================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
[ ] 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 1-08916
Green Tree Financial Corporation
Delaware No. 41-1807858
---------------------- -------------------------------
State of Incorporation IRS Employer Identification No.
1100 Landmark Towers
Saint Paul, Minnesota 55102-1639 (612) 293-3400
- -------------------------------------- --------------
Address of principal executive offices Telephone
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days: Yes [ X ] No [ ]
Shares of common stock outstanding as of October 31, 1998: 100
This filing meets the conditions set forth in general instruction H(1)(a)
and H(1)(b) to Form 10-Q. Accordingly, the disclosures in this filing have been
reduced as permitted by such instructions.
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<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
<TABLE>
<CAPTION>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(Dollars in millions)
ASSETS
September 30, December 31,
1998 1997
---- ----
(unaudited)
<S> <C> <C>
Actively managed fixed maturity securities at fair value (amortized cost: 1998 - $122.1)...... $ 127.1 $ -
Interest-only securities at fair value (amortized cost: 1998 - $1,111.9; 1997 - $1,330.6)..... 1,103.8 1,365.8
Short-term investments........................................................................ 120.9 188.6
Cash held in segregated accounts for investors................................................ 723.8 552.8
Cash deposits, restricted under pooling and servicing agreements.............................. 250.9 247.2
Other invested assets ........................................................................ 22.7 25.3
Finance receivables........................................................................... 3,302.8 1,971.0
Other receivables............................................................................. 285.1 308.4
Servicing rights.............................................................................. 109.5 77.0
Property and equipment (net of accumulated depreciation: 1998 - $96.6; 1997 - $70.1).......... 145.0 112.4
Goodwill (net of accumulated amortization: 1998 - $5.4; 1997 - $3.2).......................... 53.9 56.1
Other assets.................................................................................. 18.8 14.9
-------- --------
Total assets.......................................................................... $6,264.3 $4,919.5
======== ========
LIABILITIES AND SHAREHOLDER'S EQUITY
Liabilities:
Investor payables.......................................................................... $ 723.8 $ 552.8
Other liabilities.......................................................................... 860.1 548.8
Income tax liabilities..................................................................... 535.0 622.8
Notes payable and commercial paper......................................................... 1,215.4 1,863.0
Notes payable due to Conseco, Inc.......................................................... 786.0 -
-------- --------
Total liabilities.................................................................... 4,120.3 3,587.4
-------- --------
Shareholder's equity:
Common stock and additional paid-in capital................................................ 1,325.6 237.8
Accumulated other comprehensive income (loss):
Unrealized appreciation (depreciation) of actively managed fixed maturity securities and
interest-only securities (net of applicable deferred income taxes: 1998 - $(1.2);
1997 - $13.4).......................................................................... (1.9) 21.8
Minimum pension liability adjustment (net of applicable deferred income taxes:
1998 - $(1.9); 1997 - $(1.9)).......................................................... (3.2) (3.2)
Retained earnings.......................................................................... 823.5 1,075.7
-------- --------
Total shareholder's equity........................................................... 2,144.0 1,332.1
-------- --------
Total liabilities and shareholder's equity........................................... $6,264.3 $4,919.5
======== ========
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
2
<PAGE>
<TABLE>
<CAPTION>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS
(Dollars in millions)
(unaudited)
Three months ended Nine months ended
September 30, September 30,
------------------ ------------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenues:
Net investment income:
Interest-only securities.............................................. $ 34.2 $ 32.7 $ 103.8 $ 88.9
Finance receivables and other......................................... 59.2 54.6 175.8 141.4
Gain on sale of finance receivables..................................... 257.9 213.3 543.8 572.2
Servicing income........................................................ 35.6 30.1 102.6 83.2
Commission and other income............................................. 30.9 17.6 84.6 46.9
------ ------ -------- ------
Total revenues.................................................... 417.8 348.3 1,010.6 932.6
------ ------ -------- ------
Expenses:
Interest expense........................................................ 56.6 45.2 160.3 111.4
Cost of servicing....................................................... 29.0 20.9 84.1 61.1
General and administrative expenses..................................... 139.4 90.5 369.8 246.0
Nonrecurring charges.................................................... - - 648.0 -
------ ------ -------- ------
Total expenses.................................................... 225.0 156.6 1,262.2 418.5
------ ------ -------- ------
Income (loss) before income taxes and extraordinary charge........ 192.8 191.7 (251.6) 514.1
Income tax expense (benefit)............................................... 73.1 72.9 (34.4) 195.4
------ ------ -------- ------
Income (loss) before extraordinary charge......................... 119.7 118.8 (217.2) 318.7
Extraordinary charge on extinguishment of debt, net of taxes............... 9.0 - 11.5 -
------ ------ -------- ------
Net income (loss)................................................. $110.7 $118.8 $ (228.7) $318.7
====== ====== ======== ======
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
3
<PAGE>
<TABLE>
<CAPTION>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDER'S EQUITY
(Dollars in millions)
(unaudited)
Common stock Accumulated other
and additional comprehensive Retained
Total paid-in capital income (loss) earnings
----- --------------- --------------- --------
<S> <C> <C> <C> <C>
Balance, January 1, 1998...................................... $1,332.1 $ 237.8 $ 18.6 $1,075.7
Comprehensive loss, net of tax:
Net loss................................................. (228.7) - - (228.7)
Change in unrealized appreciation of actively managed
fixed maturity investments and interest-only securities
(net of applicable income tax benefit of $14.6)........ (23.7) - (23.7) -
--------
Total comprehensive loss............................. (252.4)
Capital contribution from parent........................... 1,100.0 1,100.0 - -
Issuance of stock warrants in conjunction with
financing transaction.................................... 7.7 7.7 - -
Issuance of shares for stock options and for
employee benefit plans................................... 1.7 1.7 - -
Tax benefit related to issuance of shares under
stock option plans....................................... 1.8 1.8 - -
Shares returned by executive due to recomputation of bonus. (23.4) (23.4) - -
Dividends on common stock.................................. (23.5) - - (23.5)
-------- -------- ------- --------
Balance, September 30, 1998................................... $2,144.0 $1,325.6 $ (5.1) $ 823.5
======== ======== ======= ========
Balance, January 1, 1997...................................... $1,137.5 $ 321.1 $ (2.3) $ 818.7
Comprehensive income, net of tax:
Net income............................................... 318.7 - - 318.7
Change in unrealized depreciation of interest-only
securities (net of applicable income tax benefit of
65.0).................................................. (106.1) - (106.1) -
--------
Total comprehensive income........................... 212.6
Issuance of shares for stock options and for
employee benefit plans................................... 54.2 54.2 - -
Tax benefit related to issuance of shares under stock
option plans............................................. 4.3 4.3 - -
Cost of shares acquired.................................... (105.7) (105.7) - -
Dividends on common stock.................................. (32.5) - - (32.5)
-------- -------- ------- --------
Balance, September 30, 1997................................... $1,270.4 $ 273.9 $(108.4) $1,104.9
======== ======== ======= ========
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
4
<PAGE>
<TABLE>
<CAPTION>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(Dollars in millions)
(unaudited)
Nine months ended
September 30,
-----------------------
1998 1997
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net income (loss)........................................................................ $ (228.7) $ 318.7
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Gain on sale of finance receivables.................................................... (543.8) (572.2)
Points and origination fees received upon sale of finance receivables.................. 199.9 119.4
Investment income on interest-only securities.......................................... (103.8) (88.9)
Cash received from interest-only securities............................................ 250.4 224.4
Servicing income....................................................................... (102.6) (83.2)
Cash received for servicing............................................................ 118.0 93.6
Net increase in restricted cash deposits............................................... (3.7) (24.8)
Amortization and depreciation.......................................................... 32.3 22.9
Income taxes........................................................................... (71.4) 159.8
Accrual and amortization of investment income.......................................... (9.3) (2.8)
Nonrecurring charges................................................................... 629.5 -
Extraordinary charge on extinguishment of debt......................................... 18.6 -
Other.................................................................................. 44.5 37.0
---------- ----------
Net cash provided by operating activities............................................ 229.9 203.9
----------- ----------
Cash flows from investing activities:
Cash received from the sale of finance receivables, net of expenses...................... 9,481.4 7,317.5
Principal payments received on finance receivables....................................... 4,361.8 2,765.4
Finance receivables originated........................................................... (15,174.2) (11,018.5)
Other.................................................................................... (181.5) (52.8)
---------- ----------
Net cash used by investing activities ............................................... (1,512.5) (988.4)
---------- ----------
Cash flows from financing activities:
Capital contribution from parent......................................................... 1,100.0 -
Issuance of shares related to stock options and employee benefit plans ................. 1.7 3.5
Issuance of notes payable and commercial paper........................................... 9,199.2 7,622.6
Payments on notes payable and commercial paper........................................... (9,062.5) (6,540.1)
Payments to repurchase equity securities................................................. - (105.8)
Dividends paid .......................................................................... (23.5) (32.5)
---------- ----------
Net cash provided by financing activities............................................ 1,214.9 947.7
---------- ----------
Net increase (decrease) in short-term investments.................................... (67.7) 163.2
Short-term investments, beginning of period................................................. 188.6 95.8
---------- ----------
Short-term investments, end of period....................................................... $ 120.9 $ 259.0
========== ==========
</TABLE>
The accompanying notes are an integral part of the
consolidated financial statements.
5
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
The following notes should be read in conjunction with the notes to the
consolidated financial statements included in the 1997 Form 10-K of Green Tree
Financial Corporation ("We", "Green Tree" or the "Company").
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The unaudited consolidated financial statements reflect all adjustments,
consisting only of normal recurring items, which are necessary to present fairly
Green Tree's financial position and results of operations on a basis consistent
with that of our prior audited consolidated financial statements. Pursuant to
rules and regulations of the Securities and Exchange Commission applicable to
quarterly reports on Form 10-Q, certain information and disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles ("GAAP") have been condensed or omitted. Results for
interim periods are not necessarily indicative of the results that may be
expected for a full year. We have reclassified certain amounts from the prior
periods to conform to the 1998 presentation.
The following summary explains the accounting policies we use to arrive at
the more significant numbers in our financial statements. We prepare our
financial statements in accordance with GAAP. We follow the accounting standards
established by the Financial Accounting Standards Board, the American Institute
of Certified Public Accountants and the Securities and Exchange Commission.
Green Tree is a wholly owned subsidiary of Conseco, Inc. ("Conseco"), a
financial services holding company. Green Tree originates, purchases, sells and
services consumer and commercial finance loans throughout the United States.
In preparing financial statements in conformity with GAAP, we are required
to make estimates and assumptions that significantly affect various reported
amounts of assets and liabilities and the disclosure of contingent assets and
liabilities at the date of the financial statements and revenues and expenses
during the reporting periods. For example, we use significant estimates and
assumptions in calculating interest-only securities, servicing rights, goodwill,
liabilities related to litigation, gain on sale of finance receivables and
deferred income taxes. If our future experience differs materially from these
estimates and assumptions, our financial statements could be affected.
Our financial statements do not include the results of material
transactions between us and our consolidated affiliates, or among our
consolidated affiliates.
Actively Managed Fixed Maturity Securities
We classify our investments in fixed maturity securities as actively
managed which are carried at estimated fair value. Such securities represent the
interests we retain in loan securitizations, other than interest-only securities
and servicing rights. Adjustments to carry actively managed fixed maturity
securities at fair value have no effect on our earnings. We record them, net of
tax, to shareholder's equity.
Interest-only Securities
Interest-only securities represent the right to receive certain cash flows
which exceed the amount of cash flows of the other securities offered in our
securitized receivable sales. Such cash flows generally are equal to the value
of the interest to be collected on the underlying financial contracts of each
securitization in excess of the sum of the interest to be paid on the securities
sold, contractual servicing fees and credit losses. We carry interest-only
securities at estimated fair value. We determine fair value by discounting the
projected cash flows over the expected life of the receivables sold using
current prepayment, default, loss and interest rate assumptions. We record any
unrealized gain or loss determined to be temporary, net of tax, as a component
of shareholder's equity. See "Interest-only Securities, Finance Receivables and
Servicing Rights" for additional discussion of gain on sale of finance
receivables and interest-only securities.
6
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
Short-term Investments
Short-term investments include invested cash and other investments
purchased with maturities of less than three months. We carry them at amortized
cost, which approximates their estimated fair value. We consider all short-term
investments to be cash equivalents.
Finance Receivables
Finance receivables consist of manufactured housing, home equity, home
improvement, consumer and equipment loans, lease, commercial finance and
revolving credit receivables. We carry our lease receivables (which are direct
financing leases as defined in Statement of Financial Accounting Standards No.
13 "Accounting for Leases") at the present value of the future minimum lease
payments and related residual values. We carry other finance receivables and
revolving credit receivables at amortized cost. Finance receivables are net of
allowance for expected losses and deferred loan fees. The estimated fair value
of our finance receivables exceeds amortized cost.
We defer fees received or costs incurred when we originate finance
receivables. We amortize fees, costs, discounts and premiums over the
contractual lives of the receivables, with consideration to anticipated
prepayments. Such deferred fees or costs are included in the cost of finance
receivables when receivables are sold. See "Interest-only Securities, Finance
Receivables and Servicing Rights" for a discussion of the sale of finance
receivables.
Servicing Rights
We generally retain the right to service loans we originate or purchase and
subsequently sell through securitizations. Fees for servicing loans are based on
a stipulated percentage of the unpaid principal balance of the loans. We
recognize a servicing asset when we sell our loans, equal to the present value
of the expected future net servicing revenue using current prepayment, default,
loss and interest rate assumptions. We amortize servicing rights in proportion
to total projected net servicing income. We periodically assess our servicing
rights for impairment based on the fair value of such rights. An impairment is
recognized in the statement of operations during the period in which the
impairment occurs as an adjustment to the corresponding valuation allowance. See
"Interest-only Securities, Finance Receivables and Servicing Rights" for a
discussion of the sale of finance receivables.
Property and Equipment
We carry property and equipment at depreciated cost. We depreciate property
and equipment on a straight-line basis over the estimated useful lives of the
assets, which average approximately 10 years. Our depreciation expense was $29.4
million and $16.6 million for the nine months ended September 30, 1998 and 1997,
respectively.
Goodwill
Goodwill is the excess of the amount we paid to acquire a company accounted
for as a purchase over the fair value of its net assets. We amortize goodwill on
the straight-line basis over a 20-year period. We continually monitor the value
of our goodwill based on our estimates of future earnings. We determine whether
goodwill is fully recoverable from projected undiscounted net cash flows from
earnings of the acquired company over the remaining amortization period. If we
were to determine that changes in such projected cash flows no longer support
the recoverability of goodwill over the remaining amortization period, we would
reduce its carrying value with a corresponding charge to expense or shorten the
amortization period (no such changes have occurred). Cash flows considered in
such an analysis are those of the business acquired.
Income Taxes
Our income tax expense includes deferred income taxes arising from
temporary differences between the tax and financial reporting bases of assets
and liabilities. This liability method of accounting for income taxes also
requires us to reflect in income the effect of a tax-rate change on accumulated
deferred income taxes in the period in which the change is enacted.
7
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
In assessing the realization of deferred income tax assets, we consider
whether it is more likely than not that the deferred income tax assets will be
realized. The ultimate realization of deferred income tax assets depends upon
generating future taxable income during the periods in which temporary
differences become deductible. If future income is not generated as expected,
deferred income tax assets may need to be written off.
Comprehensive Income
We adopted Statement of Financial Accounting Standards No. 130 "Reporting
Comprehensive Income" ("SFAS 130") on January 1, 1998. SFAS 130 establishes
standards for reporting and presentation of comprehensive income and its
components in financial statements. Comprehensive income includes all changes in
shareholder's equity (except those arising from transactions with shareholders).
The new standard only requires additional disclosures; it does not affect the
Company's financial position or results of operations.
Recently Issued Accounting Standards
Statement of Financial Accounting Standards No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits" ("SFAS 132") was
issued in February 1998 and revises current disclosure requirements for
employers' pensions and other retiree benefits. SFAS 132 will have no effect on
our financial position or results of operations. SFAS 132 is effective for our
December 31, 1998 financial statements.
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS 133") was issued in June
1998. SFAS 133 requires all derivative instruments to be recorded on the balance
sheet at estimated fair value. Changes in the fair value of derivative
instruments are recorded each period in current earnings or other comprehensive
income, depending on whether a derivative is designated as part of a hedge
transaction and, if it is, the type of hedge transaction. Management anticipates
that, due to its limited use of derivative instruments, the adoption of SFAS 133
will not have a significant effect on the Company's results of operations or
financial position.
MERGER WITH CONSECO, INC.
On June 30, 1998, Conseco completed a merger with Green Tree (the "Green
Tree Merger"). Each outstanding share of Green Tree common stock was exchanged
for .9165 of a share of Conseco common stock. Conseco issued 128.7 million
shares of its common stock (including 5.0 million common equivalent shares
issued in exchange for Green Tree's outstanding options). The Green Tree Merger
constituted a tax-free exchange. As a result of the Green Tree Merger, we
recorded merger-related costs of $108 million, net of income taxes, in the
second quarter of 1998. Such costs include investment banking, accounting, legal
and regulatory fees, severance costs and other costs associated with the Green
Tree Merger.
Conseco has contributed $1.1 billion of additional capital to Green Tree in
the second and third quarters of 1998. In addition, Conseco has loaned Green
Tree $786 million under a demand note (See "Related Party Transactions"). Such
amounts were used to increase Green Tree's working capital and repay debt.
FINANCE RECEIVABLES, INTEREST-ONLY SECURITIES AND SERVICING RIGHTS
Finance receivables, summarized by type, were as follows:
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
---- ----
(Dollars in millions)
<S> <C> <C>
Manufactured housing and consumer finance.................................... $ 642.7 $ 324.1
Mortgage and retail services................................................. 1,661.1 734.9
Commercial................................................................... 1,032.8 931.8
-------- --------
3,336.6 1,990.8
Less allowance for doubtful accounts......................................... (33.8) (19.8)
-------- --------
Net finance receivables................................................. $3,302.8 $1,971.0
======== ========
</TABLE>
8
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
We pool and securitize substantially all of the finance receivables we
originate, retaining: (i) investments in interest-only securities that are
subordinated to the rights of other investors; (ii) servicing on the contracts;
and (iii) in some securitizations, certain securities that are senior to the
interest-only securities. In a typical securitization, we sell finance
receivables to a special purpose entity, established for the limited purpose of
purchasing the finance receivables and selling securities representing interests
in the receivables. The special purpose entity issues interest-bearing
securities that are collateralized by the underlying pool of finance
receivables. We receive the proceeds from the sale of the securities in exchange
for the finance receivables. The securities are typically sold at the same
amount as the principal balance of the receivables sold. We retain a residual
interest representing the right to receive, over the life of the pool of finance
receivables, the excess of the principal and interest received on the
receivables transferred to the trust over the principal and interest paid to the
holders of other interests in the securitization and servicing fees. In some
securitizations, we also retain certain lower rated securities which are senior
in payment priority to the interest-only securities. These securities had a fair
market value of $127.1 million at September 30, 1998, and are classified as
actively managed fixed maturity securities. We retained these securities because
at current market prices, we concluded we would rather own them than sell them.
We intend to hold these securities for investment purposes, but may sell them if
their market values return to levels we consider appropriate. We may also retain
additional securities in future securitizations based on current market values
for lower rated tranches.
We recognize a gain on the sale of finance receivables equal to the
difference between the proceeds from the sale, net of related transaction costs,
and the allocated carrying amount of the receivables sold. We allocate the
carrying amount of finance receivables between the assets sold and retained
based on their relative fair values at the date of sale. The estimated fair
value of the retained assets (securities classified as fixed maturities,
interest-only securities and servicing rights) is determined by discounting
their projected future cash flows using current prepayment, default, loss,
servicing cost and discount rate assumptions. Since no gain is recognized on the
securities we retain, our decision to retain additional securities in some
securitizations (as described in the preceding paragraph) will reduce the gain
recognized in the current period. However, investment income will increase in
future periods, or we may recognize additional gains if we decide to sell the
securities. In conjunction with certain sales of financial receivables, the
Company has provided guarantees of approximately $1.9 billion at September 30,
1998. The Company believes a significant loss from such guarantees is remote.
On a quarterly basis, we determine the estimated fair value of our
interest-only securities based on discounted projected future cash flows using
current assumptions. Differences between the estimated fair value and carrying
value of interest-only securities considered to be temporary are recognized as
adjustments to shareholder's equity. Declines in value are considered to be
other than temporary when the present value of estimated future cash flows
discounted at a risk free rate using current assumptions is less than the
carrying value of the interest-only securities. When declines in value
considered to be other than temporary occur, we reduce the carrying value to
estimated fair value and recognize a loss in the statement of operations.
During the first quarter of 1998, prepayments on loan contracts exceeded
expectations, and as a result, a $29.1 million reduction in the carrying value
of our interest-only securities (net of income taxes of $17.9 million) was
realized. During the second quarter of 1998, prepayments on loan contracts
continued to exceed expectations and management believed that such prepayments
might be higher than expected in future periods as well. In addition, the market
yields of publicly traded securities that are similar to our interest-only
securities increased during the second quarter, decreasing the market value of
such investments. As a result of these developments, we concluded that an
impairment in the value of the interest-only securities and servicing rights had
occurred, and a new value was determined using the current assumptions. The new
assumptions (which are summarized below) reflect the following changes from the
assumptions previously used: (i) an increase in prepayment rates; (ii) an
increase in the discount rate used to determine the present value of future cash
flows to 15 percent from 11 percent; and (iii) an increase in anticipated future
rates of default. A $350 million nonrecurring charge to reduce the value of
interest-only securities and servicing rights (net of income taxes of $190
million) was recognized in the second quarter of 1998.
9
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
The following summarizes assumptions used to determine the estimated fair
value of interest-only securities as of September 30, 1998:
<TABLE>
<CAPTION>
Manufactured Home equity/ Consumer/
housing home improvement equipment Total
------- ---------------- --------- -----
(Dollars in millions)
<S> <C> <C> <C> <C>
Interest-only securities............................ $ 537.7 $ 373.0 $ 193.1 $ 1,103.8
Principal balance of sold finance receivables (1)... 19,702.4 5,737.9 3,818.3 29,258.6
Weighted average customer interest rate on sold
finance receivables (1).......................... 10.26% 11.45% 10.99%
Expected weighted average annual constant
prepayment rate as a percentage of principal
balance of sold finance receivables (1) (2)...... 12.00% 24.00% 22.00%
Expected nondiscounted credit losses as a
percentage of principal balance of sold
finance receivables (1) (2)...................... 6.00% 4.17% 2.00%
Weighted average discount rate (1).................. 15.00% 15.00% 15.00%
<FN>
- -------------------
(1) Excludes finance receivables sold in revolving trust securitizations.
(2) The valuation of interest-only securities is affected not only by the
projected level of prepayments of principal and net credit losses, as shown
above, but also by the projected timing of such prepayments and net credit
losses. Should the timing of projected prepayments of principal or net
credit losses differ materially from the timing projected by the Company,
such timing could have a material effect on the valuation of the
interest-only securities.
</FN>
</TABLE>
The following summarizes information with respect to the 60-days-and-over
contractual dollar delinquencies, loss experience and repossessed collateral
experience of our managed finance receivables:
<TABLE>
<CAPTION>
September 30,
---------------------
1998 1997
---- ----
<S> <C> <C>
60-days-and-over delinquencies as a percentage of managed finance
receivables at period end............................................... 1.10% 1.03%
==== ====
Net credit losses incurred during the last twelve months as a percentage of
average managed finance receivables during the period................... 1.06% .99%
==== ====
Repossessed collateral as a percentage of managed finance receivables
at period end........................................................... 1.00% .89%
==== ====
</TABLE>
Activity in the interest-only securities account during the nine months
ended September 30, 1998 and 1997, is as follows:
<TABLE>
<CAPTION>
Nine months ended
September 30,
--------------------
1998 1997
---- ----
(Dollars in millions)
<S> <C> <C>
Balance, beginning of period................................................ $1,365.8 $ 983.5
Additions resulting from securitizations during the period............... 509.9 539.1
Investment income........................................................ 103.8 88.9
Cash received............................................................ (250.4) (224.4)
Reduction in carrying value as a result of adverse prepayment experience. (47.0) -
Nonrecurring charge to reduce carrying value............................. (535.0) -
Change in unrealized appreciation........................................ (43.3) (171.1)
-------- --------
Balance, end of period...................................................... $1,103.8 $1.216.0
======== ========
</TABLE>
10
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
During the nine months ended September 30, 1998 and 1997, the Company sold
$9.6 billion and $7.4 billion, respectively, of finance receivables in various
securitized transactions and recognized gains of $543.8 million and $572.2
million, respectively.
Servicing rights, retained subsequent to the sale of finance receivables,
are amortized, in proportion to, and over the estimated period of, net servicing
income.
The activity in the servicing rights account during the nine months ended
September 30, 1998 and 1997, is as follows:
<TABLE>
<CAPTION>
Nine months ended
September 30,
-------------------
1998 1997
---- ----
(Dollars in millions)
<S> <C> <C>
Balance, beginning of period............................................... $ 77.0 $30.8
Additions resulting from securitizations during the period.............. 52.9 58.7
Amortization............................................................ (15.4) (10.4)
Nonrecurring charge to establish a valuation allowance.................. (5.0) -
------ -----
Balance, end of period..................................................... $109.5 $79.1
====== =====
</TABLE>
Servicing rights are evaluated for impairment on an ongoing basis,
stratified by product type and origination period. To the extent the recorded
amount exceeds the fair value, a valuation allowance is established through a
charge to earnings. Upon subsequent measurement of the fair value of these
servicing rights in future periods, if the fair value equals or exceeds the
amortized cost, any previously recorded valuation allowance would be deemed
unnecessary and, therefore, restored to earnings.
NOTES PAYABLE AND COMMERCIAL PAPER
Notes payable and commercial paper were as follows:
<TABLE>
<CAPTION>
September 30, December 31,
Interest rate 1998 1997
------------- ---- ----
(Dollars in millions)
<S> <C> <C> <C>
Master repurchase agreements......................................... 6.13% $ 636.4 $ -
Credit facility secured by interest-only securities.................. 7.59 50.0 -
Bank debt............................................................ 6.00 25.0 35.0
Senior subordinated notes............................................ 10.25 267.3 267.3
Medium term notes.................................................... 6.58 238.7 246.6
Commercial paper..................................................... - - 1,319.1
Other................................................................ 2.0 3.2 1.9
-------- --------
Total principal amount............................................ 1,220.6 1,869.9
Less unamortized net discount........................................ (5.2) (6.9)
-------- --------
Total............................................................. $1,215.4 $1,863.0
======== ========
</TABLE>
We substantially restructured and repaid a portion of our bank debt during
1998. We recognized an extraordinary charge of $11.5 million (net of a $7.1
million tax benefit) as a result of the repayment, restructuring and
cancellation of a portion of our bank debt. In addition, during the third
quarter of 1998, the Company entered into a revolving promissory note payable
with Conseco as further described under "Related Party Transactions".
At September 30, 1998, we had $4.0 billion of master repurchase agreements
with various investment banking firms, subject to the availability of eligible
collateral. The master repurchase agreements generally provide for annual terms
which are extended
11
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
each quarter by mutual agreement of the parties for an additional annual term
based upon the review of updated quarterly financial information of the Company.
We entered into a new credit facility in February 1998, which provides for
a $700 million line of credit secured by our interest-only securities. The line
of credit matures on February 12, 2000, with an optional one year extension. In
addition, we issued warrants to purchase 2.5 million equivalent shares of
Conseco common stock at $24.8227 per share to the provider of the facility
subject to a maximum appreciation of $16.37 per equivalent share. The warrants
were exercised at the date of the Green Tree Merger.
The senior subordinated notes are due June 1, 2002. Interest on the notes
is payable semi-annually. Notes with a par value of $73.3 million are held by
Conseco.
The medium term notes are senior notes with either fixed or floating rates
of interest and with maturities in excess of nine months. Interest on these
notes is payable semi-annually.
During the fourth quarter of 1997 and the first quarter of 1998, the
Company's senior unsecured debt ratings were lowered by each of the credit
rating agencies which provide ratings on its debt. As a result of these actions,
we curtailed our issuance of commercial paper in favor of our master repurchase
agreements and bank credit line.
RELATED PARTY TRANSACTIONS
In the third quarter of 1998, the Company borrowed $786.0 million pursuant
to a promissory note with Conseco. The note bears interest at LIBOR plus a
margin of .35 percent (6.5 percent at September 30, 1998) and both the principal
and interest are due on demand. The Company may borrow up to $2.0 billion under
the note. Interest expense incurred under the note totaled $3.5 million, all of
which was unpaid at September 30, 1998.
The Company receives various services from Conseco. Fees for such services
are based on Conseco's direct and directly allocable costs plus a 10 percent
margin. Total fees incurred by the Company totaled $25.0 million, all of which
was unpaid at September 30, 1998.
LITIGATION
Green Tree has been served with various related lawsuits which were filed
in the United States District Court for the District of Minnesota. These
lawsuits were filed as purported class actions on behalf of persons or entities
who purchased common stock or options of Green Tree during the alleged class
periods that generally run from February 1995 to January 1998. One such action
did not include class action claims. In addition to Green Tree, certain current
and former officers and directors of Green Tree are named as defendants in one
or more of the lawsuits. Green Tree and other defendants have obtained an order
from the United States District Court for the District of Minnesota
consolidating the lawsuits seeking class action status into two sections: one
which pertains to a purported class of common stockholders and the other which
pertains to a purported class of stock option traders. Plaintiffs in the
lawsuits assert claims under Sections 10(b) and 20(a) of the Securities Exchange
Act of 1934. In each case, plaintiffs allege that Green Tree and the other
defendants violated federal securities laws by, among other things, making false
and misleading statements about the current state and future prospects of Green
Tree (particularly with respect to prepayment assumptions and performance of
certain loan portfolios of Green Tree) which allegedly rendered Green Tree's
financial statements false and misleading. The Company believes that the
lawsuits are without merit and intends to defend such lawsuits vigorously. Green
Tree has filed a motion to dismiss the lawsuits, which is pending.
The Company and its subsidiaries are involved on an ongoing basis in
lawsuits related to its operations. Although the ultimate outcome of certain of
such matters cannot be predicted, none of such lawsuits currently pending
against the Company or its subsidiaries is expected, individually or in the
aggregate, to have a material adverse effect on the Company's consolidated
financial condition, cash flows or results of operations.
12
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------
CONSOLIDATED STATEMENT OF CASH FLOWS
The following non-cash items were not reflected in the consolidated
statement of cash flows in 1998: (i) the return of common stock to the Company
of $23.4 million pursuant to the recomputation of an executive officer's bonus
for fiscal year 1996; and (ii) the tax benefit of $1.8 million related to the
issuance of common stock for option exercises. The following non-cash items were
not reflected in the consolidated statement of cash flows in 1997: (i) the tax
benefit of $4.3 million related to the issuance of common stock for option
exercises; and (ii) the issuance of common stock of $50.6 to an executive
officer of the Company.
13
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
--------------------
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
The following discussion highlights material factors affecting our results
of operations and significant changes in our balance sheet. This discussion
should be read in conjunction with the consolidated financial statements and
notes included herein and in the 1997 Form 10-K of Green Tree.
RESULTS OF OPERATIONS
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
-------------------- -------------------
1998 1997 1998 1997
---- ---- ---- ----
(Dollars in millions)
<S> <C> <C> <C> <C>
Contract originations:
Manufactured housing and consumer finance......................... $ 2,050.7 $ 1,889.5 $ 5,529.0 $ 4,880.9
Mortgage and retail services...................................... 1,701.4 1,134.9 4,656.4 2,813.5
Commercial........................................................ 1,950.3 1,477.8 5,310.7 3,628.0
--------- --------- --------- ---------
Total........................................................... $ 5,702.4 $ 4,502.2 $15,496.1 $11,322.4
========= ========= ========= =========
Sales of finance receivables:
Manufactured housing.............................................. $ 1,650.0 $ 1,600.0 $ 4,206.5 $ 3,970.0
Home equity/home improvement...................................... 1,399.9 761.7 2,979.0 2,028.6
Consumer/equipment................................................ 800.0 488.2 1,574.5 1,215.5
Leases............................................................ 291.2 - 291.2 -
Commercial and retail revolving credit............................ 34.7 224.4 523.0 224.4
--------- --------- --------- ---------
Total........................................................... $ 4,175.8 $ 3,074.3 $ 9,574.2 $ 7,438.5
========= ========= ========= =========
Managed receivables (average):
Manufactured housing and consumer finance......................... $21,797.8 $18,069.0 $20,755.9 $16,952.7
Mortgage and retail services...................................... 7,460.7 3,949.1 6,522.2 3,233.9
Commercial........................................................ 4,635.5 2,772.5 4,030.5 2,479.1
--------- --------- --------- ---------
Total........................................................... $33,894.0 $24,790.6 $31,308.6 $22,665.7
========= ========= ========= =========
Net investment income:
Interest-only securities.......................................... $ 34.2 $ 32.7 $ 103.8 $ 88.9
Finance receivables and other..................................... 59.2 54.6 175.8 141.4
Gain on sale of finance receivables.................................. 257.9 213.3 543.8 572.2
Servicing income..................................................... 35.6 30.1 102.6 83.2
Commission and other income.......................................... 30.9 17.6 84.6 46.9
--------- --------- -------- ---------
Total revenues.................................................. 417.8 348.3 1,010.6 932.6
--------- --------- --------- ---------
Interest expense..................................................... 56.6 45.2 160.3 111.4
Cost of servicing.................................................... 29.0 20.9 84.1 61.1
General and administrative expenses.................................. 139.4 90.5 369.8 246.0
--------- --------- --------- ---------
Total expenses.................................................. 225.0 156.6 614.2 418.5
--------- --------- --------- ---------
Operating income before income taxes and
extraordinary charge.......................................... 192.8 191.7 396.4 514.1
Nonrecurring charges................................................. - - 648.0 -
--------- --------- --------- ---------
Income (loss) before income taxes and
extraordinary charge.......................................... $ 192.8 $ 191.7 $ (251.6) $ 514.1
========= ========= ========= =========
</TABLE>
Green Tree is a diversified financial services company that provides
financing for manufactured housing, home equity, home improvements, consumer
products and equipment and provides consumer and commercial revolving credit.
Our financing products
14
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
--------------------
include both fixed term and revolving loans and leases. We also market physical
damage and term mortgage life insurance and other credit protection relating to
the loans we service.
Contract originations in the third quarter of 1998 were $5.7 billion, up 27
percent over 1997. Contract originations in the first nine months of 1998 were
$15.5 billion, up 37 percent over 1997.
Manufactured housing and consumer finance contract originations increased
$648.1 million, or 13 percent, during the first nine months of 1998 over 1997.
The number of contracts originated during the 1998 period increased 3.2 percent
to approximately 188,000 contracts and the average contract size increased 9.8
percent to approximately $29,000.
Mortgage and retail services contract originations increased $1.8 billion,
or 66 percent, during the first nine months of 1998 over 1997. The increase is
primarily the result of our continued expansion of the home equity retail
origination network.
Commercial originations increased $1.7 billion, or 46 percent, during the
first nine months of 1998 over 1997. The increase reflects higher production in
all areas of commercial financing.
Sales of finance receivables occur when we sell finance receivables we
originate in secondary markets through securitizations. The total receivables
sold in a particular period is dependent on many factors including: (i) the
volume of recent originations; (ii) market conditions; and (iii) the
availability and cost of alternative financing. Total finance receivables sold
in the third quarter of 1998 increased 36 percent from 1997. Total finance
receivables sold in the first nine months of 1998 were up 29 percent over 1997.
Total finance receivables held by the Company were $3.3 billion at September 30,
1998, an increase of $1.3 billion over December 31, 1997, as a result of both:
(i) increases in the pace of originations; and (ii) the previously announced
change in our strategy to hold more loans for sale late in each quarter in order
to place them in the market early in the next quarter when the supply of
securitizations in the market is expected to be lower and the spreads are
expected to be better.
Managed receivables include finance receivables sold through
securitizations as well as finance receivables and retained interests in finance
receivables held by the Company. The average managed receivables serviced by the
Company increased to $33.9 billion in the third quarter of 1998, a 37 percent
increase over the same period in 1997 and increased 38 percent in the first nine
months of 1998.
Net investment income on interest-only securities represents the accretion
recognized on the interest-only securities retained when finance receivables are
sold. Such income increased 4.6 percent, to $34.2 million, in the third quarter
of 1998 and increased 17 percent, to $103.8 million, in the first nine months of
1998. The increases are consistent with the change in the average balance of
interest-only securities during the periods and the change in the discount rate
assumption used to value interest-only securities described below under gain on
sale of finance receivables in the 1998 periods. The weighted average yields
earned on interest-only securities were 11.8 percent and 10.1 percent during the
first nine months of 1998 and 1997, respectively.
Net investment income on finance receivables and other consists of interest
earned on our unsold finance receivables and interest income on short-term and
other investments. Such income increased 8.4 percent, to $59.2 million, in the
third quarter of 1998 and increased 24 percent, to $175.8 million, in the first
nine months of 1998. The increases are consistent with the increases in average
finance receivables during the 1998 periods. The weighted average yield earned
on finance receivables was 8.4 percent and 10.7 percent during the first nine
months of 1998 and 1997, respectively. The decrease in 1998 primarily reflects
the establishment of additional provisions for uncollectible accounts.
Gain on sale of finance receivables represents the difference between the
proceeds from the sale, net of related transaction costs, and the allocated
carrying amount of the receivables sold. The allocated carrying amount is
determined by allocating the original amount of the receivables between the
portion sold and any retained interests (securities classified as fixed
maturities, interest-only securities and servicing rights), based on their
relative fair values at the time of sale. Assumptions used in calculating the
estimated fair value of interest-only securities and servicing rights are
subject to volatility that could materially affect operating results.
Prepayments from competition, obligor mobility, general and regional economic
conditions and prevailing interest rates, as well as actual losses incurred, may
vary from the performance projected.
Gain on sale of finance receivables increased 21 percent, to $257.9
million, in the third quarter of 1998 and decreased 5.0 percent, to $543.8
million, in the first nine months of 1998. Such gain fluctuates when changes
occur in: (i) the amount of loans sold; (ii) market conditions; (iii) the amount
and type of interest retained in the receivables sold; and (iv) changes in
assumptions used to calculate the gain. Recent experience has indicated that
prepayment rates have exceeded expectations for loans sold in prior periods.
15
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
--------------------
In addition, the market yields of publicly traded securities that are similar to
our interest-only securities increased during the second quarter, increasing the
market discount rate used when calculating gains. Assumptions used to determine
the gains in the 1998 periods reflect higher prepayment assumptions and higher
discount rates. Accordingly, the amount of gain as a percentage of closed end
loans sold has decreased to 6.23 percent in the third quarter of 1998 from 7.49
percent in the third quarter of 1997 and 6.53 percent in the first nine months
of 1998 compared to 7.93 percent in the first nine months of 1997.
Current conditions in the credit markets and resulting pricing of certain
lower rated securities have caused us to hold, rather than sell, certain
securities resulting from our securitizations. As a result, no gain on sale is
recognized on the securities held, thereby decreasing such gain in the current
quarter. However, the interest income on the securities held, net of related
interest expense, would increase income over the life of the securities held. In
addition, volatility in the asset-backed securities market has caused a
reduction in the profit we realized in our first securitization in the fourth
quarter of 1998. See "Liquidity and Capital Resources" for further information
concerning these matters.
Servicing income represents fees received for servicing finance receivables
sold in securitizations. Such income increased 18 percent, to $35.6 million, in
the third quarter of 1998 and increased 23 percent, to $102.6 million, in the
first nine months of 1998. After such sales, we continue to service the loans
sold for a fee. Servicing income grows as the total portfolio of finance
receivables managed for others increases.
Commission and other income includes commissions earned on new insurance
policies written and renewals on existing policies, as well as other income from
transaction fees. Such income increased 76 percent, to $30.9 million, in the
third quarter of 1998 and increased 80 percent, to $84.6 million, in the first
nine months of 1998. The increase reflects: (i) the growth in our revolving
credit receivables (upon which transaction fees are assessed); (ii) an increase
in other managed receivables (which present opportunities for sales of insurance
products); and (iii) an increased emphasis on generating such income.
Interest expense increased 25 percent, to $56.6 million, in the third
quarter of 1998 and increased 44 percent, to $160.3 million, in the first nine
months of 1998. The increase primarily reflects increased borrowings to fund
loan originations, commercial revolving credit and lease portfolio financings
during the 1998 periods and an increase in our average inventory of finance
receivables, net of a decrease in our average borrowing rate. The weighted
average interest rates on our borrowings were 7.4 percent and 8.1 percent during
the first nine months of 1998 and 1997, respectively.
Cost of servicing represents the costs incurred to service finance
receivables sold. Such costs fluctuate in relation to the total balance of
finance receivables managed for others and the fees earned for providing such
servicing.
General and administrative expenses have primarily increased in recent
periods as a result of the increased volume of contracts originated.
Nonrecurring charges include: (i) merger related costs (including
investment banking, accounting, legal and regulatory fees, severance costs and
other costs associated with the Green Tree Merger) of $108 million; and (ii) a
charge to reduce the value of interest-only securities and servicing rights of
$540 million.
During the second quarter of 1998, prepayments on loan contracts continued
to exceed expectations and management concluded that such prepayments might
continue to be higher than expected in future periods as well. In addition, the
market yields of publicly traded securities that are similar to our
interest-only securities increased during the quarter, decreasing the market
values of such investments. As a result of these developments, we concluded an
impairment in the value of the interest-only securities and servicing rights had
occurred, and a new value was determined using current assumptions. The new
assumptions reflect the following changes from the assumptions previously used:
(i) an increase in prepayment rates; (ii) an increase in the discount rate used
to determine the present value of future cash flows to 15 percent from 11
percent; and (iii) an increase in anticipated future rates of default. A $540
million charge to reduce the carrying value of the interest-only securities and
servicing rights (before income taxes of $190 million) was recognized in the
second quarter of 1998.
LIQUIDITY AND CAPITAL RESOURCES
Changes in the consolidated balance sheet between December 31, 1997 and
September 30, 1998, reflect: (i) our operating results; (ii) the nonrecurring
charge of $463 million (net of income taxes of $185 million) related to
merger-related costs and the charge to reduce the value of interest-only
securities and servicing rights; (iii) our origination and sale of finance
receivables; (iv) the change in the fair value of interest-only securities
(after the effect of the aforementioned charge); and (v) various financing
transactions.
16
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
--------------------
Financing transactions (described in the notes to the consolidated financial
statements) include: (i) the issuance of notes payable and debt repayment; and
(ii) the $1.1 billion capital contribution from Conseco.
The decrease in shareholder's equity in the first nine months of 1998
reflects: (i) the net loss of $228.7 million; (ii) the decrease in unrealized
appreciation of securities of $23.7 million; (iii) return of common stock of
$23.4 million related to the recomputation of an executive's 1996 bonus; and
(iv) dividends on common stock of $23.5 million. The decreases were partially
offset by: (i) the capital contribution from Conseco of $1.1 billion; (ii) the
value of stock warrants in conjunction with a financing transaction of $7.7
million; and (iii) amounts received upon the exercise of stock options (and the
tax benefit thereon) of $3.5 million.
Our business requires continued access to the capital markets for the
purchase, warehousing and sale of finance receivables. To satisfy these needs,
we employ a variety of capital resources.
Historically, the most important liquidity source for our finance
operations has been our ability to sell finance receivables in the secondary
markets through loan securitizations. Under certain securitized sales
structures, we have provided a variety of credit enhancements, which generally
take the form of corporate guarantees, but have also included bank letters of
credit, surety bonds, cash deposits and over collateralization or other
equivalent collateral. We analyze the cash flows unique to each transaction, as
well as the marketability and projected economic value of such transactions,
when choosing the appropriate structure for a securitized loan sale. The
structure of each securitized sale depends, to a great extent, on conditions of
the fixed income markets at the time of sale as well as cost considerations and
availability and effectiveness of the various enhancement methods. During the
first nine months of 1998, we used a senior/subordinated structure for each of
our seven manufactured housing loan sales and enhanced a portion of the
subordinated certificates sold with a corporate guarantee. During the first nine
months of 1998, two home equity and home improvement loan sales included two
separate but cross-collateralized loan pools while two were solely home equity
pools, all of which employed a senior/subordinated structure, three with a
limited guarantee on a portion of the subordinate certificates and the other
with over collateralization as a credit enhancement.
Late in the third quarter, liquidity in the credit markets became extremely
limited for many issuers. Recent rate reductions announced by the Federal
Reserve have resulted in some increased liquidity, but the credit markets are
still tight, especially the asset-backed markets into which we sell our finance
receivables. We believe the liquidity in this market has recently shown some
signs of improvement and will recover soon. This market is very large and fills
a need for many investors and therefore we believe it is unlikely to disappear.
We have been able to sell finance receivables through this market even under the
recent market conditions. In addition, the Company and its parent have access to
bank credit, master repurchase agreements and securitization lines that would
enable us to continue production of loans for some time, even if the
asset-backed markets were not available.
Our sale of consumer products, equipment finance and certain home equity
and home improvement loans during the first quarter of 1998 employed a
multi-class credit tranched grantor trust structure issuing fixed rate
certificates with a limited corporate guarantee on the most subordinate class.
In the second and third quarters of 1998, our sale of consumer products and
equipment finance loans utilized a multi-class credit tranched owner trust
structure issuing fixed and floating rate notes and certificates with a limited
corporate guarantee on the most subordinate class. During the third quarter of
1998, we sold $291.3 million of small-ticket lease receivables to a multi-seller
commercial paper warehouse facility. Also during the first nine months of 1998,
we sold $50.0 million of private-label credit card receivables and $473.0
million of floorplan receivables through two separate revolving master trusts.
In some recent securitizations, we elected to hold certain lower rated
securities rather than sell them. We retained these securities because at
current market prices, we concluded we would rather own them than sell them. We
may also choose to retain additional securities from future securitizations if
market values do not return to levels we consider acceptable. We believe that we
have adequate sources of liquidity to continue to hold a reasonable quantity of
such securities while still maintaining current levels of loan originations;
however, holding these securities will result in reduced gains from the sale of
finance receivables and comparable increases in interest spreads earned while
the securities are held. In addition, volatility in the asset-backed securities
markets has caused a reduction in the profits we realized for the securities we
sold in our October 1998 securitization. While the amount of the reduction in
profits will not be determinable until additional information regarding costs is
known, we estimate the reduction to be approximately $10 million after tax,
compared to the levels of profits recognized on a similar securitization in the
third quarter of 1998. The asset-backed securities markets have improved
somewhat since the October transaction, but it is unclear what level of
profitability will be achieved on future securitizations. Several competing
lenders have recently announced that they are no longer lending in product lines
that provide the majority of our new loans. Brokers who previously expected to
sell completed loans to such lenders have solicited bids from us and others to
purchase these loans. In addition, we and other lenders have recently increased
the interest rates charged on new loans. We are unable to estimate the amount of
increased business, if any, or the level of profitability thereon that might
result from these events.
There are an increasing number of circumstances in which we believe we
would obtain more value from our finance receivables by holding them directly,
by holding all or a portion of the securities issued in our securitizations, or
by using alternative methods of financing. We are studying the effect such a
strategy would have on our capital structure, liquidity, access to capital
markets, credit ratings and reported earnings.
17
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
--------------------
Servicing fees and net interest payments collected on sold loans increased
during the nine-month period ended September 30, 1998 compared with the same
period in 1997. This growth is a result of our growing servicing portfolio.
Interest on unsold loans increased during the first nine months of 1998 compared
with the same period in 1997 as a result of the increase in the outstanding
finance receivables.
We currently have $4.0 billion in master repurchase agreements, subject to
the availability of eligible collateral, with various investment banking firms
for the purpose of financing our contract and commercial finance loan
production. The master repurchase agreements generally provide for annual terms
which are extended each quarter by mutual agreement of the parties for an
additional annual term based upon receipt of updated quarterly financial
information. At September 30, 1998, we have $.6 billion outstanding under the
repurchase agreements.
As of September 30, 1998, no commercial paper of Green Tree is outstanding.
We have curtailed this program in favor of master repurchase agreements, due to
rating actions by credit agencies early this year which lowered Green Tree's
senior unsecured debt ratings.
In addition, we have a $700 million line of credit secured by our
interest-only securities. This line of credit matures on February 12, 2000 with
an option to extend for an additional one year term. As of October 11, 1998,
there are no amounts borrowed under this facility.
YEAR-2000 MATTERS
Many existing computer programs had been designed and developed to use only
two digits to identify a year in the date field. If not corrected, these
computer programs could cause system failures in the year 2000, with possible
adverse effects on our operations. In 1997, we initiated a comprehensive
corporate-wide program designed to ensure that our computer programs function
properly in the year 2000. A number of our employees (including several
officers), as well as external consultants and contract programmers, are working
on various year-2000 projects.
We also have been working with vendors and other external business
relations to help avoid year-2000 problems related to the software or services
they provide to us. Under the program, we are analyzing our application systems,
operating systems, hardware, networks, electronic data interfaces and
infrastructure devices (such as facsimile machines and telephone systems).
Our year-2000 projects are currently on schedule. We are conducting our
year-2000 projects in three phases: (i) an audit and assessment phase, designed
to identify year-2000 issues; (ii) a modification phase, designed to correct
year-2000 issues; and (iii) a testing phase, designed to test the modifications
after they have been installed. We have completed the audit and assessment phase
for all critical systems. We expect to substantially complete the second phase
of our program by the end of the second quarter of 1999. The testing phase of
our program will be conducted throughout 1999. We have provided for significant
contingency time in order to complete any additional modifications before
December 31, 1999.
We are addressing our year-2000 issues in three ways. For some, we are
working to complete the previously planned conversions of older systems to the
more modern, year-2000-compliant systems already used in other areas of the
Company. In other cases, we are purchasing new, more modern systems; these costs
are being capitalized as assets and amortized over their expected useful lives.
In the remaining cases, we are modifying existing systems; these costs are being
charged to operating expense.
We currently estimate that the total expense of our year-2000 projects will
be approximately $17 million. These costs are not material to Green Tree's
financial position and we are funding them through operating cash flows.
Approximately 10 percent of these costs were incurred in 1997 and the first nine
months of 1998; these costs related primarily to modifying or replacing existing
software systems.
The impact of year-2000 issues will depend, not only on the corrective
actions we take, but also on the way in which year-2000 issues are addressed by
governmental agencies, businesses and other third parties (i) that provide
services, utilities or data to the Company; (ii) that receive services or data
from the Company; or (iii) whose financial condition or operating capability is
important to the Company. We are in the process of identifying risks and
assessing potential year-2000 risks associated with our external business
relationships, including those with financial institutions. These procedures are
necessarily limited to matters over which we are able to reasonably exercise
control. We have been informed by our key financial institutions and utilities
that they will be year-2000 compliant in early 1999.
18
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
--------------------
We are also assessing what contingency plans will be needed if any of our
critical systems or those of external business relationships are not year-2000
compliant at year-end 1999. We do not currently anticipate such a situation, but
our consideration of contingency plans will continue to evolve as new
information becomes available.
Our year-2000 projects are the highest priority for our information
technology employees. Other projects continue while our year-2000 projects are
being completed, however, in many cases, we have accelerated system upgrades
when the new systems address year-2000 issues.
The failure to correct a material year-2000 problem could result in an
interruption in, or failure of, certain normal business activities or
operations. Such failures could materially and adversely affect the Company's
results of operations, liquidity and financial condition. Due to the general
uncertainty inherent in the year-2000 problem, including the uncertainty of the
preparedness of our external business relationships, we are not able to
currently determine whether the consequences of year-2000 failures will have a
material impact on the Company's results of operations, liquidity and financial
condition. However, we believe our year-2000 compliance efforts will reduce the
likelihood of a material adverse impact.
FORWARD-LOOKING STATEMENTS
All statements, trend analyses and other information contained in this
report and elsewhere (such as in other filings by Conseco or Green Tree with the
Securities and Exchange Commission, press releases, presentations by Conseco or
Green Tree or its management or oral statements) relative to markets for
Conseco's or Green Tree's products and trends in Conseco's or Green Tree's
operations or financial results, as well as other statements including words
such as "anticipate," "believe," "plan," "estimate," "expect," "intend," and
other similar expressions, constitute forward-looking statements under the
Private Securities Litigation Reform Act of 1995. These forward-looking
statements are subject to known and unknown risks, uncertainties and other
factors which may cause actual results to be materially different from those
contemplated by the forward-looking statements. Such factors include, among
other things: (i) general economic conditions and other factors, including
prevailing interest rate levels, stock and credit market performance and health
care inflation, which may affect (among other things) the ability of Conseco to
sell its products, Green Tree's ability to make loans and access capital
resources and the costs associated therewith, the market value of Conseco's or
Green Tree's investments, the lapse rate and profitability of policies and the
level of defaults and prepayments of loans made by Green Tree; (ii) Conseco's
ability to achieve anticipated synergies and levels of operational efficiencies;
(iii) customer response to new products, distribution channels and marketing
initiatives; (iv) mortality, morbidity, usage of health care services and other
factors which may affect the profitability of Conseco's insurance products; (v)
changes in the Federal income tax laws and regulations which may affect the
relative tax advantages of some of Conseco's products; (vi) increasing
competition in the sale of insurance and annuities and in the finance business;
(vii) regulatory changes or actions, including those relating to regulation of
financial services affecting (among other things) bank sales and underwriting of
insurance products, regulation of the sale, underwriting and pricing of
insurance products, and health care regulation affecting health insurance
products; (viii) the ability to achieve Year 2000 readiness for significant
systems and operations on a timely basis; (ix) the availability and terms of
future acquisitions; and (x) the risk factors or uncertainties listed from time
to time in Conseco's filings with the Securities and Exchange Commission.
19
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
--------------------
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Green Tree has been served with various related lawsuits which were filed
in the United States District Court for the District of Minnesota. These
lawsuits were filed as purported class actions on behalf of persons or entities
who purchased common stock or options of Green Tree during the alleged class
periods that generally run from February 1995 to January 1998. One such action
did not include class action claims. In addition to Green Tree, certain current
and former officers and directors of Green Tree are named as defendants in one
or more of the lawsuits. Green Tree and other defendants have obtained an order
from the United States District Court for the District of Minnesota
consolidating the lawsuits seeking class action status into two actions: one
which pertains to a purported class of common stockholders and the other which
pertains to a purported class of stock option traders. Plaintiffs in the
lawsuits assert claims under Sections 10(b) and 20(a) of the Securities Exchange
Act of 1934. In each case, plaintiffs allege that Green Tree and the other
defendants violated federal securities laws by, among other things, making false
and misleading statements about the current state and future prospects of Green
Tree (particularly with respect to prepayment assumptions and performance of
certain loan portfolios of Green Tree) which allegedly rendered Green Tree's
financial statements false and misleading. The Company believes that the
lawsuits are without merit and intends to defend such lawsuits vigorously. Green
Tree has filed a motion to dismiss the lawsuits, which is pending.
The Company and its subsidiaries are involved on an ongoing basis in
lawsuits related to its operations. Although the ultimate outcome of certain of
such matters cannot be predicted, none of such lawsuits currently pending
against the Company or its subsidiaries is expected, individually or in the
aggregate, to have a material adverse effect on the Company's consolidated
financial condition, cash flows or results of operations.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. (a) Exhibits
4(c) Promissory Note dated July 17, 1998 due to Conseco, Inc.
12 Computation of Ratio of Earnings to Fixed Charges
27 Financial Data Schedule
(b) Reports on Form 8-K - None
20
<PAGE>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
--------------------
SIGNATURE
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.
GREEN TREE FINANCIAL CORPORATION
Dated: November 13, 1998 By: /s/ ROLLIN M. DICK
------------------
Rollin M. Dick
Executive Vice President and
Chief Financial Officer
(authorized officer and principal
financial officer)
21
PROMISSORY NOTE
$2,000,000,000 July 17, 1998
FOR VALUE RECEIVED, the undersigned, Green Tree Financial Corporation,
a Delaware Corporation (the "Borrower"), hereby promises to pay to the order of
Conseco, Inc., an Indiana corporation (the "Lender"), at 11825 North
Pennsylvania Street, Carmel, Indiana 46032, (i) the principal amount of Two
Billion Dollars ($2,000,000,000), or, if less, the aggregate unpaid principal
amount of each loan or advance made by the Lender to the Borrower hereunder, in
lawful money of the United States of America in immediately available funds, and
(ii) interest from the date hereof on the principal amount hereof from time to
time outstanding, in like funds, at a rate per annum equal to 35 basis points in
excess of the London interbank offered rate for a one, two, three or six-month
period (each, an "Interest Period"), as published in The Wall Street Journal and
as selected by the Borrower prior to the expiration of the then current Interest
Period (the "Interest Rate"). If the Borrower fails to select an Interest Period
prior to the expiration of the then current Interest Period, then the Borrower
shall be deemed to have selected an Interest Period of one month.
This Note may be prepaid in whole or in part at any time without
premium or penalty. Amounts prepaid on this Note may be reborrowed.
The unpaid principal balance of this Note shall be due and payable in
full on demand by the Lender. Accrued and unpaid interest on the principal
balance of this Note shall be due and payable quarterly in arrears on each March
31st, June 30th, September 30th and December 31st, with the first interest
payment due December 31, 1998. The Borrower promises to pay interest, on demand,
on any overdue principal and, to the extent permitted by law, overdue interest
from their due dates at a rate equal to the Interest Rate plus 2.0%.
The Borrower and any and all sureties, guarantors and endorsers of this
Note and all other parties now or hereafter liable hereon, severally waive
grace, presentment for payment, protest, notice of any kind (including notice of
dishonor, notice of protest, notice of intention to accelerate and notice of
acceleration) and diligence in collecting and bringing suit against any party
hereto, and agree to all extensions and partial payments, with or without
notice, before or after maturity. The nonexercise by the holder of any of its
rights hereunder in any particular instance shall not constitute a waiver
thereof in that or any subsequent instance.
This Note shall be construed in accordance with and governed by the
laws of the State of Indiana and any applicable laws of the United States of
America. The provisions of this Note shall be binding on and inure to the
benefit of the successors and assigns of the Borrower and the Lender, including
any subsequent holders of this Note.
In the event this Note is not paid when due at maturity, the Borrower
agrees to pay, in addition to the principal of and interest on this Note, all
costs of collection, including reasonable attorneys' fees.
IN WITNESS WHEREOF, the Borrower has caused this Note to be executed by
its duly authorized officer as of the date first above written.
GREEN TREE FINANCIAL CORPORATION
By: /s/ Rollin M. Dick
----------------------------
Name: Rollin M. Dick
Title: Executive Vice President
<TABLE>
<CAPTION>
GREEN TREE FINANCIAL CORPORATION AND SUBSIDIARIES
Computation of Ratio of Earnings to Fixed Charges
for the nine months ended September 30, 1998 and the year ended December 31, 1997
(Dollars in millions)
Nine months
ended Year ended
September 30, December 31,
1998 1997
---- ----
<S> <C> <C>
Pretax income (loss) from operations:
Net income (loss) $(228.7) $301.4
Add income tax expense (benefit) (34.4) 184.7
Add extraordinary charge on extinguishment of debt 11.5 -
------- ------
Pretax income (loss) from operations (251.6) 486.1
------- ------
Add fixed charges:
Interest expense on long-term debt 160.3 160.9
Portion of rental(1) 4.0 4.4
------- ------
Fixed charges 164.3 165.3
------- ------
Adjusted earnings (loss) $ (87.3) $651.4
======= ======
Ratio of earnings (loss) to fixed charges (.53)X 3.94X
====== ======
Ratio of earnings (excluding nonrecurring charge
of $648.0 million) to fixed charges 3.41X 3.94X
===== =====
<FN>
(1) Interest portion of rental is assumed to be 33 percent.
</FN>
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
Company's financial statements and is qualified in its entirety by reference to
such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-mos
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 974,700 <F1>
<SECURITIES> 1,230,900
<RECEIVABLES> 3,336,600
<ALLOWANCES> 33,800
<INVENTORY> 0
<CURRENT-ASSETS> 0
<PP&E> 241,600
<DEPRECIATION> 96,600
<TOTAL-ASSETS> 6,264,300
<CURRENT-LIABILITIES> 0
<BONDS> 506,000
0
0
<COMMON> 1,325,600
<OTHER-SE> 818,400 <F2>
<TOTAL-LIABILITY-AND-EQUITY> 6,264,300
<SALES> 543,800
<TOTAL-REVENUES> 1,010,600
<CGS> 0
<TOTAL-COSTS> 453,900
<OTHER-EXPENSES> 648,000 <F3>
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 160,300
<INCOME-PRETAX> (251,600)
<INCOME-TAX> (34,400)
<INCOME-CONTINUING> (217,200)
<DISCONTINUED> 0
<EXTRAORDINARY> (11,500)
<CHANGES> 0
<NET-INCOME> (228,700)
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
<FN>
<F1> Includes $723,800 of cash held in segregated accounts for investors and
$250,900 of cash deposits, restricted under pooling and servicing
agreements.
<F2> Includes retained earnings of $823,500 and accumulated other comprehensive
loss of $5,100.
<F3> Represents nonrecurring charges including: (i) merger related costs
(including investment banking, accounting, legal and regulatory fees,
severance costs and other costs associated with the acquisition of Green
Tree by Conseco, Inc.) of $108,000; and (ii) a charge to reduce the value
of interest-only securities and servicing rights of $540,000.
</FN>
</TABLE>
