <C> <C> <C>
(DOLLARS IN THOUSANDS)
Servicing portfolio at end of period 426,884 $5,026,479 411,429 $4,956,090
Delinquencies:
31-60 days 7,484 $ 90,148 8,297 $ 100,161
61-90 days 3,358 41,363 3,635 45,485
91 days or more 3,967 46,023 3,019 34,047
--------- ---------- --------- ----------
Total loans delinquent 31 or more days 14,809 $ 177,534 14,951 $ 179,693
Delinquencies as a percentage of
number of loans and amount
outstanding at end of period (2) 3.47% 3.53% 3.63% 3.63%
Amount in repossession (3) 5,646 $ 51,482 6,083 $ 55,300
--------- ---------- --------- ----------
Total delinquencies and amount in
repossession (2) (3) 20,455 $ 229,016 21,034 $ 234,993
--------- ---------- --------- ----------
--------- ---------- --------- ----------
</TABLE>
- ----------
(1) All amounts and percentages are based on the principal amount scheduled to
be paid on each loan. The information in the table includes previously
sold loans which the Company continues to service.
(2) Amounts shown do not include loans which are less than 31 days delinquent.
(3) Amount in repossession represents financed automobiles which have been
charged-off but not yet liquidated.
CREDIT LOSS/REPOSSESSION EXPERIENCE (1):
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
----------------------------
1998 1997
---------- ----------
<S> <C> <C>
(DOLLARS IN THOUSANDS)
Average servicing portfolio outstanding during the period $5,001,781 $3,976,446
Average number of loans outstanding during the period 419,179 319,118
Number of charge-offs 7,597 4,966
Gross charge-offs (2) $ 52,479 $ 46,410
Recoveries (3) 3,576 1,880
---------- ----------
Net losses $ 48,903 $ 44,530
---------- ----------
---------- ----------
Annualized gross charge-offs as a percentage of average
servicing portfolio 4.20% 4.67%
Annualized net losses as a percentage of average
servicing portfolio 3.91% 4.48%
</TABLE>
- ------------------
(1) All amounts and percentages are based on the principal amount scheduled to
be paid on each loan. The information in the table includes previously
sold loans which the Company continues to service.
15
<PAGE>
(2) Gross charge-offs represent principal amounts which management estimated to
be uncollectable after the consideration of anticipated proceeds from the
disposition of repossessed assets and selling expenses.
(3) Includes post-disposition amounts received on previously charged off loans.
The Company's delinquency rate has declined compared to December 31, 1997,
in part because of seasonal pressure on collection efforts which is generally
highest in the fourth quarter of the year. Management also believes that the
decrease in the delinquency rate reflects improvements in the Company's
collections and servicing functions. During the first quarter of 1998, the
Company began incorporating more aggressive use of autodialers and introduced
borrower behavioral scoring information into its collection calling strategy in
order to focus resources where management believes they will make the most
difference in improving collection efforts. The Company has also begun to move
collection personnel out of buying centers to centralized sites to better
leverage collections resources and technology and control collection processes
more tightly.
Gross charge-offs and net losses during the first quarter of 1997 include a
special charge of approximately $25 million resulting from a revision to the
Company's inventory valuation policy (see "SPECIAL CHARGES"). Excluding the
one-time valuation adjustment, gross charge-off and net loss rates increased
during the quarter ended March 31, 1998 from the first quarter of last year
primarily due to the continued rise in Classic loan volume and the seasoning of
the Company's existing servicing portfolio. Net losses during the first quarter
of 1998 have been further affected by selling an increased proportion of
repossessed vehicles through wholesale auctions. During the first quarter of
1998, the Company liquidated approximately 71% of all repossessed vehicles sold
through wholesale auctions compared with 35% in the first quarter of 1997.
Because recovery rates are generally lower on vehicles sold at auction compared
to those liquidated through retail channels, the increased utilization of
auctions has increased net losses experienced by the Company. In addition,
wholesale recovery rates have continued to decline during the past few quarters,
reflecting a softening in the used car market.
LIQUIDITY
The Company's business requires substantial cash to support its operating
activities. The principal cash requirements include (i) amounts necessary to
purchase and finance automobile loans pending securitization, (ii) payment of
dealer participations, (iii) cash held from time to time in restricted spread
accounts to support securitizations and warehouse facilities and other
securitization expenses, (iv) interest advances to securitization trusts,
(v) repossessed inventory, and (vi) interest expense. The Company also uses
significant amounts of cash for operating expenses. The Company receives cash
principally from interest on loans held pending securitization, from excess cash
flow received from securitization trusts and from fees earned through servicing
of loans held by such trusts. The Company has operated on a negative operating
cash flow basis and expects to continue to do so in the near future. The Company
has historically funded these negative operating cash flows principally through
borrowings from financial institutions, sales of equity securities and sales of
senior and subordinated notes. The Company expects that it will require
additional capital in the future to fund continued negative cash flows, although
there can be no assurance that the Company will have access to capital markets
in the future or that financing will be available to satisfy the Company's
operating and debt service requirements or to fund its future growth. See
"Capital Resources."
PRINCIPAL USES OF CASH IN OPERATING ACTIVITIES
PURCHASE AND FINANCING OF AUTOMOBILE LOANS. Automobile loan purchases
represent the Company's most significant cash flow requirement. The Company
funds the purchase price of loans primarily through the use of warehouse
facilities. However, because advance rates under the warehouse facilities
generally provide funds from 93% to 97% of the principal balance of the loans,
the Company is required to fund the remainder of all purchases prior to
securitization with other available cash resources. The Company purchased $584.0
million of loans during the first three months of 1998 compared to $781.9
million during the same period in 1997.
16
<PAGE>
DEALER PARTICIPATIONS. Consistent with industry practice, the Company pays
dealers participations for selling loans to the Company. These participations
typically require the Company to advance an up-front amount to dealers.
Participations paid by the Company to dealers during the three months ended
March 31, 1998 were $16.7 million, or approximately 2.86% of the principal
balance of loans purchased, compared with $25.5 million, or approximately 3.26%
of loans purchased, during the same period in 1997. The decrease in dealer
participations as a percentage of loans purchased reflects the growth in volume
in Classic loans (which are generally associated with lower dealer
participations) and a reduction in the maximum allowable participation paid for
Premier loans.
SECURITIZATION OF AUTOMOBILE LOANS. In connection with securitizations,
the Company is required to fund spread accounts related to each transaction. The
Company funds these spread accounts by foregoing receipt of excess cash flow
until these spread accounts exceed predetermined levels. In addition, for
certain securitizations, the Company has been required to provide initial cash
deposits into the spread accounts. The Company had $261.3 million of restricted
cash in spread accounts at March 31, 1998, compared with $250.3 million at
December 31, 1997. The increase in restricted cash in spread accounts reflects
the Company's continued securitization of loan purchases and the related
accumulation of excess cash flows to levels defined within each securitization
agreement, partially offset by the release of excess cash flows.
The Company also incurs certain expenses in connection with
securitizations, including underwriting fees, credit enhancement fees, trustee
fees and other costs, which approximate 0.5% of the principal amount of the
asset-backed securities sold into the securitizations.
ADVANCES DUE TO SERVICER. As the servicer of loans sold in
securitizations, the Company periodically makes interest advances to the
securitization trusts to provide for temporary delays in the receipt of required
interest payments from borrowers. In accordance with the relevant servicing
agreements, the Company makes advances only in the event it expects to recover
such advances through the ultimate payments from the obligor over the life of
the loan.
REPOSSESSED INVENTORY. At March 31, 1998, repossessed inventory managed or
owned by the Company and held for resale was $51.5 million, compared with $55.3
million at December 31, 1997. The rate of repossessed inventory turnover impacts
cash available for spread accounts under securitization trusts and,
consequently, the excess cash available for distribution to the Company. At
March 31, 1998, repossessed inventory was 1.0% of the total servicing portfolio
compared with 1.1% at December 31, 1997. Any improvement in excess cash flows
due to an increase in the inventory turnover rate may be partially reduced by
lower recoveries realized through an increased use of wholesale auctions and
generally lower wholesale used car prices.
INTEREST EXPENSE. Although the Company records net interest margin as
earned, a significant portion of the interest income component is generally
received in cash from excess cash flow, while the interest expense component
(primarily warehousing interest) is paid prior to securitization. The Company
also incurs interest expense related to both short-term and long-term debt
obligations.
PRINCIPAL SOURCES OF CASH IN OPERATING ACTIVITIES
EXCESS CASH FLOW. The Company receives excess cash flow from
securitization trusts, including the realization of gain on sale, the
recovery of dealer participations, and the recovery of accrued interest
receivable earned, but not yet collected, on loans held for sale prior to
securitization. Recovery of dealer participations and accrued interest
receivable, which occur throughout the life of the securitization, result in
a reduction of the finance income receivable but, because they have been
considered in the original determination of the gain on sale of loans, have
no effect on the Company's results of operations in the year in which the
participations and interest are recovered from the securitization trust.
During the first quarter of 1998, the Company received $25.0 million of
excess cash flow, compared with $15.1 million during the first quarter 1997.
Included in the 1998 cash released from spread accounts is $4.8 million of
cash which is restricted pursuant to an arrangement between the Company and
its asset-backed securities insurance provider.
17
<PAGE>
SERVICING FEES. The Company receives servicing fees for servicing
securitized loans included in various securitization trusts. The servicing fee
for loans in securitization trusts is equal to one percent per annum of the
outstanding principal balance of the loans for all securitizations entered into
prior to September 1997 and 1.25 percent per annum on loans subsequently
securitized. The Company also receives collection fees, such as late payment
fees and insufficient fund charges, and interest on collection accounts earned
by the Company as servicer of the loans. During the three months ended March
31, 1998 and 1997, the Company received cash for such servicing in the amount of
$19.6 million and $12.8 million, respectively. Servicing fee income is reflected
in the Company's revenues as earned.
CAPITAL RESOURCES
The Company finances the acquisition of automobile loans primarily through
(i) warehouse facilities, pursuant to which loans are sold or financed generally
on a temporary basis, and (ii) the securitization of loans, pursuant to which
loans are sold as asset-backed securities. Additional financing is required to
fund the Company's operations.
WAREHOUSE FACILITIES. Automobile loans held for sale are funded primarily
through warehouse facilities. At March 31, 1998, the Company had three warehouse
facilities in place with various financial institutions and institutional
lenders with an aggregate capacity of $875.0 million, of which $821.1 million
was available. Proceeds from securitizations, generally received within seven to
ten days following the cut-off date established for the securitization
transaction, are applied to repay amounts outstanding under warehouse
facilities.
SECURITIZATION PROGRAM. An important capital resource for the Company has
been its ability to sell automobile loans in the secondary markets through
securitizations. The following table summarizes the Company's securitization
transactions for the three months ended March 31, 1998, all of which were
publicly issued and rated "AAA/Aaa".
<TABLE>
<CAPTION>
CURRENT
REMAINING REMAINING CURRENT WEIGHTED GROSS
BALANCE AS BALANCE AS A WEIGHTED AVERAGE INTEREST
ORIGINAL OF MARCH 31, PERCENTAGE OF AVERAGE SECURITIZATION RATE
DATE BALANCE 1998 ORIGINAL BALANCE APR RATE SPREAD
- ---------------------- --------- ----------- ---------------- -------- -------------- ---------
<S> <C> <C> <C> <C> <C> <C>
(DOLLARS IN THOUSANDS)
March 1998 (1) $ 525,000 $ 484,853 92.35% 17.17% 5.93% 11.24%
</TABLE>
- --------------------
(1) As of March 31, 1998, the Company had delivered $489.9 million of
automobile loans and $35.1 million of cash remained in the pre-funded
portion of the trust.
HEDGING STRATEGY
The Company enters into hedging transactions to manage its gross interest
rate spread on loans held for sale. The Company sells forward US Treasuries
that most closely parallel the average life of its portfolio of loans held for
sale. Hedging gains and losses are recognized as a component of the gain on
sale of loans on the date such loans are sold. To the extent hedging gains or
losses are significant, the resulting up-front cash payments or receipts may
impact the Company's liquidity. The Company receives the up-front gains or
losses back over time through a lower or higher spread, respectively, at the
time of securitization. At March 31, 1998, the Company had unrealized losses on
hedge contracts of $2.3 million.
OTHER CAPITAL RESOURCES
Historically, the Company has utilized various debt and equity financings
to offset negative operating cash flows and support its operations. No such
offerings were completed by the Company during the first quarter of 1998.
18
<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 amendment to its
Quarterly Report on Form 10-Q report to be signed on its behalf by the
undersigned, thereunto duly authorized.
ARCADIA FINANCIAL LTD.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ Richard A. Greenawalt President, Chief Executive Officer, and Director March 23, 1999
- ----------------------------------
Richard A. Greenawalt
/s/ John A. Witham Executive Vice President and Chief Financial Officer March 23, 1999
- ---------------------------------- (Principal Financial Officer)
John A. Witham
/s/ Brian S. Anderson Senior Vice President, Corporate Controller and March 23, 1999
- ---------------------------------- Assistant Secretary (Principal Accounting Officer)
Brian S. Anderson
</TABLE>
19
