UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C., 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____________ to _____________
Commission file number 1-11011
THE FINOVA GROUP INC.
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
DELAWARE 86-0695381
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1850 North Central Ave., P. O. Box 2209, Phoenix, AZ (until December 10, 1999) 85002-2209
4800 North Scottsdale Road, Scottsdale AZ (after December 10, 1999) 85251
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (until December 10, 1999) 602/207-6900
(after December 10, 1999) 480/636-4800
</TABLE>
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months, (or such shorter period that the Registrant was
required to file such report), and (2) has been subject to such filing
requirements for the past 90 days.
YES [X] NO [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS:
As of November 10,1999 61,227,238 shares of Common Stock ($0.01 par value) were
outstanding.
<PAGE>
THE FINOVA GROUP INC.
TABLE OF CONTENTS
Page No.
--------
Part I FINANCIAL INFORMATION...............................................1
Item 1. Financial Statements................................................1
Condensed Consolidated Balance Sheets...............................1
Condensed Statements of Consolidated Income.........................2
Condensed Statements of Consolidated Cash Flows.....................3
Notes to Interim Condensed Consolidated Financial Information.......4
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations..........................................10
Item 3. Quantitative and Qualitative Disclosures about Market Risk.........15
Part II OTHER INFORMATION..................................................16
Item 6. Exhibits and Reports on Form 8-K...................................16
Signatures..................................................................17
<PAGE>
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
THE FINOVA GROUP INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in Thousands) (Unaudited)
December 31,
September 30, 1998
1999 restated
------------ ------------
ASSETS:
Cash and cash equivalents $ 76,858 $ 49,518
Investment in financing transactions:
Loans and other financing contracts 9,170,823 7,354,736
Leveraged leases 816,849 773,942
Operating leases 681,815 648,185
Fee-based receivables 614,668 626,499
Direct financing leases 375,807 396,759
Financing contracts held for sale 313,805 220,100
------------ ------------
11,973,767 10,020,221
Less reserve for credit losses (248,290) (207,618)
------------ ------------
Net investment in financing transactions 11,725,477 9,812,603
Investments 304,557 124,792
Goodwill and other assets 616,073 454,323
------------ ------------
$ 12,722,965 $ 10,441,236
============ ============
LIABILITIES:
Accounts payable and accrued expenses $ 146,419 $ 154,137
Due to clients 118,566 205,655
Interest payable 74,125 65,817
Senior debt 10,289,419 8,394,578
Deferred income taxes 391,187 342,268
------------ ------------
11,019,716 9,162,455
------------ ------------
Commitments and contingencies
Company-obligated mandatory redeemable
convertible preferred securities of
subsidiary trust solely holding convertible
debentures of FINOVA, net of expenses ("TOPrS") 111,550 111,550
SHAREOWNERS' EQUITY:
Common stock, $0.01 par value, 400,000,000
shares authorized, 64,849,000 and 58,555,000
shares issued, respectively 648 585
Additional capital 1,117,670 765,050
Retained income 643,837 515,057
Accumulated other comprehensive income 7,017 686
Common stock in treasury, 3,645,000 and
2,834,000 shares, respectively (177,473) (114,147)
------------ ------------
1,591,699 1,167,231
------------ ------------
$ 12,722,965 $ 10,441,236
============ ============
See notes to interim consolidated condensed financial statements.
1
<PAGE>
THE FINOVA GROUP INC.
CONDENSED STATEMENTS OF CONSOLIDATED INCOME
(Dollars in Thousands, except per share data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------------- ----------------------------
1998 1998
1999 restated 1999 restated
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Interest and income earned
from financing transactions $ 289,160 $ 229,290 $ 801,360 $ 644,104
Operating lease income 29,528 24,019 86,249 88,107
Interest expense (150,142) (121,937) (420,478) (346,909)
Operating lease depreciation (19,435) (13,875) (53,381) (51,540)
------------ ------------ ------------ ------------
Interest margins earned 149,111 117,497 413,750 333,762
Volume-based fees 14,317 16,687 38,316 57,946
------------ ------------ ------------ ------------
Operating margin 163,428 134,184 452,066 391,708
Provision for credit losses (25,550) (19,000) (52,050) (44,500)
------------ ------------ ------------ ------------
Net interest margins earned 137,878 115,184 400,016 347,208
Gains on disposal of assets 14,880 6,471 46,010 15,429
------------ ------------ ------------ ------------
152,758 121,655 446,026 362,637
Operating expenses (62,500) (53,047) (183,338) (159,132)
------------ ------------ ------------ ------------
Income before income taxes and
preferred dividends 90,258 68,608 262,688 203,505
Income taxes (34,407) (25,824) (101,226) (78,554)
------------ ------------ ------------ ------------
Income before preferred dividends 55,851 42,784 161,462 124,951
Preferred dividends, net of tax (946) (946) (2,837) (2,837)
------------ ------------ ------------ ------------
NET INCOME $ 54,905 $ 41,838 $ 158,625 $ 122,114
============ ============ ============ ============
Basic earnings per share $ 0.90 $ 0.75 $ 2.66 $ 2.18
============ ============ ============ ============
Adjusted weighted average shares
outstanding 60,860,000 56,032,000 59,540,000 56,143,000
============ ============ ============ ============
Diluted earnings per share $ 0.86 $ 0.71 $ 2.52 $ 2.05
============ ============ ============ ============
Adjusted weighted average shares
outstanding 65,024,000 60,683,000 64,103,000 60,944,000
============ ============ ============ ============
Dividends per common share $ 0.18 $ 0.16 $ 0.50 $ 0.44
============ ============ ============ ============
</TABLE>
See notes to interim consolidated condensed financial statements.
2
<PAGE>
THE FINOVA GROUP INC.
CONDENSED STATEMENTS OF CONSOLIDATED CASH FLOWS
(Dollars in Thousands)
(Unaudited)
Nine Months Ended
September 30,
--------------------------
1998
1999 restated
----------- ------------
OPERATING ACTIVITIES:
Net income $ 158,625 $ 122,114
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for credit losses 52,050 44,500
Depreciation and amortization 76,986 68,726
Gains on disposal of assets (46,010) (15,429)
Deferred income taxes 87,133 46,959
Change in assets and liabilities,
net of effects from acquisitions:
Increase in other assets (70,643) (105,488)
Decrease in accounts payable
and accrued expenses (58,385) (16,317)
Increase (decrease) in interest payable 6,655 (11,418)
Other (1,609) (571)
----------- -----------
Net cash provided by operating activities 204,802 133,076
----------- -----------
INVESTING ACTIVITIES:
Proceeds from sale of assets 226,047 173,114
Proceeds from sale of securitized assets 77,478
Proceeds from sales of commercial mortgage
backed securities ("CMBS") assets 243,762
Principal collections on financing transactions 1,619,549 1,453,757
Expenditures for financing transactions (2,720,924) (2,215,432)
Expenditures for CMBS transactions (421,329)
Net change in short-term financing transactions (757,307) (561,278)
Cash received in acquisitions 20,942
Other 2,598 1,742
----------- -----------
Net cash used in investing activities (1,786,662) (1,070,619)
----------- -----------
FINANCING ACTIVITIES:
Net borrowings under commercial paper
and short-term loans 591,928 874,741
Long-term borrowings 1,788,592 915,000
Repayment of long-term borrowings (591,791) (663,572)
Proceeds from exercise of stock options 26,677 9,290
Common stock purchased for treasury (89,272) (50,499)
Dividends (29,845) (24,837)
Net change in due to clients (87,089) (77,747)
----------- -----------
Net cash provided by financing activities 1,609,200 982,376
----------- -----------
INCREASE IN CASH AND CASH EQUIVALENTS 27,340 44,833
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 49,518 33,190
----------- -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 76,858 $ 78,023
=========== ===========
See notes to interim consolidated condensed financial statements.
3
<PAGE>
THE FINOVA GROUP INC.
NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL INFORMATION
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
NOTE A BASIS OF PREPARATION
The consolidated financial statements present the financial position,
results of operations and cash flows of The FINOVA Group Inc. and its
subsidiaries (collectively, "FINOVA" or the "Company"), including FINOVA Capital
Corporation and its subsidiaries (collectively, "FINOVA Capital").
The interim condensed consolidated financial information is unaudited. In
the opinion of management all adjustments, consisting of normal recurring items,
necessary to present fairly the financial position as of September 30, 1999, the
results of operations for the quarter and nine months ended September 30, 1999
and 1998 and cash flows for the nine months ended September 30, 1999 and 1998,
have been included. Interim results of operations are not necessarily indicative
of the results of operations for the full year. The enclosed financial
statements should be read in connection with the consolidated financial
statements and notes thereto included in the Company's Annual Report on Form
10-K/A Amendment No. 2 for the year ended December 31, 1998.
NOTE B SIGNIFICANT ACCOUNTING POLICIES
The Company reports other comprehensive income in accordance with Statement
of Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive
Income." Total comprehensive income was $56.6 million and $42.6 million for the
three months ended September 30, 1999 and 1998, respectively and $165.0 million
and $122.6 million for the nine months ended September 30 1999 and 1998,
respectively. The primary component of comprehensive income other than net
income was unrealized holding gains.
NEW ACCOUNTING STANDARDS
In June 1999, the FASB issued SFAS No. 137, "Accounting for Derivatives and
Hedging Activities - Deferral of the Effective Date of FASB Statement No. 133,"
("SFAS No. 137"). This statement defers the effective date of SFAS No. 133 to
all fiscal quarters of all fiscal years beginning after June 15, 2000. SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities," ("SFAS No.
133") standardizes the accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, by recognition of those
items as assets or liabilities in the statement of financial position and
measurement at fair value. The impact of SFAS No. 133 on the Company's financial
position and results of operations has not yet been determined.
NOTE C SEGMENT REPORTING
MANAGEMENT'S POLICY FOR IDENTIFYING REPORTABLE SEGMENTS
FINOVA's reportable business segments are strategic business units that
offer distinctive products and services that are marketed through different
channels.
RECONCILIATION OF SEGMENT INFORMATION TO CONSOLIDATED AMOUNTS
Management evaluates the business performance of each group based on total
net revenue, income before allocations and managed assets. Total net revenue is
operating margin plus gains on disposal of assets. Income before allocations is
income before income taxes and preferred dividends, excluding allocation of
corporate overhead expenses and the unallocated portion of provision for credit
losses. Managed assets include each segment's investment in financing
transactions plus securitizations and participations sold.
4
<PAGE>
Information for FINOVA's reportable segments reconciles to FINOVA's consolidated
totals as follows:
Nine Months Ended September 30,
-------------------------------
Dollars in Thousands 1999 1998
---- ----
Total net revenue (loss):
Commercial Finance $ 159,977 $ 138,215
Specialty Finance 278,298 254,637
Capital Markets 67,084 9,924
Corporate and other (7,283) 4,361
------------ ------------
Consolidated total $ 498,076 $ 407,137
============ ============
Income (loss) before allocations:
Commercial Finance $ 70,145 $ 54,564
Specialty Finance 223,602 204,624
Capital Markets 19,827 (10,236)
Corporate and other, overhead and
unallocated provision for credit losses (50,886) (45,447)
------------ ------------
Income from continuing operations
before income taxes $ 262,688 $ 203,505
============ ============
September 30,
----------------------------
1999 1998
---- ----
Managed assets:
Commercial Finance $ 3,529,133 $ 2,928,326
Specialty Finance 7,841,607 6,626,414
Capital Markets 1,044,259 293,933
Corporate and other 89,306 87,890
------------ ------------
Consolidated total 12,504,305 9,936,563
Less securitizations and participations sold (530,538) (516,019)
------------ ------------
Investment in financing transactions $ 11,973,767 $ 9,420,544
============ ============
NOTE D ACQUISITION OF SIRROM CAPITAL CORPORATION
In March 1999, FINOVA acquired Sirrom Capital Corporation ("Sirrom"), a
specialty finance company headquartered in Nashville, Tennessee. The acquisition
was accounted for using the purchase method of accounting. The purchase price
was approximately $343 million in FINOVA common stock, excluding converted stock
options. Total assets acquired were $619 million, including $65 million in
goodwill and $278 million in assumed liabilities and transaction costs. Goodwill
is subject to change due to a preliminary estimate of fair values of various
private equities and loan balances at the date of acquisition. Goodwill is being
amortized over 25 years and covenants not to compete, which are included in
goodwill, are being amortized over 3 years.
The accompanying unaudited pro forma information gives effect to the merger
as if it had occurred on January 1, 1999 and 1998 and combines the historical
consolidated information of FINOVA and Sirrom for the nine months ended
September 30, 1999 and 1998.
The unaudited comparative pro forma information is not necessarily
indicative of the results that actually would have occurred had the merger been
consummated on the dates indicated or that may be obtained in the future. The
5
<PAGE>
unaudited pro forma financial information does not give effect to the potential
cost savings and other synergies that may result from the merger or the possible
cash-out of existing stock options held by employees of Sirrom that became fully
vested by reason of the adoption of the merger agreement by Sirrom stockholders.
There can be no assurance that FINOVA will realize cost savings or synergies
from this or any other acquisition. Included in the historical operations of
Sirrom for the first nine months of 1999 are approximately $27 million of
nonrecurring charges, a significant portion of which related to the acquisition.
Comparative Pro Forma Information Nine Months Ended September 30,
(Dollars in thousands, except per share data) 1999 1998
---- ----
Total revenue $ 902,936 $ 786,821
Net income $ 106,035 $ 94,942
Earnings per share - diluted $ 1.63 $ 1.46
Earnings per share - basic $ 1.72 $ 1.53
The acquisition resulted in an excess purchase price over the historical
net assets acquired. The excess is allocated to the net assets acquired and
liabilities assumed, as follows:
Allocation of purchase price:
Purchase price $ 342,730
Elimination of historical stockholders' equity of Sirrom (264,056)
---------
Estimated excess purchase price $ 78,674
=========
Allocation of excess:
Elimination of unamortized debt costs $ (3,227)
Deferred income taxes 44,152
Assumed liabilities (26,802)
Goodwill 64,551
---------
$ 78,674
=========
NOTE E RESTATEMENT
Subsequent to the issuance of the Company's financial statements for the
year ended December 31, 1998, the Company's management determined that it should
revalue its retained interest in a mini-commercial mortgage-backed securities
("mini-CMBS") transaction. The revaluation resulted in a reduction of the value
of the retained portion of the loans and reduced the Company's previously
reported gross gains on the transaction. The Company's management also
determined that expenses incurred in connection with the origination of new
loans under SFAS No. 91, "Accounting for Nonrefundable Fees and Costs Associated
with Originating or Acquiring Loans and Initial Direct Costs of Leases" (SFAS
No. 91), should have been deferred and amortized over the estimated loan life.
Previously, the Company was deferring loan origination fees received and
amortizing them over the lives of the loans in accordance with SFAS No. 91, but
electing to expense loan origination costs as incurred. Accordingly, the Company
restated its condensed consolidated financial statements for the nine months
ended September 30, 1998 for the revaluation of the retained interest in the
mini-CMBS transaction and to defer and amortize loan costs over the estimated
loan life in accordance with SFAS No. 91, as well as to make several other less
material adjustments.
6
<PAGE>
A summary of the significant effects of the restatements for the three and
nine months ended September 30, 1998 is as follows:
Three Months Ended Nine Months Ended
September 30, 1998 September 30, 1998
------------------ ------------------
(Dollars in thousands, As previously As previously
except per share data) Reported As restated Reported As restated
-------- ----------- -------- -----------
Interest margins earned $120,744 $117,497 $ 343,543 $ 333,762
Gains on disposal of assets 13,438 6,471 24,243 15,429
Operating expenses (61,097) (53,047) (175,834) (159,132)
Net income 43,132 41,838 123,244 122,114
Basic earnings per share $ 0.77 $ 0.75 $ 2.20 $ 2.18
Diluted earnings per share $ 0.73 $ 0.71 $ 2.07 $ 2.05
NOTE F EARNINGS PER SHARE
Basic earnings per share exclude the effects of dilution and are computed
by dividing income available to common shareowners by the weighted average
amount of common stock outstanding for the period. Diluted earnings per share
reflect the potential dilution that could occur if options, convertible
preferred stock or other contracts to issue stock were exercised or converted
into common stock. These per share calculations are presented for the three and
nine months ended September 30, 1999 and 1998 on the Condensed Statements of
Consolidated Income and are detailed below:
7
<PAGE>
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------- -------------
1998 1998
(Dollars in thousands, except per share data) 1999 restated 1999 restated
---- -------- ---- --------
<S> <C> <C> <C> <C>
BASIC EARNINGS PER SHARE COMPUTATION:
Net income $ 54,905 $ 41,838 $ 158,625 $ 122,114
============ ============ ============ ============
Weighted average shares outstanding 61,173,000 56,331,000 59,810,000 56,414,000
Contingently issued shares (313,000) (299,000) (270,000) (271,000)
------------ ------------ ------------ ------------
Adjusted weighted average shares 60,860,000 56,032,000 59,540,000 56,143,000
============ ============ ============ ============
Basic earnings per share $ 0.90 $ 0.75 $ 2.66 $ 2.18
============ ============ ============ ============
DILUTED EARNINGS PER SHARE COMPUTATION:
Net income $ 54,905 $ 41,838 $ 158,625 $ 122,114
Preferred dividends, net of tax 946 946 2,837 2,837
------------ ------------ ------------ ------------
Income before preferred dividends $ 55,851 $ 42,784 $ 161,462 $ 124,951
============ ============ ============ ============
Weighted average shares outstanding 61,173,000 56,331,000 59,810,000 56,414,000
Contingently issued shares (313,000) (220,000) (270,000) (192,000)
Incremental shares from assumed conversions:
Stock options 1,226,000 1,634,000 1,625,000 1,784,000
Convertible preferred securities 2,938,000 2,938,000 2,938,000 2,938,000
------------ ------------ ------------ ------------
Total potential dilutive common shares 4,164,000 4,572,000 4,563,000 4,722,000
------------ ------------ ------------ ------------
Adjusted weighted average shares 65,024,000 60,683,000 64,103,000 60,944,000
============ ============ ============ ============
Diluted earnings per share $ 0.86 $ 0.71 $ 2.52 $ 2.05
============ ============ ============ ============
</TABLE>
NOTE G PORTFOLIO QUALITY
The following table presents a distribution (by line of business) of the
Company's investment in financing transactions before the reserve for credit
losses at the dates indicated.
8
<PAGE>
INVESTMENT IN FINANCING TRANSACTIONS
BY LINE OF BUSINESS
SEPTEMBER 30, 1999
(Dollars in Thousands)
<TABLE>
<CAPTION>
Revenue Accruing Nonaccruing
--------------------------------- ------------------------------- Total
Market Repossessed Repossessed Leases & Carrying
Rate (1) Impaired Assets(2) Impaired Assets Other Amount %
-------- -------- --------- -------- ------ ----- ------ -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Transportation Finance (3) 2,264,741 $ 56,141 $ $ $ $ $ 2,320,882 19.3
Resort Finance 1,457,035 16,467 2,770 21,083 1,497,355 12.5
Rediscount Finance 967,389 16,722 756 172 985,039 8.2
Corporate Finance 875,910 36,810 46,342 901 959,963 8.0
Commercial Equipment Finance 768,743 1,379 5,138 11,754 19,677 3,032 809,723 6.8
Specialty Real Estate Finance 726,340 35,910 14,987 290 194 777,721 6.5
Franchise Finance 707,544 1,406 1,882 6,891 2,837 263 720,823 6.0
Healthcare Finance 640,759 5,789 37,462 708 684,718 5.7
Communications Finance 676,051 9,399 17,714 703,164 5.9
Distribution & Channel Finance 429,869 69,689 11,732 511,290 4.3
Mezzanine Capital 416,247 23,399 28,800 468,446 3.9
Realty Capital 551,286 551,286 4.6
Business Credit 339,770 5,752 19,467 364,989 3.1
Public Finance 164,215 164,215 1.4
Commercial Services 271,515 7,779 805 280,099 2.3
Other (4) 63,013 940 25,353 89,306 0.8
Growth Finance 56,536 3,685 60,221 0.5
Investment Alliance 24,527 24,527 0.2
----------- -------- ------- -------- -------- -------- ----------- -----
TOTAL (5) $11,401,490 $204,915 $81,908 $210,139 $ 45,765 $ 29,550 $11,973,767 100.0
=========== ======== ======= ======== ======== ======== =========== =====
</TABLE>
NOTES:
(1) Represents original or renegotiated market rate terms, excluding impaired
transactions.
(2) The Company earned income totaling $4.3 million on repossessed assets year
to date during 1999, including $1.7 million in Specialty Real Estate
Finance, $0.8 million in Resort Finance, $0.4 million in Healthcare
Finance, $1.1 million in Rediscount Finance, $0.2 million in Commercial
Equipment Finance and $0.1 million in Franchise Finance.
(3) Transportation Finance includes $427.8 million of aircraft financing
business booked through the London office.
(4) Primarily includes other assets retained from disposed or discontinued
operations.
(5) Excludes $530.5 million of assets securitized and participations sold which
the Company manages, including securitizations of $300.0 million in
Corporate Finance and $123.7 million in Franchise Finance and
participations of $47.6 million in Corporate Finance, $27.2 million in
Franchise Finance, $11.9 million in Rediscount Finance, $5.9 in
Transportation Finance, $8.0 million in Business Credit and $6.2 million in
Resort Finance.
9
<PAGE>
RESERVE FOR CREDIT LOSSES:
The reserve for credit losses at September 30, 1999 represents 2.1% of the
Company's investment in financing transactions and securitized assets. Changes
in the reserve for credit losses were as follows:
Nine Months Ended
September 30,
--------------------------
1999 1998
--------- ---------
(Dollars in Thousands)
Balance, beginning of period $ 207,618 $ 177,088
Provision for credit losses 52,050 44,500
Write-offs (42,183) (38,672)
Recoveries 2,598 1,742
Reserves related to acquisitions 23,763 2,460
Other 4,444 43
--------- ---------
Balance, end of period $ 248,290 $ 187,161
========= =========
At September 30, 1999 the total carrying amount of impaired loans was
$415.1 million, of which $204.9 million were revenue accruing. A reserve for
credit losses of $74.2 million has been established for $110.4 million of
nonaccruing impaired loans and $79.9 million has been established for $138.8
million of accruing impaired loans. The remaining $94.2 million of the reserve
for credit losses is designated for general purposes and represents management's
best estimate of inherent losses in the portfolio considering delinquencies,
loss experience and collateral. Additions to the general and specific reserves
are reflected in current operations. Management may transfer reserves between
the general and specific reserves as considered necessary.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
COMPARISON OF THE NINE MONTHS ENDED SEPTEMBER 30, 1999
TO THE NINE MONTHS ENDED SEPTEMBER 30, 1998
THE FOLLOWING DISCUSSION RELATES TO THE FINOVA GROUP INC. AND ITS
SUBSIDIARIES (COLLECTIVELY, "FINOVA" OR THE "COMPANY"), INCLUDING FINOVA CAPITAL
CORPORATION AND ITS SUBSIDIARIES (COLLECTIVELY, "FINOVA CAPITAL").
Net income for 1998 has been restated to reflect adjustments described in
the Company's report on Form 10-K/A Amendment No. 2 for the year ended December
31, 1998. The effects of the restatements for the nine months ended September
30, 1998 are presented in Note E of the Notes to Interim Consolidated Financial
Statements, and have been reflected herein.
RESULTS OF OPERATIONS
Net income for the nine months ended September 30, 1999 was $158.6 million
($2.52 per diluted share) compared to $122.1 million ($2.05 per diluted share)
for the nine months ended September 30, 1998. The 1999 earnings per share
computation includes a higher average share count primarily due to the 6.3
million additional shares issued in connection with the acquisitions of Sirrom
Capital Corporation and Preferred Business Credit, Inc. in the first quarter of
1999.
INTEREST MARGINS EARNED. Interest margins earned represents the difference
between (a) interest and income earned from financing transactions and operating
lease income and (b) interest expense and depreciation on operating leases.
Interest margins earned were $413.8 million for the nine months ended September
30, 1999, an increase of 24% over interest margins earned of $333.8 million for
the same period in 1998. The increase was principally due to annualized
portfolio growth of 25% for the nine months ended September 30, 1999. Interest
margins earned as a percentage of average earning assets were 5.3% for the nine
months ended September 30, 1999, down from 5.4% for the same period in 1998.
10
<PAGE>
VOLUME-BASED FEES. Volume-based fees are generated by FINOVA's Distribution
& Channel Finance, Commercial Services and Realty Capital lines of business.
These fees are predominately based on volume-originated business rather than the
balance of outstanding financing transactions during the period. For the nine
months ended September 30, 1999, volume-based fees were $38.3 million compared
to $57.9 million for the nine months ended September 30, 1998. The decrease was
due to lower fee-based volume for the nine months ended September 30, 1999 than
for the same period in the prior year ($4.8 billion vs. $5.4 billion) and lower
commission rates earned on that volume (0.79% vs. 1.07%). The decrease in
commission rates was primarily due to an increased percentage of structured
finance (brokered) deals in Realty Capital which earn a lower average commission
rate than other fee-based products (0.37%), and to the movement by Commercial
Services to improved credits with lower commission rates.
PROVISION FOR CREDIT LOSSES. The provision for credit losses was $52.1
million for the nine months ended September 30, 1999 compared to $44.5 million
for the same period last year. Net write-offs during the first nine months of
1999 were $39.6 million compared to $36.9 million for the same period in 1998.
Corporate Finance incurred $17.1 million in net write-offs in the first nine
months of 1999 compared to $4.4 million in the first nine months of 1998. Net
write-offs in Commercial Services were $4.4 million in the first nine months of
1999 compared to $21.0 million in the same period in 1998. Net write-offs in
other lines of business for the first nine months of 1999 were comparable to net
write-offs in the first nine months of 1998.
GAINS ON DISPOSAL OF ASSETS. Gains on disposal of assets were $46.0 million
for the nine months ended September 30, 1999 compared to $15.4 million for the
first nine months of 1998. Gains were earned on sales of investments ($16.1
million), sales of CMBS loans ($11.8 million), and on the sales of other assets
($18.1 million) including assets coming off lease in 1999. While in the
aggregate FINOVA has historically recognized gains on such disposals, the timing
and amount of these gains are sporadic in nature. There can be no assurance
FINOVA will recognize gains in the future, depending, in part, on market
conditions at the time of sale.
OPERATING EXPENSES. Operating expenses increased $24.2 million to $183.3
million for the first nine months of 1999 compared to $159.1 million for the
first nine months of 1998. This increase was attributable to Company growth
including the addition of 155 employees (primarily through acquisitions) during
the twelve months ended September 30, 1999. Operating expenses improved as a
percentage of operating margins plus gains on disposal of assets to 36.8% for
the nine months ended September 30, 1999 from 39.1% in the comparable period in
1998.
INCOME TAXES. Income taxes were higher for the first nine months of 1999
compared to the corresponding period in 1998 primarily due to the increase in
pre-tax income.
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
Managed assets were $12.50 billion at September 30, 1999 compared to $10.56
billion at December 31, 1998. Included in managed assets at September 30, 1999
were $11.97 billion in funds employed (including $313.8 million of financing
contracts held for sale generated by FRC), $423.7 million of securitized assets
managed by FINOVA and $106.9 million of participations sold to third parties.
The increase in managed assets was due to funded new business of $3.43 billion
for the nine months ended September 30, 1999, compared to $2.74 billion for the
nine months ended September 30, 1998, plus $486 million of assets acquired in
the first quarter of 1999, partially offset by prepayments and asset sales
accompanied by normal portfolio amortization.
The reserve for credit losses increased to $248.3 million at September 30,
1999 from $207.6 million at December 31, 1998. At September 30, 1999, the
reserve for credit losses represented 2.1% of ending managed assets (excluding
participations and financing contracts held for sale) compared to 2.0% at
year-end. Nonaccruing assets increased to $285.5 million or 2.3% of ending
11
<PAGE>
managed assets (excluding participations) at September 30, 1999 from $249.6
million or 2.1% at June 30, 1999 and from $205.2 million or 2.0% at the end of
1998. Nonaccruing assets increased due to the acquisition of Sirrom Capital
Corporation in the first quarter of 1999, and due to the transition of FINOVA's
$33 million share of a large syndicated credit facility held by the Healthcare
Finance line of business to nonaccruing status in the third quarter of 1999.
At September 30, 1999, FINOVA had $10.29 billion of debt outstanding,
representing 6.04 times the Company's equity base of $1.70 billion (including
$111.6 million of convertible preferred securities). Included in debt at
September 30, 1999 was approximately $4.34 billion of commercial paper and
short-term borrowings supported by unused long-term revolving-credit agreements.
At year-end 1998, FINOVA's debt was 6.56 times the equity base of $1.28 billion.
The reduction in the Company's leverage was primarily the result of adding $343
million of equity in conjunction with the Sirrom acquisition partially offset by
the repurchase of 1.8 million shares of FINOVA common stock which reduced
outstanding equity by $89.3 million during the first nine months of 1999.
Growth in funds employed is financed by FINOVA's internally generated funds
and new borrowings. During the nine months ended September 30, 1999, FINOVA
issued $1.79 billion of new long-term borrowings and recognized a net increase
in commercial paper outstanding of $592.2 million. During the same period,
FINOVA repaid $591.8 million of long-term borrowings.
FINOVA repurchased 1,815,000 shares of its common stock during the first
nine months of 1999. These shares are intended to fund awards under FINOVA's
stock incentive plan or for other uses approved by the Company's Board or its
Executive Committee.
SEGMENT REPORTING
FINOVA's business is organized into three market groups, which are also its
reportable segments: Commercial Finance, Specialty Finance and Capital Markets.
Management principally relies on total revenue, income before allocations and
managed assets in evaluating the business performance of each reportable
segment.
Total revenue is the sum of operating margin and gains on disposal of
assets. Income before allocations is income before income taxes, preferred
dividends, corporate overhead expenses and the unallocated portion of the
provision for credit losses. Managed assets include each segment's investment in
financing transactions plus securitizations and participations sold.
COMMERCIAL FINANCE. Commercial Finance includes traditional asset-based
businesses that provide financing through revolving credit facilities and term
loans secured by assets such as receivables and inventories, as well as
providing factoring and management services.
Total net revenue was $160.0 million in 1999 compared to $138.2 for the
first nine months of 1998, an increase of 15.7%. The increase was primarily due
to a 20.5% increase in managed assets over the first nine months of 1998,
partially offset by the effects of competitive pressures on pricing in the
asset-based lending businesses, a decrease in fee-based volume and a 21 basis
point reduction in the average rate earned on that volume. Fee-based volume
decreased for the segment to $3.15 billion in 1999 from $3.30 billion in the
first nine months of 1998.
Income before allocations increased 28.6% to $70.1 million in 1999 compared
to $54.6 million in the first nine months of 1998. In addition to portfolio
growth, the increase resulted from lower net write-offs in 1999 in the
Commercial Services line of business ($4.4 million in 1999 vs. $21.0 million in
the first nine months of 1998), partially offset by higher net write-offs in
Corporate Finance ($17.1 million in 1999 vs. $4.4 million in the first nine
months of 1998).
Managed assets grew to $3.53 billion in the first nine months of 1999 from
$2.93 billion in the same period in 1998, primarily due to increases in
Rediscount Finance and Corporate Finance. The addition of Growth Finance, which
12
<PAGE>
is composed of two small acquisitions, also added to the growth in managed
assets at September 30, 1999. New business in Commercial Finance for the first
nine months of 1999 was $874.5 million compared to $592.5 million for the first
nine months of 1998.
SPECIALTY FINANCE. Specialty Finance provides a wide variety of lending
products such as leases, loans, accounts receivable and cash flow based
financing, as well as servicing and collection services to a number of highly
focused industry specific niches.
Total net revenue increased to $278.3 million in the first nine months of
1999, compared to $254.6 million in the same period of 1998. The increase in
revenue was attributable to 18.3% growth in managed assets, partially offset by
the effects of a one-time revenue enhancement recorded in 1998 from the
refinancing of non-recourse debt in a real estate leveraged lease.
Income before allocations increased to $223.6 million for the nine months
ended September 30, 1999 from $204.6 million for the same period in 1998. The
increase in income was primarily due to the growth in total net revenue over the
nine months ended September 30, 1998.
Managed assets grew to $7.84 billion in the first nine months of 1999 from
$6.63 billion in the same period of 1998, an increase of 18.3%. The growth in
managed assets was driven by new business originations (leases and loans) of
$2.36 billion during the 1999 period, compared to $2.09 billion in 1998, and by
a $129 million decrease in prepayments and asset sales in 1999 compared to the
same period in 1998.
CAPITAL MARKETS. Capital Markets, in conjunction with institutional
investors, provides commercial mortgage banking services and debt and equity
capital funding. Mezzanine Capital (formerly Sirrom Capital Corporation) was
added to this segment late in the first quarter of 1999.
Total net revenue increased to $67.1 million in the nine months ended
September 30, 1999 from $9.9 million in the same period of 1998. The increase
was primarily due to the acquisition of Mezzanine Capital and to the recognition
of $11.8 million in gains on sales of CMBS loans by Realty Capital in the 1999
period, compared to $13 million in losses in the same period of 1998. The
increase was partially offset by lower volume-based fees for Realty Capital in
1999 due to an increased percentage of structured finance (brokered) deals with
lower commission rates.
Income before allocations was $19.8 million in the first nine months of
1999 compared to a loss of $10.2 million in the first nine months of 1998. The
increase in income was primarily due to higher total net revenue in the first
nine months of 1999, partially offset by higher operating expenses due to the
acquisition of Mezzanine Capital in the first quarter of 1999.
Managed assets increased to $1.04 billion at September 30, 1999 from $293.9
million at September 30, 1998. The acquisition of Mezzanine Capital added $469
million of managed assets to the segment. The remaining increase was principally
due to additional fundings of Realty Capital's held-to-maturity portfolio and
continued origination of CMBS loans.
YEAR 2000 COMPLIANCE
FINOVA continues to implement changes necessary to help assure accurate
date recognition and data processing with respect to the year 2000. To be year
2000 compliant means (1) significant information technology ("IT") systems in
use by FINOVA demonstrate performance and functionality that is not materially
affected by processing dates on or after January 1, 2000, (2) customers and
collateral included in FINOVA's portfolio of business are year 2000 compliant
and (3) vendors of services critical to FINOVA's business processes are year
2000 compliant.
13
<PAGE>
FINOVA's non-IT systems used to conduct business at its facilities consist
primarily of office equipment (other than computer and communications equipment)
and other equipment at leased office facilities. FINOVA has inventoried its
non-IT systems and has sent year 2000 questionnaires to office equipment vendors
and landlords to determine the status of their year 2000 readiness.
Primary internal activities related to this issue are modifications to
existing computer programs and conversions to new programs. FINOVA has a
five-phase plan for assuring year 2000 compliance of its internal systems:
1) Identifying each area, function and application that could be affected by
the change in date.
2) Determining the extent to which each area, function or application will be
affected by the change in date and identifying the proper course of action
to eliminate adverse effects.
3) Making the changes necessary to bring the system into year 2000 compliance.
4) Testing the integrated system.
5) Switching to year 2000 compliant applications.
As of September 30, 1999, FINOVA has completed all the necessary changes to
make mission critical applications year 2000 compliant. FINOVA intends to
promptly address year 2000 issues for any acquisitions consummated after this
filing. Where appropriate, new acquisitions will be migrated to existing FINOVA
applications that are already year 2000 ready.
Costs incurred to bring FINOVA's internal systems into year 2000 compliance
are not expected to have a material impact on FINOVA's results of operations.
Maintenance and modification costs are expensed as incurred, while the costs of
new hardware and software are capitalized and amortized over their estimated
useful lives. As of September 30, 1999, FINOVA has incurred expenses of $207,000
and capital costs of $1.7 million related to year 2000 compliance efforts.
FINOVA estimates that 90% of anticipated costs have been recognized but will
continue to review and revise these figures as necessary on a quarterly basis.
FINOVA's aggregate cost estimate does not include time and costs that may
be incurred as a result of the failure of any third parties to become year 2000
compliant. FINOVA is communicating with customers, software vendors and others
to determine if their applications or services are year 2000 compliant and to
assess the potential impact on FINOVA related to this issue.
Risks to FINOVA include that third parties may not have accurately assessed
their state of readiness. Similarly, FINOVA cannot assure that the systems of
other companies and government agencies on which FINOVA relies will be converted
in a timely manner. While FINOVA believes all necessary work on internal systems
has been completed, there can be no guarantee that all systems will be compliant
by the year 2000.
FINOVA routinely assesses the year 2000 compliance status of its borrowers
and generally requires that they provide representations and warranties
regarding their status. FINOVA also attempts to monitor their progress with
questionnaires and other means.
While FINOVA believes it has been diligent in its efforts to reasonably
ensure its customers' and service providers' year 2000 compliance, it is
possible under a worst case scenario for a number of its borrowers and service
providers to not be capable of fully performing their contractual obligations to
FINOVA. The financial impact of this worst case scenario cannot reliably be
determined.
14
<PAGE>
FINOVA is developing contingency plans for the change in century by
reviewing departmental needs and establishing procedures to operate manually in
the event of a system failure. Existing Business Resumption Plans are expected
to be updated by the end of November to address year 2000 issues as well as
various other potential business interruptions. Vacation schedules and holiday
schedules are being adjusted to help assure that sufficient staffing is
available to address material problems. Critical support relationships will be
contacted to help assure that they will be capable of servicing material issues
that should arise in a prompt manner. There can be no assurance, however, that
trained technical support personnel will be available at that time, as demand
for their services could grow considerably.
RECENT DEVELOPMENTS AND BUSINESS OUTLOOK
FINOVA continues to seek new business by emphasizing customer service,
providing competitive interest rates and focusing on selected market niches.
Additionally, FINOVA continues to evaluate potential acquisition opportunities
it believes are consistent with its business strategies.
NEW ACCOUNTING STANDARDS
In June 1999, the FASB issued SFAS No. 137, "Accounting for Derivatives and
Hedging Activities - Deferral of the Effective Date of FASB Statement No. 133,"
("SFAS No. 137"). This statement defers the effective date of SFAS No. 133 to
all fiscal quarters of all fiscal years beginning after June 15, 2000. SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities," ("SFAS No.
133") standardizes the accounting for derivative instruments, including certain
derivative instruments embedded in other contracts, by recognition of those
items as assets or liabilities in the statement of financial position and
measurement at fair value. The impact of SFAS No. 133 on the Company's financial
position and results of operations has not yet been determined.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There were no material changes from the information provided in the report
on Form 10-K/A, Amendment No. 2 for the year ended December 31, 1998.
15
<PAGE>
PART II OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) The following exhibits are filed herewith:
Exhibit No. Document
----------- --------
12 Computation of Ratio of Income to Fixed Charges
and Preferred Stock Dividends (interim period).
27 Financial Data Schedule
(b) Reports on Form 8-K:
A report on Form 8-K, dated October 15, 1999 was filed by Registrant which
reported under Items 5 and 7 the revenues, net income and selected financial
data and ratios for the third quarter ended September 30, 1999 (unaudited).
16
<PAGE>
THE FINOVA GROUP INC.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
THE FINOVA GROUP INC.
(Registrant)
Dated: November 15, 1999 By: /s/ Bruno A. Marszowski
------------------------------------
Bruno A. Marszowski, Senior Vice
President, Chief Financial Officer
and Controller Principal Financial
and Accounting Officer
17
<PAGE>
THE FINOVA GROUP INC.
COMMISSION FILE NUMBER 1-11011
EXHIBIT INDEX
SEPTEMBER 30, 1999 FORM 10-Q
Exhibit No. Document
----------- --------
12 Computation of Ratio of Income to Fixed Charges
and Preferred Stock Dividends (interim period).
27 Financial Data Schedule
EXHIBIT 12
THE FINOVA GROUP INC
COMPUTATION OF RATIO OF INCOME TO FIXED CHARGES
AND PREFERRED STOCK DIVIDENDS
(Dollars in Thousands, except per share data)
Nine Months Ended
September 30,
--------------------
1998
1999 restated
-------- --------
Income before income taxes and preferred dividends $262,688 $203,505
Add fixed charges:
Interest expense 420,478 346,909
One-third rentals 3,516 2,786
-------- --------
Total fixed charges 423,994 349,695
-------- --------
Income as adjusted $686,682 $553,200
-------- --------
Ratio of income to fixed charges 1.62 1.58
======== ========
Preferred stock dividends on a pre-tax basis $ 4,744 $ 4,744
Total fixed charges and preferred stock dividends $428,738 $354,439
-------- --------
Ratio of income to fixed charges and preferred stock
dividends 1.60 1.56
======== ========
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