THE FOLLOWING ITEMS WERE THE
SUBJECT OF A FORM 12b-25 AND
ARE INCLUDED HEREIN: ITEMS 6
AND 7 AND PORTIONS OF ITEMS
1 AND 13
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
-----------------------
FORM 10-KSB/A
AMENDMENT NO. 1
(Mark One)
[_X_] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934.
For the fiscal year ended: March 31, 2000
OR
_____ TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934.
For the transition period from _____ to _____
Commission file number 0-21907
NEWSTATE HOLDINGS, INC.
--------------------------------------------------------------------------------
(Name of Small Business Issuer in Its Charter)
Delaware 84-1182875
------------------------------------------ ---------------------------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
156 West 56th Street, Suite 2005
New York, New York 10019
------------------------------------------ --------------------------
(Address of Principal Executive Offices) (Zip Code)
(212) 245-5801
--------------------------------------------------------------------------------
(Issuer's Telephone Number, Including Area Code)
Securities registered under Section 12(b) of the Exchange Act:
None
Securities registered under Section 12(g) of the Exchange Act:
Common Stock, $0.01 par value per share
Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for past 90 days.
[_X_] Yes [___] No
Check if there is no disclosure of delinquent filers in response to
Item 405 of Regulation S-B is not contained in this form, and no disclosure will
be contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [_X_]
The registrant's revenues as of March 31, 2000 was $13,200,834.
The aggregate market value of the common stock of the registrant held
by non-affiliates as of June 27, 2000 was approximately $3,684,118 based on
the average bid and asked prices for such common stock as reported on the
Over-The-Counter Bulletin Board. The number of shares of common stock of the
registrant outstanding as of June 27, 2000 was 11,508,684.
(ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS
DURING THE PAST FIVE YEARS)
Check whether the issuer has filed all documents and reports required
to be filed by Section 12, 13 or 15(d) of the Exchange Act after the
distribution of securities under a plan confirmed by a court. Yes [__] No [__]
(APPLICABLE ONLY TO CORPORATE REGISTRANTS)
Transitional Small Business Disclosure Format (check one): Yes [___] No [_X_]
DOCUMENTS INCORPORATED BY REFERENCE
No annual report to security holders, proxy or information statement or
prospectus filed pursuant to Rule 424(b) or (c) of the Securities Act of 1933 is
incorporated herein by reference.
This form 10-KSB/A amends the Report on 10-KSB of NewState Holdings,
Inc. dated June 29, 2000, previously filed with the Commission.
<PAGE>
<TABLE>
<CAPTION>
TABLE OF CONTENTS
Page
PART I -------
<S> <C>
Item 1. Description of Business 4
Item 2. Description of Properties 14
Item 3. Legal Proceedings 14
Item 4. Submission of Matters to a Vote of Security Holders 15
PART II
Item 5. Market for Common Equity and Related Stockholder Matters 15
Item 6. Management's Discussion and Analysis or Plan of Operation 17
Item 7. Financial Statements 17
Item 8. Change In and Disagreements With Accountants on Accounting
and Financial Disclosure 17
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 16(a) of the Exchange Act 18
Item 10. Executive Compensation 20
Item 11. Security Ownership of Certain Beneficial Owners and Management 21
Item 12. Certain Relationships and Related Transactions 23
Item 13. Exhibits, Financial Statement Schedules and Reports on Form 8-K 23
SIGNATURES
</TABLE>
Statement Regarding Forward-Looking Statements
Statements contained in this document which are not
historical in nature are forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995. These forward-looking
statements can be identified by the use of forward-looking terminology such as
"believes," "expects," "may," "should", or "anticipates" or the negative thereof
or other variations thereon or comparable terminology, or by discussions of
strategy.
Such forward-looking statements involve certain risks and
uncertainties that could cause actual results to differ materially from
anticipated results. These risks and uncertainties include, but are not limited
to, regulatory constraints, changes in laws or regulations governing the
Company's products, services and international trade, the ability of the Company
to market successfully its products and services in an increasingly competitive
worldwide market, changes in the Company's operating strategy, failure to
consummate or successfully integrate product developments, the general economy
of the United States and the specific global markets in which the Company
competes, the availability of financing from internal and external sources and
other factors as may be identified from time to time in the Company's filings
with the Securities and Exchange Commission or in the Company's press releases.
No assurance can be given that the future results covered by the forward-looking
statements will be achieved. Other factors could also cause actual results to
vary materially from the future results covered in such forward-looking
statements. The Company assumes no obligation for updating any such
forward-looking statements at any time.
All references in this Form 10-KSB to "the Company," "we," "us," or
"our" are to NewState Holdings, Inc. and its subsidiaries, unless the context
requires otherwise.
<PAGE>
PART I
ITEM 1: DESCRIPTION OF BUSINESS
BUSINESS OVERVIEW
NewState Holdings, Inc. is the holding company and parent
corporation for its network of financial services companies in the Republic of
Korea. We were originally incorporated under the name Racom Systems, Inc. in the
State of Delaware on June 3, 1991 and in September 1999 we changed our name to
NewState Holdings, Inc. The Company has principal executive offices in New York,
New York and Seoul, Korea. Our principal business operations are located in
Korea.
Our principal operating subsidiary in Korea, NewState Capital
Co., Ltd. (formerly known as Dongsuh Finance Co., Ltd.) ("NewState Capital"), is
registered with the Korean Financial Supervisory Commission as a "specialty
finance company" under the Credit Specialized Financial Business Act of 1997.
NewState Capital was acquired by our present management in December 1998 and
restructured to specialize in the origination and servicing of residential
mortgage loans to individual borrowers in Korea.
Our current business plan is to expand NewState Capital's
mortgage origination efforts throughout Korea, develop and offer innovative new
mortgage products to Korean middle-income families and individuals, and to
securitize and sell its mortgage loan portfolio as mortgage-backed securities to
public investors in Korea. We seek to become the leading residential mortgage
originator in Korea by providing highly efficient, responsive and sophisticated
loan servicing to Korean homebuyers.
We currently manage and service approximately 74.2 billion
Korean Won (US$67 million) in residential mortgage assets as of March 31, 2000.
We expect our mortgage loan portfolio to expand to be about 200 billion Korean
Won (US$180 million) by the end of our 2000 fiscal year (March 31, 2001). We
anticipate that NewState Capital will build an additional five branch offices
besides the corporate headquarters in Seoul, Korea and the other six branch
offices, and plan to have one regional office in each major metropolitan area
throughout Korea within fiscal year 2000. We expect that the total number of
branch offices in Korea will be 15 and 150 additional full time employees will
be hired in the same time period. This aggressive expansion plan is designed to
enable NewState Capital to build relationships with customers in order to
maximize the rate of market penetration.
ACQUISITION OF NEWSTATE CAPITAL
On July 20, 1999, we acquired 99.6% (4,958,000 shares) of the
issued and outstanding capital stock of NewState Capital, which was formerly a
subsidiary of NewState Capital Corp, a privately-held New York corporation
("NewState NY"), in exchange for issuing 8,000,000 shares of our common stock,
representing approximately 80% of our total issued and outstanding shares of
common stock, to NewState NY. We also assumed a $5,000,000 liability of NewState
NY to a bank which we repaid in full in August 1999. The terms and conditions of
the acquisition are more fully set forth in the Agreement and Plan of
Reorganization, dated as of July 14, 1999 (the "Acquisition Agreement"), by and
among the Company, NewState NY, NewState Capital and a newly formed wholly-owned
subsidiary of the Company, NSK Holdings, Inc. ("NSK"), which is incorporated
herein by reference to our Form 8-K filed with the Commission on July 21, 1999.
As a result of the Acquisition Agreement, (i) NewState Capital
became a 99.6% owned subsidiary of NSK, our wholly-owned subsidiary, and (ii)
NewState NY became the owner of approximately 80% of our common stock.
Immediately following the reverse acquisition, we revised our business plan to
focus on the residential mortgage lending business of NewState Capital.
OUR MORTGAGE BUSINESS
The Korean residential mortgage loan process is divided into
three primary areas:
- mortgage origination - sourcing, verification and
documentation of mortgage loans;
- mortgage funding - underwriting, funding and selling closed
loans to mortgage loan purchasers; and
- servicing - ongoing billing, collection and
foreclosure/collateral management.
We believe that the residential mortgage market in Korea has
experienced a recession in recent years as a result of the government's control
over real estate investment on certain properties. It is our belief, however,
that the Korean residential mortgage market now faces a turning point due an to
extensive government deregulation plan and the enactment of new laws by the
Korean government to encourage the growth of the real estate market. The current
residential mortgage market in Korea can be categorized into two primary
sectors: (i) the publicly funded housing loan sector and (ii) the privately
funded housing loan sector. The National Housing Fund, Housing & Commercial Bank
and Kookmin Bank are government-controlled financial institutions primarily
responsible for offering public residential mortgage loans to middle or low
income households. Life insurance companies, commercial banks and specialty
finance companies have been responsible for providing private housing loans to
all other qualified individuals.
Mortgage Products
We plan to become a leading mortgage originator and servicer
in the Korean residential mortgage industry. NewState Capital offers first
mortgages to homebuyers and homeowners seeking to refinance. NewState Capital
handles all aspects of loan origination, including quoting rates, collecting and
verifying borrower data, locking the rate, pre-underwriting the loan package,
and arranging for appraisal and settlement services for the borrower. In
addition, NewState Capital can provide complete transaction fulfillment,
including underwriting, funding and packaging loans for sale to the secondary
markets in Korea. Through one of NewState Capital's branch offices or its
website, NewState Capital currently offers a wide array of mortgage loan
products, including 30 and 15-year fixed rate loans, a variety of adjustable
rate mortgages, balloon mortgages and other loan products. NewState Capital
offers assistance to prospective borrowers in making their home buying decisions
in each phase of the loan application process.
Mortgage Origination and Underwriting
NewState Capital originates, underwrites, funds and sells
mortgage loans to homebuyers. Loan applications generally are prepared by
NewState Capital's loan officers located at one of its branch offices.
Verification procedures, include, among other things, obtaining: (i) written
confirmations of the applicant's income and bank deposits, (ii) a formal credit
report on the applicant from an unaffiliated credit reporting agency, (iii) a
preliminary title report, and (iv) a real estate appraisal. Appraisals for
mortgage loans are prepared by third party, unaffiliated appraisers who are
pre-approved based upon their experience, education and reputation.
Completed loan applications are then transmitted to NewState
Capital's underwriting department. NewState Capital's underwriting department
contains experienced staff who verify the completeness and accuracy of
application information, and determine its compliance with its underwriting
criteria and those of applicable government agencies. NewState Capital's
guidelines for underwriting mortgage loans comply with the underwriting criteria
employed by non-bank mortgage lenders in Korea under the supervision of the
Financial Supervisory Commission. NewState Capital's underwriting personnel
function independently of its loan origination personnel and do not report to
any individual directly involved in the loan origination process. NewState
Capital considers the following general underwriting criteria in determining
whether to approve a loan application:
- employment and income;
- credit history;
- property value and characteristics; and
- available assets.
NewState Capital is currently in the process of adopting
United States underwriting and loan servicing standards and is converting its
servicing software to meet these servicing guidelines. In order to meet the
growing demand for residential mortgages in Korea, management is instituting
more responsive customer services and faster and easy-to-use loan processing
systems, including the recent introduction of our online loan application
process through our website.
Mortgage Servicing
NewState Capital devotes significant resources to providing
personalized, timely customer service and support to minimize the potential
uncertainty, anxiety and inconvenience of the loan process. By combining
high-tech communications with highly personalized attention, the Company
believes that NewState Capital provides a level of customer service superior to
that experienced in the traditional loan application and servicing process.
The primary goal of loan portfolio servicing is to collect
loan payments in full from borrowers when due and payable. Any deviation from
this objective is considered a default. NewState Capital's portfolio servicing
team is directly responsible for managing and preventing these deviations or
defaults. In order to maximize servicing efficiency, NewState Capital's
portfolio servicing team operates an advanced computer tracking system named the
Delinquency Information Management System ("DIMS"), which it adopted from the
U.S. version of the DIMS. DIMS provides delinquency reports which itemizes the
amounts and days past due per borrower. DIMS classifies our loan portfolio by
level of creditability, and organizes the information relating to payment
reminders, enforcement letters, and foreclosure documents in an orderly fashion
to maximize collection efforts. DIMS also manages our foreclosure information,
including the procedure schedule, courts dates, decisions and follow-up
schedules.
NewState Capital's portfolio servicing team constantly trains
its staff of highly sophisticated mortgage debt management specialists. During
the mandatory portfolio servicing training program, trainees are required to
attend classes on mortgage operations, servicing procedure, real estate and
mortgage law, housing rental law and other similar courses. Comprehensive
in-the-field training is also offered to strengthen the skills of the servicing
team. NewState Capital's portfolio servicing team is continuously attending
outside lectures and seminars regarding the real estate market and industry in
an effort to keep abreast of current economic and legal issues developing and
affecting the mortgage industry.
Marketing Strategy
We believe that it is critically important for financial
service providers to establish themselves as household names. With this
objective in mind, we continuously strive to promote and support NewState
Capital's corporate image as the mortgage company that reaches out to
individuals and families in Korea by placing the customer's needs first. We
believe that our mortgage products and services will change the way that people
live by improving the quality of their lives. Establishing a reputation for
prompt and responsive service is another integral component of our marketing
strategies. We believe that that the ability to process loan applications
quickly provides a distinct advantage over its competitors.
An extensive media campaign is scheduled for the fiscal year
2000. The primary media through which we will promote NewState Capital's
products and services will be television, radio, newspapers, and billboards.
Advertising will be focused on raising customer awareness and recognition of
NewState Capital's name and mission. The primary goal of the advertising
campaign will be to separate NewState Capital from our competitors. In addition,
we will send out by direct mail to prospective customers such as construction
companies, home buyers, and existing homeowners to promote its products and
services. In addition, our website will also be utilized as marketing tools as
well as channels to reach Internet users. The home page has an on-line loan
application and on-line banking system.
<PAGE>
Geographical Distribution of Loans
We currently manage and service approximately 74.2 billion
Korean Won (US$70 million) in residential mortgage assets as of March 31, 2000.
We expect our mortgage loan portfolio to expand to be about 200 billion Korean
Won (US$180 million) by the end of our 2000 fiscal year (March 31, 2001). The
following table sets forth the geographic distribution by province of NewState
Capital's loan originations as of March 31, 2000.
<TABLE>
<CAPTION>
DISTRIBUTION BY PROVINCE OF
NEWSTATE CAPITAL'S LOAN ORIGINATIONS
March 31, 2000
-------------------------------------------------------
Region Number of % of Total Principal TPB in US Dollars % of TPB
Assets Assets Balance ("TPB")
in Korean Won
<S> <C> <C> <C> <C> <C>
-----------------------------------------------------------------------------------------------------------
Seoul 352 11.26 W14,305,748,186 $12,911,325 19.28
-----------------------------------------------------------------------------------------------------------
Pusan 237 7.58 5,420,483,134 4,892,133 7.31
-----------------------------------------------------------------------------------------------------------
Taegu 917 29.33 21,547,261,539 19,446,987 29.04
-----------------------------------------------------------------------------------------------------------
In-Chon 135 4.32 3,068,049,173 2,768,997 4.13
-----------------------------------------------------------------------------------------------------------
Kyung-Gi Do 505 16.15 11,547,209,833 10,421,670 15.56
-----------------------------------------------------------------------------------------------------------
Kyungsang Nam Do 339 10.84 6,872,265,001 6,202,405 9.26
-----------------------------------------------------------------------------------------------------------
Kyungsang Book Do 155 4.96 2,914,641,323 2,630,543 3.93
-----------------------------------------------------------------------------------------------------------
Junla Nam Do 56 1.79 927,483,756 837,079 1.25
-----------------------------------------------------------------------------------------------------------
Junla Book Do 69 2.21 1,225,861,873 1,106,374 1.65
-----------------------------------------------------------------------------------------------------------
Kang-Won Do 246 7.87 4,469,856,441 4,034,166 6.02
-----------------------------------------------------------------------------------------------------------
Choong-Chung Nam Do 104 3.33 1,554,933,963 1,403,370 2.10
-----------------------------------------------------------------------------------------------------------
Others 11 0.35 346,673,109 312,882 0.47
-----------------------------------------------------------------------------------------------------------
Total : 3,126 100.00 W74,200,467,331 $66,967,931 100.00
-----------------------------------------------------------------------------------------------------------
</TABLE>
FUNDING OF MORTGAGE LOANS
NewState Capital currently funds most of the mortgage loans it
originates through short-term borrowings under collateralized loan agreements
with several commercial banks, merchant banks, investment trust companies, and
insurance companies, which provide primary credit facilities upon which NewState
Capital relies. These agreements are generally terminable at will by either
party and are refinanced by new borrowings as they become due. These borrowings
are in turn repaid with proceeds received by NewState Capital when such mortgage
loans are sold or repaid by the borrowers. Management believes that NewState
Capital will continue to borrow funds on a short-term basis for operations
through renewals of existing borrowing arrangements.
NewState Capital has relied upon a few significant lenders to
provide the primary credit facilities for its loan originations. Any failure to
renew or obtain adequate funding under the existing financing facilities or
other financing arrangements, or any substantial reduction in the size of or
increase in the cost of such facilities, could have a material adverse effect on
our business, results of operations and financial condition. To the extent
NewState Capital is not successful in maintaining or replacing existing
financing, we may have to curtail our mortgage loan originations, which could
have a material adverse effect on our business, results of operations and
financial condition.
LOAN SECURITIZATION
The primary source of capital in Korea for the residential
mortgage industry has been through private and government loans, corporate bonds
and private placements of equity. Although the Korean residential mortgage
market has grown significantly over the last few years, the development in Korea
of a mortgage-backed securities market in the finance industry has remained
virtually undeveloped. The implementation by the government of a long term
housing finance system such as a mortgage backed securities system that is
generally used in other countries has been well overdue.
In January 1999, in an effort to strengthen the national
housing finance market through a long-term and stable supply of housing funds,
the Korean government passed the Mortgage-Backed Securities Company Act (the
"MBS Act") to establish and operate a mortgage-backed securitization company and
to issue mortgage-backed securities. To that end, in September 1999, the Korean
government established Korean Mortgage Company (the "KoMoCo"), the only
mortgage-backed securitization company to have obtained authorization of
securitization business from the Korean Financial Supervisory Commission
("FSC"), to facilitate the spirit of the MBS Act. The KoMoCo has a paid-in
capital of one hundred point one (100.1) billion Korean Won (US$89,434,889). The
Korean government holds forty-five (45) percent of the interest in the KoMoCo,
making it the controlling shareholder. The remaining interests are held by four
major Korean financial institutions.
The MBS Act's scheme of securitization requires originators of
the mortgage loans to prepare and file registration statements with the FSC and
to follow certain guidelines for the transfer of mortgage loan assets to the
KoMoCo. The KoMoCo, which can be characterized as a permanent special-purpose
vehicle that is organized in such a way that the likelihood of its bankruptcy is
remote, only purchases residential mortgage loans from financial institutions
that seek to raise cash. As a special purpose vehicle, the KoMoCo does not
engage in the origination of mortgage loans, but rather limits its role to
buying only residential mortgage loans. The KoMoCo, and not the selling company,
will then issue mortgage-backed securities to raise cash and those securities
are intended to be payable from collections on the receivables purchased by the
KoMoCo.
The KoMoCo may guarantee the payment of mortgage-backed
securities, including mortgage-backed securities issued by a private
securitization company, within the amount not exceeding twenty times of equity
capital of the securitization company. This mechanism of guaranteeing repayment
of mortgage-backed securities to investors provides a special added assurance to
the investors.
We intend to take full advantage of the MBS Act to dispose of
NewState Capital's portfolio of mortgage loan assets and to maintain better
liquidity in the future. We have structured NewState Capital's operations and
processes specifically for the purpose of efficiently originating, underwriting,
and servicing loans for securitization in order to meet the requirements of
credit rating agencies. NewState Capital generally intends to enter the public
mortgage-backed securitization market on a periodic basis.
On March 21, 2000, NewState Capital issued through a private
special purpose securitization company ("SPC") mortgage-backed securities in the
principal amount of 58.9 billion Won (US$53.6 million) in Korea with Daewoo
Securities Co., Ltd. as the lead manager and Housing and Commercial Bank
(formerly Korea Housing Bank) as the trustee and back-up servicer. NewState
Capital issued four senior tranches of MBS and one subordinated tranche which
was retained by NewState Capital. The senior tranches of the mortgage-backed
securities have a maturity of 1-10 years and an interest rate of 10.17 - 12.61
percent. With this issuance of mortgage-backed securities, NewState Capital
became the first issuer of mortgage-backed securities in Korea. A general
summary of the principal terms of the MBS prospectus and the mechanics of the
securitization itself is discussed below.
For an additional discussion regarding loan securitization in Korea see
Item 6, Management's Discussion and Analysis or Plan of Operation.
COMPETITION
Competition for residential mortgage loan originations is
intense in Korea in this new era of governmental deregulation. We face
significant competition from government funded institutions, established
commercial banks, insurance companies and other private mortgage companies. .
Many of these competitors are substantially larger than us and have more capital
and other resources, as well as a lower cost of funds. However, competition can
take many forms, including convenience in obtaining a loan, customer service,
marketing and distribution channels, terms provided and interest rates charged
to borrowers. The following summarily discusses the major competitors in this
rapidly developing and evolving industry.
National Housing Fund and Housing & Commercial Bank (formerly
Korea Housing Bank). Both of these financial institutions are controlled by the
Korean government and were the first entrants into the residential mortgage
market in Korea. They also hold the most significant share of the residential
mortgage market in Korea. Both institutions primarily provide financial
assistance to middle or lower income households. Consequently, the mortgage
loans are typically small and are to individual borrowers in lower income
brackets. Management believes that their market share is decreasing because of
the introduction of private company funding to the market and expect their share
to decline even further if the mortgage market is continually deregulated by the
Korean government.
Commercial Banks. Management believes that increased
participation by the commercial banks in the housing loan business is expected
in the future as a result of the government's deregulation initiatives.
Commercial banks currently enjoy the competitive advantage of having secure and
established customer bases. Because of their strong name recognition in the
business, commercial banks can enter new markets simply by targeting their own
customer bases. In addition, commercial banks typically have a broad network of
branch offices that are easily located near a prospective borrowers home.
Citibank, one of the fastest growing foreign commercial banks
in Korea, has one of the most systematic mortgage operations in Korea.
Citibank's key advantage is name recognition and brand awareness. As a result of
its large capital and customer base, we believe that loan applicants view
Citibank as one of the safest financials institutions in Korea. We believe,
however, that Citibank's marketing efforts have primarily targeted middle to
high income borrowers which significantly limits the full potential reach of its
mortgage loan portfolio. In addition, we believe that the application process is
too difficult for many individual borrowers to complete.
Insurance Companies. Insurance companies have a broad network
system and direct sales force in Korea. These key factors give customers easy
and convenient access to their mortgage lending services. The Company believes,
however, that due to the insurance-related image of insurance companies in
Korea, borrowers have generally preferred other financial institutions for their
mortgage banking needs.
Mortgage Companies. Residential mortgage companies (including
NewState Capital) have been in operation in Korea since 1997. As a result of
their recent entrance into this developing new private lending market, no single
mortgage company has successfully penetrated the mortgage market. However, we
expect the number of private mortgage companies in the market to grow rapidly
over the next few years. Mortgage companies are characterized as having
convenient loan processing systems and are focused on providing high quality
customer service at every level. We believe that their principal weaknesses are
relatively low capital bases and liquidity problems. Because of these
weaknesses, mortgage companies must charge higher interest rates to their
borrowers, which gives them a significant disadvantage compared to other
competitors in the mortgage industry.
RECENT DEVELOPMENTS
NewState Holdings, Inc. (formerly Racom Systems, Inc.)
On October 18, 1999, we adopted a fiscal year consistent with
the fiscal year of NewState Capital, our recently acquired Korean subsidiary. As
a result of this change, our fiscal year now ends on March 31 of each year. This
is different from the fiscal year reflected in our prior filings with the
Securities and Exchange Commission.
On March 23, 2000, we approved: (i) the dismissal of Arthur
Andersen LLP as the independent accountants for the Company, and (ii) the
engagement of Young Wha Corporation, the Ernst & Young International member firm
in Korea, as the independent accountants that will audit our consolidated
financial statements for the fiscal year ended March 31, 2000.
NewState Capital Co., Ltd. (Korea)
On December 20, 1999, Youngnam Finance Co., Ltd., a Korean
specialty-finance company, merged into NewState Capital under the laws of the
Republic of Korea.
On March 21, 2000, NewState Capital issued mortgage-backed
securities ("MBS") in the principal amount of 58.9 billion Won (US$53.6 million)
in Korea with Daewoo Securities Co., Ltd. as the lead manager and Housing and
Commercial Bank as the trustee and back-up servicer. NewState Capital issued
four tranches of senior MBS and one tranche of subordinated MBS which was
retained by NewState Capital. The senior tranches of the MBS have a maturity of
1-10 years and an interest rate of 10.17 - 12.61 percent. With this issuance of
MBS, NewState Capital took the honor of becoming the first issuer of MBS in
Korea.
REGULATION OF THE MORTGAGE INDUSTRY
Our business operations in Korea are subject to the rules and
restrictions imposed by Korea's legal and economic system as well as general
economic and political conditions in Korea. In the past, Korea has had an
unstable economy with rigid economic controls imposed by the Korean government
on the mortgage loan industry. More recently, however, Korea has begun to pursue
economic reform and development policies which have improved business conditions
in Korea for credit-specialized finance businesses including companies engaged
in the business of credit card financing, facilities leasing, installment
financing and venture capital. Korean law categorizes our residential mortgage
lending business as a form of installment financing business and, therefore,
subjects our operations to the laws and regulations affecting credit-specialized
finance businesses. There can be no assurance that the Korean government will
continue to pursue such policies, or that such policies will be successful.
As a result, our operations in Korea may be adversely affected
by one or more of the following:
- new laws or regulations, or different interpretation of
existing laws and regulations;
- our ability to timely obtain the necessary administrative or
regulatory approvals;
- our ability to comply with applicable administrative
requirements; and
- currency devaluations.
NewState Capital has registered with the Korean Financial
Supervisory Commission ("FSC") as a "specialty finance company" under the Credit
Specialized Financial Business Act of 1997 (the "Act"). NewState Capital is
therefore subject to the supervision of the FSC and certain regulations under
the Act, including the following:
- it must maintain a minimum paid-capital and equity
capital in the amount of twenty (20) billion Korean
Won (US$17.9 million) (NewState Capital currently
maintains twenty four (24) billion Korean Won
(US$21.4 million) of paid-in capital under Korean
GAAP accounting);
- in making mortgage loans, it must follow specified
procedures designed to inform and protect borrowers;
and
- it can only acquire real estate according to the
specific provisions set forth under the Act.
These regulations may limit our ability to respond to certain
development opportunities in Korea. In addition, changes in existing regulations
or policies or adoption of new regulations or policies could have an adverse
effect on our operations in Korea. We believe that NewState Capital is in
substantial compliance in all material respects with the Act and is in
possession of all necessary licenses to do business in Korea, except where the
licenses are not material to the our business and operations as a whole.
In addition, governmental agencies in Korea may:
- require NewState Capital to obtain additional
licenses in order to continue business;
- revoke the acceptance of our registration as
provided under the Act;
- regulate the interest rates that we will be
permitted to charge for mortgage loans;
- impose or change the tariffs or fees on our
operations;
- subject us to regulation not specifically related
to the residential mortgage industry; or
- adopt laws or regulations relating to the internet
and online commerce.
Any of these actions could have an adverse effect on our
operations in Korea.
EMPLOYEES
At March 31, 2000, we employed a total of 34 full time
employees and 50 commission-based sales managers. Of these full-time employees,
32 are based in Korea and 2 are based in the United States. We also trained
approximately 100 sales agents who are paid on a commission basis. We presently
plan to expand our personnel base in such areas as management, marketing,
underwriting, servicing and origination. We do not foresee any serious
difficulties in hiring these additional employees. None of our employees are
covered by a collective bargaining agreement, and we believe our employee
relations are good.
ITEM 2: DESCRIPTION OF PROPERTY
We currently lease our principal executive offices located in
Seoul, Korea and New York City. NewState Capital has entered into lease
arrangements with Dongsuh Securities Co. for the Seoul office and we have
entered into lease arrangements with Ombu Securities Corporation for the New
York office. The lease with Dongsuh Securities Co. is for approximately 1,368
square meters of commercial space located at 826-24, Yoksam-Dong, Kangnam-Gu,
Seoul, Korea.
Our lease with Ombu Securities Corporation in New York City is
on a month-to-month basis and is for approximately 600 square feet of commercial
space located at 156 West 56th Street, Suite 2005, New York, New York 10019.
NewState Capital has also entered into additional lease arrangements for its
branch offices in Taegu, Taeguseo, Changwon, Jinju, Pusan and Kwangju. We
believe that our existing facilities are sufficient for our current needs, but
additional commercial space will be required as it continues to open more branch
offices throughout Korea.
NewState Capital has recently entered into an agreement with
Sanyong Insurance Co. for the purchase of an office building located in Seoul,
Korea for 3.4 billion Korean Won (US$3 million). NewState Capital will maintain
its principal executive offices in 3,204 square meters of commercial space at
this new location. NewState Capital has agreed to assume a mortgage in the
amount of 2.4 billion Korean Won (US$2.14 million) for purposes of this
acquisition. The closing date was May 31, 2000 and we plan to move into the new
office space on July 7, 2000.
ITEM 3: LEGAL PROCEEDINGS
We are not, nor are any of our subsidiaries, subject to any
material legal proceedings. The Company or its subsidiaries may from time to
time become a party to various legal proceedings arising in the ordinary course
of their business.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
There were no submissions of matters to a vote of security
holders in the fourth quarter of our 1999 fiscal year ending on March 31, 2000.
Previous submissions to a vote of security holders in the last three fiscal
quarters of our 1999 fiscal year have already been reported in our quarterly
filings.
<PAGE>
PART II
ITEM 5: MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
Our common stock was included for quotation on the OTC
Bulletin Board under the symbol "RCOM" on April 15, 1999. Prior to April 15,
1999 and during fiscal 1998, there was essentially no trading in the common
stock. On September 15, 1999, we changed our ticker symbol to refer to our new
name, NewState Holdings, Inc. Our common stock now trades on the OTC Bulletin
Board under the symbol "NSTH."
MARKET PRICE
The following table sets forth the high and low closing bid
prices for common stock transactions on the OTC Bulletin Board for the periods
indicated. The quotations shown reflect inter-dealer prices, without retail
mark-up, mark-down or commissions and may not represent actual transactions.
QUARTER CALENDAR HIGH BID PRICE LOW BID PRICE
1998 1Q (1/1 - 3/31) $149.7656 $84.375
2Q (4/1 - 6/30) $118.125 $78.0469
3Q (7/1 - 9/30) $84.375 $35.8594
4Q (10/1 - 12/31) $59.0625 $12.6562
1999 1Q (1/1 - 3/31) $37.9687 $15
2Q (4/1 - 6/30) $11.25 $1.875
3Q (7/1 - 9/30) $5.1562 $2.50
4Q (10/1 - 12/31) $4 $2
2000 1Q (1/1 - 3/31) $2.50 $2
HOLDERS
As of March 31, 2000, there were 48 holders of record of our
common stock and 11,508,684 shares of common stock issued and outstanding.
DIVIDENDS
We did not declare any cash dividends on our common stock
during the most recent two fiscal years. It is our present policy not to pay
cash dividends on our common stock. We expect to retain earnings, if any, to
fund our growth and expansion. Any payment of cash dividends on our common stock
in the future will be dependent upon our financial condition, results of
operations, current and anticipated cash requirements and plans for expansion,
as well as other factors that we deem relevant, including adherence to Korean
company law.
NewState Capital's ability to dividend and remit funds to us
is subject to government regulation in Korea and board approval. Korean law
imposes certain restrictions upon dividends paid by corporations to their
shareholders. According to Korean law, dividends can be paid to owners of common
stock only if shareholder equity exceeds paid-in capital. NewState Capital could
not pay any dividends for the fiscal years ending March 31, 2000, 1999 and 1998
as a result of its shareholder equity being less than paid-in capital in each of
those three fiscal years.
In the event that NewState Capital's shareholder equity
exceeds its paid-in capital, NewState Capital's by-laws provide that it may
declare dividends on its common stock, either on an interim or annual basis. The
by-laws provide that shareholders of record on September 30 of each fiscal year
are eligible for an interim dividend. In order for shareholders of NewState
Capital to receive an interim dividend, the NewState Capital board must adopt a
resolution within forty-five (45) days of September 30. Shareholders of record
at fiscal year end on March 31 of each year are also eligible for an annual
dividend which is approved at the annual meeting of shareholders. The annual
dividend, if any, is generally paid within one (1) month thereafter. In the
event that NewState Capital is permitted by Korean law to pay dividends and all
required corporate approvals are obtained, then dividends would be paid to us in
Korean Won after payment by NewState Capital of certain of its corporate
expenses and then converted by us into U.S. Dollars. It is the Company's present
policy, however, to not pay cash dividends on its common stock.
The ability of NewState Capital to declare and pay dividends
to its shareholders is further restricted by the Foreign Exchange Transaction
Laws. Under the Foreign Exchange Transaction Laws, if the Korean government
believes that certain emergency circumstances exist or are likely to occur,
including, but not limited to, (i) sudden fluctuations in interest rates or
exchange rates, (ii) extreme difficulty in stabilizing the balance of payments
or (iii) a substantial disturbance in the Korean financial and capital markets,
it may impose any necessary and appropriate restrictions such as requiring
NewState Capital to obtain prior approval from the Minister of Finance and
Economy for repatriation of dividends in Korea to the United States.
RECENT SALES OF UNREGISTERED SECURITIES
On January 31, 2000, the Company issued 10,000 shares of its
common stock, $0.01 par value per share, at a price of $1.50 per share, to one
(1) Korean individual, pursuant to an exemption from registration under the
Securities Act provided by Section 4(2) thereunder and Regulation S. Proceeds of
the offering, totalling $10,000 were used for the payment of outstanding
liabilities and for general overhead expenses. Sales of unregistered shares in
the last three fiscal quarters of our 1999 fiscal year have already been
reported in our quarterly filings.
ITEM 6: MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
MANAGEMENT DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
GENERAL
The Company's business strategy, undertaken by its operating subsidiary NewState
Capital Co. Ltd. ("NewState Capital"), is primarily focused on three areas:
residential mortgage loan production, loan servicing and capital markets in
Korea. Loan production and loan servicing comprise the Company's mortgage
banking business and is core to the Company's whole operation. The operations of
the capital markets segment include issuing and selling mortgage-backed
securities (MBS) and making bulk purchases and sales of whole loans. Currently,
issuing and selling MBS is only considered a source of funding primarily for the
Company's mortgage banking business. However, the Company plans to expand this
segment as a revenue generating operation in the near future.
The Company's current business plan is to expand its mortgage origination
efforts throughout Korea, develop and offer innovative new mortgage products to
Korean middle-income families and individuals, and to securitize and sell its
mortgage loan portfolio as MBS to investors in Korea.
The Company's results of operations are influenced primarily by the level of
demand for mortgage loans, which is affected by such external factors as the
level and direction of interest rates and the strength of the overall economy,
as well as the economy in the Company's lending markets. Home mortgage loans in
Korea, including those originated by the Company, typically have variable
interest rates. There is no standard lending rate by which mortgage interest
rates are determined; however, mortgage lenders, including the Company,
typically adjust their interest rates monthly to reflect the lender's on-going
cost of funding.
The fiscal year ended March 31, 2000 ("Fiscal 1999") was the first year since
its acquisition that the Company was able to resume normal business activities.
The Company restructured its systems of operations and processes with an
emphasis on efficiently originating, underwriting and servicing investment
quality residential mortgage loans. On March 20, 2000, the Company issued
through a special purpose entity (SPE) mortgage-backed securities in the
principal amount of $38.8 million and became the first issuer of mortgage-backed
securities in Korea. The Company services the MBS, taking responsibility for
collecting on delinquent loans and recovering on defaulted loans. The Company
intends to enter the public mortgage-backed securitization market on a periodic
basis.
For Fiscal 1999 the Company produced mortgage loans in the amount of $22.6
million. During Fiscal 1999, the mortgage loan portfolio decreased to $26.1
million, compared to $98 million in Fiscal 1998. This decrease in the mortgage
loan portfolio was a result of sale of loans for issuing MBS, prepayments,
partial prepayments and scheduled amortization of $94.5 million. The prepayment
rate in the servicing portfolio was 31%. This high prepayment rate was due to
high rate of refinances of the loans originated with higher interest rates prior
to Fiscal 1999 under previous management.
<PAGE>
RESULTS OF OPERATIONS
Fiscal 1999 Compared with Fiscal 1998
As a result of the effects of the International Monetary Fund debt crisis in
Korea, NewState Capital and Youngnam Finance Co., since its acquisition by
NewState Capital, suspended new loan production from December 1997 to April
1999. With the acquisition of capital stock from NewState Capital Corp.
(NewState Capital NY) by the Company in December 1999, NewState Capital has
revamped its loan origination procedures, increased staffing and enhanced loan
origination and servicing software.
The total volume of loans produced by the Company in Fiscal 1999 was $22.6
million, up from $0.28 million in Fiscal 1998.
Total loan production by branch is summarized below:
(Dollar amounts in millions) Fiscal 1999 Fiscal 1998
------------------------------- -------------------- -------------------
Seoul $15.88 $0.28
Daegu $4.61 Nil
Pusan $0.35 Nil
Gwangju $0.43 Nil
Changwon $0.57 Nil
Jinju $0.31 Nil
Seo-Daegu $0.44 Nil
------------------------------ -------------------- -------------------
TOTAL $22.59 $0.28
============================== ==================== ===================
Factors that affect the relative volume of production among the Company's
branches are the level of mortgage lending activity in each branch's market, the
length of time the branch has been opened, and the success of each branch's
sales and marketing efforts. During Fiscal 1998, only the Seoul and Youngnam
(Daegu) offices existed.
During Fiscal 1999, the Company received 1,092 new loan applications of which
508 were approved and closed. Factors that affected the percentage of
applications received and funded during a given time period include the movement
and direction of interest rates, the average length of loan commitments issued,
the creditworthiness of applicants, the production branch's loan processing
efficiency and loan pricing decisions.
Interest Income
Interest income decreased to $13.2 million, or approximately 21.4%, in Fiscal
1999 from $16.8 million in Fiscal 1998. The decrease in interest income in
Fiscal 1999, compared to Fiscal 1998, was primarily due to the lower average
interest rates applied to the loans originated. The fall in interest rates was
due to the recovery of the Korean financial industry from the IMF Crisis. The
lower interest income was also due to a decrease of approximately 61.9 million
in mortgage loans, compared to the amount outstanding as of March 31, 1999,
reflecting prepayments and the transfer of mortgage loans to a special purpose
entity for MBS issuance.
Interest income on bank deposits decreased to $2.2 million in Fiscal 1999 from
$3.3 million in Fiscal 1998 due to a decline in cash and bank deposits to $2.5
million from $32.0 million. Funds from cash and bank deposits were used to
retire long-term debt and short-term borrowings. This resulted in decrease in
long-term debt from $70.5 million as of March 31 ,1999 to $13.4 million as of
March 31, 2000 and in short-term borrowings from $54.5 million to $30.1 million
for the same period.
Interest Expenses
Interest expenses decreased to $10.8 million in Fiscal 1999 from $15.6 million
in Fiscal 1998 due to decrease in outstanding borrowings. The Company utilized
funds from early loan repayments to reduce total borrowings to $43 million at
the end of March 31, 2000 from $125 million at the end of March 31, 1999.
Interest expenses decreased also due to the Company's success in lowering
average cost of borrowings, expressed in annual rate, from 13.72% to 11.91% and
this decrease was offset by borrowings assumed with the acquisition of Youngnam.
Net Interest Income
Net interest income increased to $2.4 million in Fiscal 1999, compared to $1.2
million in Fiscal 1998. The increase in net interest income was due to (i)
additional interest income provided by the acquisition of Youngnam and (ii)
lower interest expenses resulted from decrease in borrowings and borrowing
costs, and was offset by (i) lower interest rates on outstanding loans and (ii)
lower loans outstanding resulted from prepayments.
Provision For Loan Losses
Provision for loan losses increased to $8.9 million in Fiscal 1999 from $1.1
million in Fiscal 1998. This increase is due to additional provision to impaired
corporate loans, including an additional $1 million for general reserve. The
additional provisions are based on different credit classification and valuation
standard than the one used in Fiscal 1998.
Gain on Sales of Loans
The Company sold mortgage loans amounting to $45.76 million to a special purpose
entity (SPE) in March 2000. The SPE then issued senior certificates totaling
$36.8 million. In connection with this transaction $0.2 million was accounted
for as gain on sale of loans. The Company retained the residual interest in
securitization amounting to $7.13 million.
Total Operating Expenses
Total operating expenses were $7.3 million in the Fiscal 1999, up from $3.0
million in the Fiscal 1998. The increase during Fiscal Year 1999 was primarily
attributed to increase in salaries, employee benefits, and general and
administrative expenses due to increased staffing and office expansions
associated with the resumption of normal operations during the Fiscal 1999.
Salaries and Employee Benefits
The Company has increased staffing during Fiscal 1999 in connection with the
resumption of normal operations. Salaries and employee benefits increased 274%
in Fiscal 1999 to $4.0 million from $788,550 in the Fiscal 1998 due to the
acquisition of Youngnam and an increase of personnel from 28 to 94, excluding
personnel on commission basis.
Salaries and related expenses are summarized below for Fiscal 1999 and Fiscal
1998:
(Dollar amounts in thousands) Fiscal 1999 Fiscal 1998
------------------------------ ------------------ -----------------
Salaries $2,621 $462
Employee Benefits $403 $216
Commissions $275 $0
Severance $724 $96
------------------------------ ------------------ -----------------
Total $4,023 $774
============================== ================== =================
Total salaries, including bonuses, increased during Fiscal 1999 reflecting
continued expansion of the branch network and the staffing required for a larger
servicing portfolio. The number of employees and agents increased from 28 as of
March 31, 1999 to 197 as of March 31, 2000. Commissions during Fiscal 1999 were
paid to sales agents based on the results of new loan production.
Employee benefits are accrued for employees and directors with services of more
than one year and the amount of benefits are based on their annual compensation
and years of service.
General and Administration
General and administration expense for Fiscal 1999 increased to $3.5 million
from $1.6 million for Fiscal 1998. This was primarily due to: (i) the continued
expansion of the branch network; (ii) a larger servicing portfolio and
expenditure on loan servicing systems; and (iii) higher advertising expenditures
to promote name recognition.
Amortization of Negative Goodwill
Negative goodwill totaling approximately $14.8 million resulted from the
acquisition of NewState Capital by NewState NY in December 1998 and Youngnam by
NewState Capital in March 1999 is being amortized at rate of $2.8 million, at
the current Won:US Dollar exchange rate, each quarter over a 5 year period.
Loss on Sales of Available-for-Sale Securities
The Company realized a net loss of $3.1 million on disposition of securities
available for sale, of which $1.6 million were in connection with disposition of
720,000 shares of common stock of Chung An Finance Co. As of March 31, 2000, the
Company has a portfolio of available-for-sale securities totaling approximately
$2.5 million.
Other Income/Expense, net
Other expenses recorded $547,575 in the Fiscal 1999 whereas an income of
$148,808 was recordecd in the Fiscal 1998. Other expenses consist primarily of
refunds to borrowers for a portion of the increase in interest rates made by the
previous management during IMF crisis in Korea.
Net Income
The Company recorded a net loss of $13.8 million or $1.28 per share for Fiscal
1999 compared to a net loss of $2.087 million or $0.22 per share (based on a
proforma weighted average shares outstanding of 9,332,482) for Fiscal 1998. The
increase in net loss was primarily due to an increase in provision for loan
losses, loss on disposal of securities available for sale and higher operating
expenses associated with increased staffing and branch expansion.
LIQUIDITY AND CAPITAL RESOURCES
At March 31 , 2000, the Company had cash and cash equivalents and
interest-bearing deposits totaling $4.5 million compared to $32.5 million at
March 31, 1999. For the twelve months ended March 31, 2000, cash used in
operating activities of $6.0 million was primarily due to (i) the net loss of
$13.8 million (ii) amortization of negative goodwill of $2.8 million, (iii)
provision for loan losses of $8.8 million, (iv) net loss on disposal of
securities available-for-sale of $3.0 million, (v) cumulative effect of
accounting change of $0.6 million, and (vi) decrease in accrued expenses and
other liabilities of $1.3 million.
Cash provided by investing activities was $70.2 million was primarily due to (i)
proceeds from sales of loans of $36.8 million (ii) net decrease in loans of
$23.3 million, (iii) decrease in bank deposits of $2.8 million and (iv) sales of
securities available-for-sale of $8.8 million and (v) investment of securities
available-for-sale of $3.0 million.
For Fiscal 1999, cash used in financing activities of $91.4 million was
primarily due to (i) decrease in short-term borrowings of $33.7 million, (ii)
payment of long-term debt of $64.7 million and (iii) proceeds from issuance of
long-term debt of $1.7 million and proceeds from issuance of common stock of
$5.2 million. The Company will require additional capital to continue its
operations. The Company intends to secure additional capital by issuing
corporate bonds, pledging assets for bank borrowings, and issuing mortgage-back
securities. The Company may also issue additional equity or convertible debt
securities, if required, which may result in additional dilution to the holders
of the Company's common stock. There can be no assurance that additional
financing will be available on terms and conditions acceptable to the Company,
if available at all.
PROSPECTIVE TRENDS
Applications
During Fiscal 1999, the Company received 1,092 new loan applications. Future
application levels and loan fundings are dependent on numerous factors,
including the level of demand for mortgage loans, the level of competition in
the market, the direction of interest rates, seasonal factors and general
economic conditions.
Market Factors
Loan production increased 182 times from Fiscal 1998 to Fiscal 1999. This
increase was primarily due to the fact that the Company resumed its mortgage
origination in Fiscal 1999. The prepayment rate in the servicing portfolio
increased from Fiscal 1999 to Fiscal 2000. This was due primarily to increased
refinances as a result of the low of interests.
The Company's primary competitors are commercial banks, including Housing &
Commercial Bank, HSBC Bank, Citibank, and life insurance companies. Over the
past year, certain commercial banks have expanded their mortgage banking
operations through already-established branch networks. According to the
Quarterly Financial Review issued by Housing & Commercial Bank, as of December
31, 1999, total outstanding balance of mortgage loans in Korea was approximately
US$55 billion, indicating 5.4% increase from prior year. In view of the
continuation of the economic recovery, we believe that the market size will
continue to grow this year as well. As a mortgage provider, the Company's best
efforts will be made to increase its market share through maximum utilization of
its sales force. In addition, the Company will step up its sales efforts in
Seoul and the metropolitan area which is expected to generate 70% of the
Company's new originations. The Company is also continuing its efforts to expand
its production activities outside of Seoul. Some regions in which the Company
operates have experienced slower economic growth and recovery from the negative
impact of International Monetary Funds crisis. The Company has striven to
diversity its mortgage banking activities geographically to mitigate such
effects.
The delinquency rate, classified as loans 90 days or more past due, in the
Company's servicing portfolio decreased to 24% as of March 31, 2000. The
Company believes that this decrease was primarily the result of enhanced
efficiency and effectiveness of the new servicing system, an improved economy,
and changes in portfolio mix and aging.
This Management Discussion and Analysis of Financial Condition and
Results of Operation includes forward-looking statements which involve risks and
uncertainties. Actual events may differ materially from those discussed in the
forward-looking statements as a result of certain factors, including, but not
limited to, changes in interest rates, economic conditions, loan growth, loan
loss provisions, customer retention, failure to realize expected cost savings or
revenue enhancements from acquisitions. The Company assumes no obligation for
updating any such forward-looking statements at any time.
ITEM 7: FINANCIAL STATEMENTS
The financial statements required pursuant to this Item 7 are
included in this Form 10-KSB/A as a separate section following Item 13 hereof
and commencing on page F-1 and are hereby incorporated by reference into this
Item 7.
ITEM 8: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
We dismissed our independent auditors, Arthur Andersen LLP,
effective March 23, 2000. On that date we appointed Young Wha Corporation
("Young Wha"), the Ernst & Young International member firm in Korea, as our
independent auditors. These actions were approved by our Board of Directors on
March 23, 2000. The dismissal resulted from a mutual agreement between Arthur
Andersen LLP and the Company.
We selected and approved Young Wha after an extensive
evaluation process initiated by our Board of Directors. We had not sought the
advice of Young Wha on specific audit or accounting issues relating to our
financial statements prior to engagement of that firm.
The report of Arthur Andersen LLP on our financial statements
for the years ended December 31, 1998 and 1997 were modified due to substantial
doubt about our ability to continue as a going concern.
In connection with the audits of our financial statements for
the two most recent fiscal years and through March 28, 2000, there had been no
disagreements with Arthur Andersen LLP on any matters of accounting principles
or practices, financial statement disclosure or auditing scope or procedure,
which if not resolved to the satisfaction of Arthur Andersen LLP, would have
caused them to make reference thereto in their report on the Company's financial
statements for such years.
Arthur Andersen LLP has stated in its letter addressed to the
SEC its concurrence with the foregoing statements in this paragraph.
PART III
ITEM 9: DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
The following table sets forth, as of March 31, 2000, the
names, ages and positions of our executive officers and directors. Their
respective backgrounds are described below.
NAME AGE CAPACITIES
---- --- ----------
Ernest B. Kim 46 Chairman, President and Chief
Executive Officer of NewState
Holdings, Inc. and NewState Capital
Co., Ltd.
Jin Ki Kim 43 Vice President, Secretary and
Director of NewState Holdings, Inc.
and Director of NewState Capital Co.,
Ltd.
Alexander T. Shang 42 Treasurer and Chief Financial
Officer of NewState Holdings, Inc.
Sun W. Young 51 Independent Director of NewState
Holdings, Inc.
A. Sungil Noh 40 Independent Director of NewState
Holdings, Inc.
--------------------
NAME OF
OFFICER/DIRECTOR EMPLOYMENT HISTORY
---------------- ------------------
Ernest B. Kim Mr. Kim is the founder of NewState Capital
Co., Ltd. He is the primary decision maker for the
new management. From December 1998 to the present,
Mr. Kim has been the chairman of the board and the
chief executive officer of NewState Capital, and from
July 1999 to the present the chairman of the board
and chief executive officer of NewState Holdings,
Inc. From 1982 to 1990, Mr. Kim was the branch
manager for Mony Financial Services, a personal
financial consulting and planning firm, and, from
1991 to 1998, Mr. Kim was the district manager for
Massachusetts Mutual Financial Services, a financial
consulting and planning firm. In 1977, Mr. Kim
graduated from Young Nam University in TaeGu City,
Korea and studied marketing at New York University in
1982.
Jin Ki Kim From July 1999 until present, Mr. Kim has been
a Vice President and Director of NewState Holdings,
Inc. Mr. Kim was also elected Secretary of NewState
Holdings, Inc. on May 1, 2000. From 1996 to 1999, Mr.
Kim was manager of mortgage originations at NewLife
Financial Co., a licensed mortgage broker. From 1994
to 1996, Mr. Kim was a manager of export/import at
Grace International, Inc., a general merchandise
trading company. From 1990 to 1994, Mr. Kim was a
life insurance agent with Mutual Life of New York
Insurance Co. Mr. Kim received a B.A. in Graphics
Design in 1983 from Myung-Ji University, Seoul,
Korea.
Alexander T. Shang From July 1999 until present, Mr. Shang has
been the Treasurer and Chief Financial Officer of
NewState Holdings, Inc. From July 1997 to present, he
was Vice President of GEM Advisors, Inc., an
investment firm and a member of the National
Association of Securities Dealers. From 1994 to 1996,
he was Vice President in the Fixed Income Department
and the Capital Market Group-Emerging Markets at
Furman Selz, Inc. From 1993 to 1996, Mr. Shang was a
Vice President at Financial Security Assurance, a
triple-A mono-line insurance company specializing in
providing credit enhancement in asset-backed and
municipal bond transactions. Mr. Shang graduated from
Columbia University with a B.A. in Economics in 1979
and a B.S. in Computer Science in 1981. Mr. Shang
also received a M.S. in Management in 1984 from the
Sloan School of Management at the Massachusetts
Institute of Technology.
Sun W. Young Mr. Young has been a Director of NewState
since July 1999. He also served as Secretary of
NewState from July 1999 until January 2000. Mr. Young
received his law degree from Hofstra University
School of Law in 1989 and has been an attorney at law
licensed in the States of New York and New Jersey
since that time. He also received a Bachelor of Law
Degree from Seoul National University in Seoul, Korea
in 1971 and worked for several corporations,
including Korean Airlines.
A. Sungil Noh Mr. Noh has been a Director of NewState
since June 9, 2000. Mr. Noh is the principal of the
accounting firm, A. Sungil Noh, CPA, and practices in
the States of New York, New Jersey and Massachusetts.
Prior to establishing his firm in August 1997, he
worked with two of the world's largest accounting and
consulting firms, Ernest & Young L.L.P. and
PricewaterhouseCoopers L.L.P., for twelve(12) years
as Practice Leader of Korean Business Group and
Senior Manager. His responsibilities included
providing tax and consulting services to U.S.,
Korean, Japanese, and European companies in a variety
of industries, including investment banking and
broker dealers. His business and community services
include; financial and tax advisor to the Korean
Chamber of Commerce and Industry of U.S.A., Inc.,
internal auditor of the Palisades Park Chamber of
Commerce, internal accountant of Presbyterian Church
of Palisades, and President of the Binghamton
University Korean Alumni Association. His
professional affiliations comprise memberships in the
American Institute of Certified Public Accountants
and the New York State Society of Certified Public
Accountants and a register CPA of the States of New
York, New Jersey and Commonwealth of Massachusetts.
Mr. Noh graduated from Binghamton University with a
B.S. in Accounting in 1985..
ITEM 10: EXECUTIVE COMPENSATION.
No compensation in excess of $100,000 was awarded to, earned
by, or paid to any executive officer of the Company during the fiscal years 1999
and 1998. The following table and the accompanying notes provide summary
information for each of the last two fiscal years concerning cash and non-cash
compensation paid or accrued by Ernest B. Kim, the Company's chief executive
officer and president for the past two years.
<TABLE>
<CAPTION>
LONG TERM COMPENSATION
ANNUAL COMPENSATION AWARDS PAYOUTS
--------------------------------------------------- ------------------------------------------------
---------------- -------- ---------- --------- ----------------- ---------------- --------------- ----------- ------------------
NAME AND YEAR SALARY BONUS OTHER ANNUAL RESTRICTED SECURITIES LTIP ALL OTHER
PRINCIPLE COMPENSATION STOCK AWARD(S) UNDERLYING PAYOUTS COMPENSATION
POSITION OPTIONS/SARs
---------------- -------- ---------- --------- ----------------- ---------------- --------------- ----------- ------------------
---------------- -------- ---------- --------- ----------------- ---------------- --------------- ----------- ------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Ernest B. Kim, 1999 $532,881 0 0 0 0 0 0
CEO and
President
1998 $42,000 0 0 0 0 0 0
---------------- -------- ---------- --------- ----------------- ---------------- --------------- ----------- ------------------
</TABLE>
BOARD COMPENSATION
Our inside directors do not currently receive cash
compensation from the Company for their service as members of the Board of
Directors, although they are reimbursed for certain expenses in connection with
attendance at Board and Committee meetings. Our outside directors receive $500
per month as compensation for service as members of the Board of Directors.
There are currently two outside members of the Board of Directors. We do not
provide additional compensation for committee participation or special
assignments of the Board of Directors.
EMPLOYMENT AGREEMENTS
On January 3, 2000, NewState Capital entered into an
employment agreement with Kwang Yong Koh, Vice President and Chief Operating
Officer of NewState Capital. This agreement obligates NewState Capital to pay
Mr. Ko an annual salary of 56 million Korean Won (US$50,000), plus a 0.05%
commission on the total amount of new mortgage originations per year received by
the branch offices under Mr. Koh's control and supervision. This agreement is
terminable at will by NewState Capital.
ITEM 11: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth information regarding
beneficial ownership of our common stock by all stockholders who own 5% or more
of our common stock. The ownership reflected in the table is accurate as of the
date of this prospectus. Beneficial ownership has been determined for purposes
of completing this table in accordance with Rule 13d-3 of the Securities
<PAGE>
Exchange Act of 1934, as amended. Under Rule 13d-3 a person is deemed to be the
beneficial owner of securities if the person has or shares voting power or
investment power in respect of such securities or has the right to acquire
beneficial ownership of the securities within 60 days.
NAME AMOUNT AND NATURE OF PERCENT
AND ADDRESS BENEFICIAL OWNERSHIP OF CLASS
----------- -------------------- --------
NewState Capital Corp. 8,000,000 69.51%
c/o NewState Holdings, Inc. Direct (1)
156 W. 56th Street, Suite 2005
New York, NY 10019
Ernest B. Kim 8,000,000 69.51%
NewState Holdings, Inc. Indirect (2)
156 W. Street, Suite 2005
New York, New York 10019
Misoo Kim 8,000,000 69.51%
c/o NewState Holdings, Inc. Indirect (3)
156 W. 56th Street, Suite 2005
New York, New York 10019
The Kim Voting Trust 8,000,000 69.51%
c/o NewState Holdings, Inc. Indirect (4)
156 W. 56th Street, Suite 2005
New York, New York 10019
----------------------------------
(1) NewState Capital Corp. is a privately-held family corporation. Ernest B. Kim
is the record owner of 20.9% of the outstanding shares of NewState Capital Corp.
Mr. Kim's wife is the record owner of 16.7% of the outstanding shares, and 62.4%
of the outstanding shares are held in a voting trust for the benefit of Mr.
Kim's children. Mr. Kim's wife is the trustee of the trust.
(2) NewState Capital Corp. is the record owner of these shares and is a
privately-held family corporation. Mr. Kim is the record owner of 20.9% of the
outstanding shares of NewState Capital Corp. Mr. Kim's wife is the record owner
of 16.7% of the outstanding shares, and 62.4% of the outstanding shares are held
in a voting trust for the benefit of Mr. Kim's children. Mr. Kim's wife is the
trustee of the trust.
(3) NewState Capital Corp. is the record owner of these shares and is a
privately-held family corporation. Mrs. Kim is the record owner of 16.7% of the
outstanding shares of NewState Capital Corp. Mrs. Kim's husband is the record
owner of 20.9% of the outstanding shares, and 62.4% of the outstanding shares
are held in a voting trust for the benefit of Mrs. Kim's children. Mrs. Kim is
the trustee of the trust.
(4) NewState Capital Corp. is the record owner of these shares and is a
privately-held family corporation. Mr. Kim is the record owner of 20.9% of the
outstanding shares of NewState Capital Corp. Mr. Kim's wife is the record owner
of 16.7% of the outstanding shares, and 62.4% of the outstanding shares are held
in this voting trust for the benefit of Mr. Kim's children. Mr. Kim's wife is
the trustee of the trust and has the exclusive power to: (i) vote, or to direct
the voting of, the securities, and (ii) dispose, or to direct the disposition
of, the securities. The voting trust will terminate on July 12, 2009.
The following table lists, as of the date hereof, the number and
percentage of our outstanding shares of common stock beneficially owned,
directly or indirectly, by each executive officer and director, and by all of
our directors and officers as a group:
NATURE AND AMOUNT OF
BENEFICIAL OWNER BENEFICIAL OWNERSHIP PERCENT OF CLASS
---------------- -------------------- ----------------
Ernest B. Kim 8,000,000 69.51%
Indirect (1)
All executive officers
and directors as a group 8,000,000 69.51%
Indirect (1)
-------------------------
(1) NewState Capital Corp. is the record owner of these shares and is a
privately-held family corporation. Mr. Kim is the record owner of 20.9% of the
outstanding shares of NewState Capital Corp. Mr. Kim's wife is the record owner
of 16.7% of the outstanding shares, and 62.4% of the outstanding shares are held
in a voting trust for the benefit of Mr. Kim's children. Mr. Kim's wife is the
trustee of the trust.
We do not know of any arrangements, the operation of which
may, at a subsequent date, result in a change of control of the Company.
ITEM 12: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
None.
ITEM 13: EXHIBITS AND REPORTS ON FORM 8-K.
EXHIBITS
2 Agreement and Plan of Merger dated as of July 20, 1999 between
Racom Systems, Inc., NewState Capital Corp., NewState Capital
Co., Ltd., and NSK Holdings, Inc. (1)
3.1(a) Third Amended and Restated Certificate of Incorporation of
NewState Holdings, Inc. (filed herewith)
3.2 Fourth Amended and Restated By-Laws (filed herewith)
10.1 Agreement and Plan of Merger dated as of July 20, 1999 between
Racom Systems, Inc., NewState Capital Corp., NewState Capital
Co., Ltd., and NSK Holdings, Inc. (1)
10.2 Employment Agreement, dated January 3, 2000, between Kwang
Yong Koh and NewState Capital Co., Ltd. (English version filed
herewith)
10.3 Lease Agreement, dated May 21, 1998, by and between Dongsuh
Securities Co. and Dongsuh Finance Co., Ltd. (now known as
NewState Capital Co., Ltd.) (English version filed herewith)
10.4 Mortgage-Backed Securities Agreement, dated December 17, 1999,
by and between Daewoo Securities Co. and NewState Capital Co.,
Ltd. (English version filed herewith)
10.5 Stock Purchase Agreement, dated December 28, 1998 by and
between NewState Capital Co., Ltd. and Youngnam Merchant
Banking Co., Ltd. (English version filed herewith)
10.6 Credit Transaction Agreement, dated January 7, 2000 by and
between NewState Capital Co., Ltd. and Hyundai Marine and Fire
Insurance Co., Ltd. (English version filed herewith)
10.7 Credit Transaction Agreement, dated January 8, 2000, by and
between NewState Capital Co., Ltd. and Korea First Bank
(English version filed herewith)
10.8 Agreement to Amend Repayment Terms, dated October 7, 1999, by
and between NewState Capital Co., Ltd. and Korea Investment
Trust Co., Ltd. (English version filed herewith)
10.9 Funding Agreement, dated January 14, 1999, by and between
NewState Capital Co., Ltd. and CHE-IL Merchant Banking Corp.
(English version filed herewith)
10.10 Credit Transaction Agreement, dated January 18, 2000, by and
between NewState Capital Co., Ltd. and Youngnam Merchant
Banking Corp. (English translated version filed herewith)
10.11 Credit Transaction Agreement, dated July 12, 1999, by and
between NewState Capital Co., Ltd. and Central Merchant
Banking Corp. (English version filed herewith)
10.12 Credit Transaction Agreement, dated November 24, 1999 by and
between NewState Capital Co., Ltd. and Kookmin Bank, Ltd.
(English version filed herewith)
10.13 Underwriting Agreement, dated February 26, 1997, by and
between NewState Capital Co., Ltd. and Yeoungnam Housing
Finance Co., Ltd. (Corporate Bond Series #6) (English version
filed herewith)
10.14 Underwriting Agreement, dated May 9, 1997, by and between
NewState Capital Co., Ltd. and Yeoungnam Housing Finance Co.,
Ltd. (Corporate Bond Series #8) (English version filed
herewith)
10.15 Underwriting Agreement, dated May 9, 1997, by and between
NewState Capital Co., Ltd. and Yeoungnam Housing Finance Co.,
Ltd. (Private Placement Series #22) (English version filed
herewith)
10.16 Credit Transaction Agreement, dated May 27, 1998, by and
between NewState Capital Co., Ltd. and Teagu Bank, Ltd.
(English version filed herewith)
10.17 Request for Extension of Credit Transaction, dated May 27,
1999, by and between NewState Capital Co., Ltd. and Taegu
Bank, Ltd. (English version filed herewith)
10.18 Amendment Agreement, dated January 22, 2000, by and between
NewState Capital Co., Ltd. and Taegu Bank, Ltd. (English
version filed herewith)
16 Letter, dated March 28, 2000 from Arthur Andersen LLP, our
former principal accountants, to the Securities and Exchange
Commission pursuant to Item 304(a)(3) of Regulation S-B (2)
21 List of Subsidiaries (filed herewith)
23 Consent of Samil Accounting Corporation (filed herewith)
27 Financial Data Schedule (filed herewith)
---------------------------
(1) Incorporated by reference to the Company's Form 8-K of Racom Systems,
Inc. (Commission File No. 000-21907), filed with the Securities and
Exchange Commission on July 21, 1999.
(2) Incorporated by reference to the Company's Form 8-K of NewState Holdings,
Inc. (Commission File No. 000-21907), filed with the Commission on March
28, 2000.
REPORTS ON FORM 8-K
* Form 8-K Filed July 21, 1999 - - We announced that we had
acquired approximately 99.6% of the issued and outstanding
capital stock of NewState Capital Co., Ltd., a Korean
corporation, in exchange for issuing 8,000,000 shares of our
common stock, representing approximately 80% of our total
issued and outstanding shares of common stock, to NewState
Capital Corp, a New York corporation.
* Form 8-K/A filed on October 1, 1999 - - We amended our
Report on Form 8-K filed on July 21, 1999 by providing certain
financial statements and pro forma financial information of
NewState Capital Co., Ltd., our recently acquired Korean
subsidiary in a reverse acquisition. We also announced that
effective September 15, 1999 we changed our name to NewState
Holdings, Inc. and that at the opening of business on
September 17, 1999 our new OTC Bulletin Board symbol was
"NSTH".
* Form 8-K filed on October 20, 1999 - - We announced that we
had adopted a fiscal year consistent with the fiscal year of
NewState Capital Co., Ltd., our recently acquired Korean
subsidiary in a reverse acquisition. As a result of this
change, our fiscal year will end on March 31 of each year.
* Form 8-K filed on March 28, 2000 - - We announced that we
had dismissed our independent auditors, Arthur Andersen LLP,
effective March 23, 2000, and on that date we appointed Young
Wha Corporation ("Young Wha"), the Ernst & Young International
member firm in Korea, as our independent auditors.
<PAGE>
INDEX TO FINANCIAL STATEMENTS OF 1999
Page
----
Independent Auditors' Report F-2
Financial Statements:
Consolidated Balance Sheet as of March 31, 2000 F-3
Consolidated Statement of Operations for the Year
Ended March 31, 2000 F-4
Consolidated Statement of Shareholders' Deficit
for the Year Ended March 31, 2000 F-5
Consolidated Statement of Cash Flows for the
Year Ended March 31, 2000 F-6
Notes to Consolidated Financial Statements F-7
F-1
<PAGE>
YOUNG WHA
ERNST & YOUNG INTERNATIONAL
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders
NewState Holdings, Inc.
We have audited the accompanying consolidated balance sheet of NewState
Holdings, Inc. and its subsidiaries (the "Company") as of March 31, 2000 and the
related consolidated statements of operations, shareholders' deficit and cash
flows for the year then ended. These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. These standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statements presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of NewState Holdings,
Inc. and its subsidiaries as of March 31, 2000, and the results of their
operations and cash flows for the year then ended in conformity with accounting
principles generally accepted in the United States of America.
As described in Notes 1 and 11, the Company is subject to liquidity risk and it
operates under adverse economic conditions in Korea and the Asia Pacific region.
As described in Note 2, the Company changed its method of accounting for
severance and retirement benefits for NewState Capital Co., Ltd., a subsidiary
of the Company, effective April 1, 1999.
/S/ YOUNG WHA CORPORATION
June 8, 2000
Seoul, Korea
F-2
<PAGE>
NEWSTATE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
March 31, 2000
<TABLE>
<CAPTION>
U. S. dollars
(Note 2)
-------------------------
ASSETS
<S> <C>
Cash and cash equivalents $ 363,394
Restricted cash (Note 2) 2,134,601
Interest-bearing deposits with banks 2,071,229
Securities available for sale (Note 3) 2,472,296
Securities held to maturity (Note 3) 66,841
Loans held for investment (Note 4) 15,270,126
----------
Loans held for sale (Note 4) 11,461,433
Residual interest in securitization (Note 2) 7,168,060
Premises and equipment, net 50,917
Accrued interest receivable 455,318
Other assets (Note 5) 4,745,431
---------------------
-------------------
Total assets $ 46,259,646
===================
LIABILITIES AND SHAREHOLDERS' DEFICIT
Short-term borrowings (Note 6) $ 30,067,236
Accrued expenses and other liabilities 1,193,857
Long-term debt (Note 7) 13,437,807
Severance and retirement benefits (Note 2) 20,422
Negative goodwill (Note 2) 11,009,721
-------------------
Total liabilities 55,729,043
-------------------
Minority interest (29,560)
Commitments and contingencies -
Shareholders' deficit:
Common stock: $.01 par value;
40,000,000 shares authorized;
11,508,684 shares issued and outstanding 5,512,480
Preferred Stock: no par value;
10,000,000 shares authorized;
none issued and outstanding
Accumulated deficit (14,244,383)
Accumulated other comprehensive loss (707,934)
-------------------
Total shareholders' deficit (9,439,837)
-------------------
Total liabilities and shareholders' deficit $ 46,259,646
===================
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-3
<PAGE>
NEWSTATE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS
Year Ended March 31, 2000
<TABLE>
<CAPTION>
U. S. dollars
(Note 2)
-------------------------
<S> <C>
Interest income:
Loans $ 11,009,722
Deposits with banks 2,191,112
------------------
Total interest income 13,200,834
Interest expense:
Short-term borrowings 6,003,369
Long-term debt 4,817,814
------------------
Total interest expense 10,821,183
------------------
Net interest income 2,379,651
Provision for loan losses (8,852,048)
------------------
Net interest expense after provision for loan losses (6,472,397)
------------------
Gain on sale of loans 212,102
Net loss on disposal of securities available for sale (3,055,412)
Other income and expenses:
Salaries and employee benefits (3,024,224)
General and administration (3,591,892)
Provision for severance and retirement benefits (724,267)
Amortization of negative goodwill 2,754,758
Other, net (547,575)
------------------
(5,133,200)
------------------
Loss before cumulative effect of accounting change
And income taxes (14,448,907)
Cumulative effect of accounting change 590,150
Provision for income taxes -
Minority interest 64,354
------------------
Net loss $ (13,794,403)
==================
Basic and diluted net loss per share of common stock $ (1.28)
Average number of shares outstanding ------------------
10,771,245
==================
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-4
<PAGE>
NEWSTATE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF SHAREHOLDERS' DEFICIT
Year Ended March 31, 2000
<TABLE>
<CAPTION>
Additional Accumulated other
Capital stock paid-in Retained earnings comprehensive
Shares Amount capital (accumulated deficit) income (loss) Total
------ ------ ------- --------------------- ------------- -----
<S> <C> <C> <C> <C> <C> <C>
Balance at April 1, 1999 1,332,482 $ 13,325 $ -- $ (449,980) $ 28,840 $ (407,815)
Issuance of common stock 10,176,202 101,762 5,397,393 -- 5,499,155
Net loss (13,794,403) -- (13,794,403)
Net change in unrealized loss
on securities available
for sale (223,602) (223,602)
Foreign currency translation
adjustments (513,172) (513,172)
Comprehensive loss (14,531,177)
Balance at March 31, 2000 11,508,684 $ 115,087 $5,397,393 $ (14,244,383) $ (707,934) (9,439,837)
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-5
<PAGE>
<TABLE>
<CAPTION>
NEWSTATE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
Year Ended March 31, 2000
U.S. dollars
(Note 2)
----------------------
<S> <C>
Cash flows from operating activities:
Net loss $ (13,794,403)
Adjustments to reconcile net loss to net cash used in
Operating activities:
Minority interest ) (64,354)
Depreciation and amortization 143,624
Amortization of negative goodwill ) (2,754,758)
Provision for loan losses 8,852,048
Gain on sale of loans (212,102)
Net loss on disposal of securities available for 3,055,412
sale
Provision for severance and retirement benefits 724,267
Cumulative effect of accounting change ) (590,150)
Decrease in accrued expenses and other liabilities ) (1,303,672)
Increase in accrued interest receivable and other ) (11,873)
assets
----------------------
Net cash used in operating activities ) (5,955,961)
Cash flows from investing activities:
Proceeds from sale of loans 36,830,835
Decrease in loans, net 23,318,439
Decrease in interest bearing deposits with banks 2,769,882
Proceeds from sale of securities available for sale 8,814,197
Purchase of securities available for sale ) (3,032,558)
Others ) 1,554,574
----------------------
Net cash provided by investing activities 70,255,369
Cash flows from financing activities:
Decrease in short-term borrowings, net ) (33,678,770)
Proceeds from issuance of common stock 5,251,655
Proceeds from issuance of long-term debt 1,713,062
Payment on long term-debt ) (64,734,695
----------------------
Net cash used in financing activities ) (91,448,748
Effect of exchange rate changes on cash 18,016
----------------------
Net decrease in cash and cash equivalents ) (27,131,324)
Cash and cash equivalents at beginning of year 27,494,718
----------------------
Cash and cash equivalents at end of year $ 363,394
======================
Supplemental cash flow information:
Cash paid for interest $ 10,844,559
======================
Cash paid for income taxes $ -
======================
Non-cash investing and financing activities:
Residual interest retained in loans securitized $ 7,168,060
======================
Loans transferred to held for sale $ 11,461,433
======================
Mortgage loans assumed $ 2,166,066
======================
Unrealized loss on securities available for sale,
Accounted for as comprehensive income $ 223,602
======================
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-6
<PAGE>
NEWSTATE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2000
1. Organization and Business
-------------------------
The accompanying financial statements report the consolidated accounts of
NewState Holdings, Inc. (formerly Racom Systems, Inc., the "Company") and
its wholly-owned subsidiaries, NSK Holdings, Inc. (a Delaware corporation,
"NSK"), Racom Systems, Inc. (a Colorado corporation), and its 99.6% owned
and newly acquired subsidiary, NewState Capital Co., Ltd. (a Korean
corporation, "NewState Capital"). As described below, the Company has
treated the transaction as a reverse acquisition. The Company was
incorporated on June 3, 1991 pursuant to the laws of the State of Delaware
and presently has its principal executive offices in Seoul, Korea and New
York, New York, United States of America.
On July 20, 1999, the Company acquired 99.6% (4,958,000 shares) of the
issued and outstanding capital stock of NewState Capital, which was
formerly a subsidiary of NewState Capital Corp., a New York corporation
("NewState NY"), in exchange for issuing 8,000,000 shares of the Company's
common stock, representing approximately 80% of the Company's total issued
and outstanding shares of common stock, to NewState NY. The Company also
assumed a US$5,000,000 liability of NewState NY to a bank. As a result of
the acquisition, (i) NewState Capital became a subsidiary of NSK, (ii)
several new investors acquired 667,000 shares of the Company for
US$1,000,000 (US$1.50 per share), and (iii) NewState NY owned 80% of the
common stock in the Company. Subsequently, NewState NY filed a Certificate
of Dissolution with the New York Department of State on December 29, 1999
and is currently in the process of winding up its affairs and distributing
all of its property and assets, including its 80% stock ownership in the
Company, to the shareholders of NewState NY.
The Company accounted for the acquisition as a purchase under a reverse
acquisition procedure whereby NewState Capital's operations and retained
earnings are reported as continuous. The proforma results of operations,
assuming the acquisition had occurred on April 1, 1999, are not
significantly different from the reported result of operations.
On December 8, 1998, NewState NY acquired 3,980,000 (99.5%) shares of
Dongsuh Finance Co., Ltd.'s common stock from Dongsuh Horizon ("Dongsuh
Horizon") Securities Co., Ltd. for US$1 in cash and changed its name to
NewState Capital. The acquisition was accounted for as a purchase. In
connection with the acquisition of NewState Capital, Dongsuh Horizon,
forgave $10,780,074 of short-term loan receivable due from NewState
Capital.
As a result of the purchase, the following purchase price adjustments were
recorded as of December 9, 1998 in NewState Capital's financial statements
(Korean won in thousands):
Increase (decrease)
--------------------
Interest-bearing deposits with banks $ 6,331
Securities held to maturity 3,426
Loans (2,341,422)
Accrued interest receivable (84,967)
Long-term debt 93,868
Premises and equipment (164,579)
The negative goodwill resulting from the purchase price adjustments
amounted to $7,151,902, which is being amortized over 5 years using the
straight-line method.
On March 12, 1999, NewState Capital acquired all of the outstanding stock
of Youngnam Housing Finance Co., Ltd. for $16,521,739 in cash. The
acquisition was recorded under the purchase accounting method. The
acquisition resulted in negative goodwill of $6,702,314, which is being
amortized over 5 years using the straight-line method.
F-7
<PAGE>
Liquidity Risk
A significant portion of the Company's liabilities are short-term or due on
demand, whereas most of its assets are long-term loans or investments. In
order to meet its obligations and sustain its operations, the Company must
generate sufficient cash flow through refinancing of borrowings,
collections on or sale of loans, sale of securities, or through capital
contributions.
2. Summary of Significant Accounting Policies
------------------------------------------
Basis of Financial Statements
The consolidated financial statements include the accounts of NewState
Holdings, Inc. and all wholly-owned and majority-owned subsidiaries. All
significant intercompany transactions have been eliminated in
consolidation. The official accounting records of NewState Capital are
maintained in Korean won in accordance with the relevant laws and
regulations of the Republic of Korea and are adjusted herein to conform to
accounting principles generally accepted in the United States of America.
The financial statements of NewState Capital are translated into U.S.
Dollars at the year-end exchange rate of W1,108.0 to US$1 for assets and
liabilities and a weighted average exchange rate of W1,167.5 to US$1 for
income and expenses. The resulting translation adjustments are recorded as
a component of comprehensive income in shareholders' equity.
Accounting Change
Prior to April 1, 1999, NewState Capital accounted for the severance and
retirement benefits under SFAS No. 87 "Employers' Accounting for Pensions"
Effective from April 1, 1999, NewState Capital accounts for its employee
severance and retirement benefits liability in accordance with EITF Issue
88-1, as the obligation arising from services performed to and at rates of
pay in effect at the fiscal year end, since the severance and retirement
benefits are different from the pension plans prevailing in the United
States of America. The differences are as follows:
The severance and retirement benefits are lump-sum payment obligations upon
termination of employment; the payment amount of the benefit is determined
based on the service years and rates of pay at the termination. Also,
employees, at their option, become entitled to request advance payments of
accrued severance and retirement benefits while being continuously employed
by the same employer. In this case, the service period of those employees
begins from the date of the advance payments.
The cumulative effect of the accounting change above amounting to $590,150
was credited to income (there is no tax effect attributable to the change).
The following pro forma results reflect the assumption of retroactive
application of the new method to NewState Capital:
Year ended
March 31, 1999
-----------------------
Net loss $ (2,308,026)
Earnings per share of common stock $ (4.64)
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with generally
accepted accounting principles in the United States of America requires
management to make estimates and assumptions that affect amounts reported
in the consolidated financial statements and the accompanying notes. The
more significant estimates are loan loss reserve and fair value of residual
interests in securitization. Actual results reported may differ from these
estimates.
F-8
<PAGE>
Cash Equivalents
Cash equivalents consist of interest bearing bank deposits and other
investments that are readily convertible into cash and have original
maturities of three months or less.
Restricted Cash
Bank deposits amounting to approximately $1,773,590 have been pledged as
collateral for certain short-term borrowings and long-term debt as of March
31, 2000. In addition, bank deposits amounting to $361,011 have been
pledged as collateral for mortgage loans sold through securitization as of
March 31, 2000.
Securities Held to Maturity and Available for Sale
Investments for which the Company has the positive intent and ability to
hold to maturity are reported at amortized cost.
Securities available for sale consist of certain equity and debt securities
which management believes could be sold in response to changes in market
conditions or other factors. Unrealized holding gains or losses, net of tax
if applicable, are included as a component of other comprehensive income in
shareholders' equity until realized.
Realized gains and losses on the sale of securities available for sale are
determined using the specific-identification method.
Declines in the fair value of individual held-to-maturity and
available-for-sale securities below their cost that are determined to be
other than temporary result in write-downs of the individual securities to
their fair value. The related write-downs are included as losses in the
statement of operations.
Loans Held for Investment
Loans are stated at unpaid principal balances, less allowance for loan
losses.
Mortgage Loans Held for Sale
Mortgage loans originated or reclassified from loans held for investment
with the intent for sale in the secondary market are carried at the lower
of cost, net of a valuation allowance, or estimated market value in the
aggregate. Market value is determined using current market rates for loans
of similar quality and type. Net unrealized losses, if any, would be
recognized in a valuation allowance by charges to income. Each of the
mortgage loans are primarily secured by one family residential real estate
located within and throughout the Republic of Korea.
Recognition of Interest Income
Interest income on loans held for investment and held for sale is
recognized on an accrual basis. The accrual of interest is discontinued
if, in management's opinion, full payment of principal or interest is in
doubt, or when principal or interest is past due over 90 days or more, and
collateral, if any, is insufficient to cover principal and interest.
Non-accrual loans are those on which the accrual of interest is
discontinued. When the interest accrual is discontinued, all uncollected
accrued interest is reversed. Interest income is subsequently recognized
only to the extent cash payments are received. Discounts or premiums
associated with the acquisition of NewState Capital and Youngnam Housing
Finance Co., Ltd. are recognized on an effective yield method, considering
early repayment of loans and impaired or past due loans.
Allowance for Loan Losses
The allowance for loan losses on loans held for investment is calculated,
in part, based on historical loss experience. In addition, management
takes into consideration other factors such as known and inherent risks in
the portfolio, adverse situations that may affect the borrowers' ability
to repay, the estimated value of any underlying collateral, and current
economic conditions.
The Company considers all non-accrual commercial and consumer loans as
impaired loans. Loan allowances on commercial loans deemed to be impaired
are determined based upon an estimate of future cash flows discounted at
the related loans' effective rate. Write-offs are recorded only after all
practical efforts to collect the loan have been exhausted.
F-9
<PAGE>
Sale of Loans
Gains or losses resulting from securitization of mortgage loans are
recognized at the date of settlement and are based on the difference
between the selling price for securitization and carrying value of the
related loans sold. Such gains and losses may be increased or decreased by
the amount of any servicing-related premiums received. Nonrefundable fees
and direct costs associated with the origination of the mortgage loans are
deferred and recognized when the loans are sold.
Loan securitizations are accounted for as a sale when control of these
loans is surrendered, to the extent that consideration other than
beneficial interests in the loans transferred is received in the exchange.
Liabilities and derivatives incurred or obtained by the transfer of loans
are required to be measured at fair value, if practicable. In addition,
servicing assets and other retained interests in the loans are measured by
allocating the previous carrying value between the loans sold and the
interest retained, if any, based on their relative fair market values at
the date of transfer.
Residual Interest in Securitization
Residual interests in securitizations ("Residuals") are recorded as a
result of the sale of loans through securitizations.
The loan securitizations are generally structured as follows:
First, the Company sells a portfolio of mortgage loans to a special purpose
entity ("SPE") which has been established for the limited purpose of buying
and reselling mortgage loans. The SPE then issues interest-bearing
asset-backed securities (the "Certificates") in an amount to be determined
based on discounted cash flows from the mortgage loans using a
risk-appropriate discount rate. One or more investors purchase these
Certificates for cash. The cash proceeds are used to pay the Company the
cash portion of the purchase price for the mortgage loans. The SPE also
issues a certificate representing the residual interest in the payments on
the securitized loans. In addition, the Company may provide a credit
enhancement for the benefit of the investors in the form of additional
collateral (over-collateralization account or "OC Account") held by an
Owners Trust (the "Trust"). The OC Account is required by the servicing
agreement to be maintained at certain levels. At the closing of each
securitization, the Company removes from its consolidated balance sheet the
mortgage loans held for sale and adds to its consolidated balance sheet (i)
the cash received, (ii) the estimated fair value of the interest in the
mortgage loans retained from the securitizations (Residuals), which consist
of (a) the OC Account and (b) the net interest receivable ("NIR") and (iii)
the estimated fair value of the servicing asset. The NIR represents the
discounted estimated cash flows to be received by the Company in the
future. The excess of the cash received and the assets retained by the
Company over the carrying value of the loans sold, less transaction costs,
equals the net gain on sale of mortgage loans recorded by the Company.
The Company allocates its basis in the mortgage loans between the portion
of the mortgage loans sold through the Certificates and the portion
retained (the Residuals and servicing assets) based on the relative fair
values of those portions on the date of sale. The Company is not aware of
an active market for the purchase or sale of Residuals and, accordingly,
the Company determines the estimated fair value of the Residuals by
discounting the expected cash flows using a discount rate commensurate with
the risks involved. The Company has utilized an effective discount rate of
14% on the estimated cash flows released from the OC Account to value the
Residuals through securitization.
The Company receives periodic servicing fees for the servicing and
collection of the mortgage loans as master servicer of the securitized
loans. In addition, the Company is entitled to the cash flows from the
Residuals that represent collections on the mortgage loans in excess of the
amounts required to pay the Certificate principal and interest, the
servicing fees and certain other fees such as trustee and custodial fees.
At the end of each collection period, the aggregate cash collections from
the mortgage loans are allocated first to the base servicing fees and
certain other fees such as trustee and custodial fees for the period, then
to the Certificate holders for interest at the pass-through rate on the
Certificates plus principal as defined in the servicing agreements. If the
amount of cash required for the above allocations exceeds the amount
collected during the collection period, the shortfall is drawn from the OC
Account. If the cash collected during the period exceeds the amount
necessary for the above allocation, and there is no shortfall in the
F-10
<PAGE>
related OC Account, the excess may be reinvested in certain prescribed
financial products. If the OC Account balance is not at the required credit
enhancement level, the excess cash collected is retained in the OC Account
until the specified level is achieved. The cash and collateral in the OC
Account is restricted from use by the Company. Cash held in the OC Account
may be used to make accelerated principal paydowns on the Certificates to
create additional excess collateral in the OC Account which is held by the
Trust on behalf of the Company as the Residual holder. The specified credit
enhancement levels are defined in the servicing agreement as the OC Account
balance expressed generally as a percentage of the current collateral
principal balance.
The Company uses a lifetime default rate estimate of 2% which results in
constant default rate of approximately 1%. All of the mortgage loans are
fixed rate. These estimates are based on historical loss data for
comparable loans and the specific characteristics of the loans originated
by the Company. The Company estimates prepayments by evaluating historical
prepayment performance of comparable mortgage loans and the impact of
trends in the industry.
The Company's Residuals are subordinate to the Certificates until the
Certificate holders are fully paid.
Foreclosed Real Estate
Real estate acquired through loan foreclosure is to be sold and initially
carried at fair value, minus estimated costs to sell at the date of
foreclosure. Valuations are periodically performed by management and an
allowance for loss is established by a charge to operations if the carrying
value of a property exceeds its fair value, minus estimated costs to sell.
Foreclosed real estate amounting to $4,626 as of March 31, 2000 was
included in other assets in the accompanying balance sheet.
Premises and Equipment
Premises, furniture and equipment are carried at cost less accumulated
depreciation. Expenditures for normal repairs and maintenance are charged
to current operations as incurred. Expenditures which extend the life of
assets are capitalized. Depreciation is provided using the
declining-balance method over the estimated useful lives of the assets,
which range from three to eight years for office furniture, equipment and
leasehold improvements. Deprecation expense for the year ended March 31,
2000 amounted to $143,624 and accumulated depreciation at March 31, 2000
amounted to $283,921.
Severance and Retirement Benefits
In accordance with the Korean Labor Standards Law and NewState Capital's
regulations, terminating employees with at least one year of service are
entitled to severance and retirement benefits based on the rates of pay in
effect at the time of termination, years of service and certain other
factors. NewState Capital provides for this liability at an amount
sufficient to state the estimated obligation arising from services
performed to and at rates of pay in effect at year end. Funding of this
liability is not required by Korean law.
In accordance with the Korean National Pension Law, NewState Capital has
prepaid a portion of its severance and retirement benefits obligation to
the Korean National Pension Corporation at the rate of three percent of
payroll expense. Such prepayments amounting to $10,128 at March 31, 2000
have been offset against NewState Capital's liability for severance and
retirement benefits. In accordance with a revision of the Korean National
Pension Law, these prepayments are no longer required effective April 1,
1999.
In order to obtain tax benefits, NewState Capital funded its severance and
retirement benefits obligation by depositing with life insurance companies
the amount of $49,477 as of March 31, 2000, and nominating NewState
Capital's employees as beneficiaries of these deposits. Accordingly, this
amount has been offset against NewState Capital's obligation for severance
and retirement benefits.
Negative Goodwill
Negative goodwill, which represents the excess of fair value over purchase
price of net assets acquired, is amortized on the straight-line basis over
5 years.
F-11
<PAGE>
Income Taxes
The Company uses the liability method in accounting for income taxes, which
reflects the tax effect of tax loss carryforwards and temporary differences
between the tax basis of assets and liabilities and their reported amounts
in the accompanying financial statements. Deferred tax assets and
liabilities are measured using the enacted tax rates and laws that will be
in effect when the differences are expected to reverse.
A valuation allowance is provided on deferred income tax assets where it is
more likely than not that such assets will not be realized.
Net Earnings (Loss) Per Share
Earnings (loss) per share of common stock is computed by dividing net
income (loss) by the weighted average number of common shares outstanding
during the period.
Comprehensive Income
The Company has adopted Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income", which defines and establishes the
standards for reporting comprehensive income. Comprehensive income for the
Company includes net income, the change in unrealized gains and losses on
available for sale securities and foreign currency translation adjustments.
The Company has presented these items in the statement of changes in
shareholders' equity.
3. Securities
----------
Securities available for sale at March 31, 2000 are as follows:
Gross
unrealized
Cost losses Fair value
------------- ---------------- ----------------
Equity securities $ 2,695,898 $ 223,602 $ 2,472,296
----------------- ------------- ------------ ---------------
Certain securities available for sale amounting to $84,856 have been
pledged as collateral for certain short-term borrowings and long-term debt.
Securities held to maturity at March 31, 2000 consist of Korean government
bonds amounting to $66,841, which have a fair value of $58,593.
During the period ended March 31, 2000, the Company sold securities
available for sale amounting to $11,869,609 for $8,814,197 and realized
gains and losses of $263,851 and $3,319,263, respectively.
F-12
<PAGE>
The scheduled maturities of debt securities held-to-maturity at March 31,
2000 are as follows:
<TABLE>
<CAPTION>
Amount
----------------------------------------------------
Cost Fair value
----------------------- ------------------------
<S> <C> <C>
Due in one year or less $ 33,949 $ 33,896
Due from one to five years 15,988 11,795
Due from five to ten years 16,904 12,902
---------------------- ------------------------
$ 66,841 $ 58,593
====================== ========================
</TABLE>
4. Loans
-----
Loans held for investment at March 31, 2000 are as follows:
<TABLE>
<CAPTION>
Allowance for Balance at
Principal loan losses March 31, 2000
------------------- ------------------- ----------------
<S> <C> <C> <C>
Loans held for investment $ 23,404,996 $ 8,134,870 $ 15,270,126
---------------------------------------------------------------------------------------------------------
</TABLE>
Loans held for investment consist of residential mortgage loans
(approximately 63%) and commercial and consumer loans (approximately
37%) at March 31, 2000.
F-13
<PAGE>
Activity in the allowance for loan losses is summarized as follows:
Amount
-----------------------
Balance at beginning of year $ -
Provision for loan losses 8,134,870
------------------------- ---------
----------------------
Balance at end of year $ 8,134,870
---------------------- ---------
======================
Provision for loan losses in the accompanying consolidated statement of
operations amounting to $8,852,048 includes provision for accrued interest
on loans amounting to $717,178.
Non-accrual loans in loans held for investment totaled $8,376,014 or 35.8%
of the total loans held for investment at March 31, 2000. The Company has
not recognized any interest income related to the non-accrual loans during
the year ended March 31, 2000.
Impaired loans (commercial and consumer loans) at the end of the year
totaled $2,031,893 in principal balances and the average impaired loan
balances totaled $6,648,454 during the fiscal year. Interest income that
would have been recorded for impaired loans amounted to $464,803 during the
fiscal year. Non-accrual residential real estate loans are not treated as
impaired loans since mortgaged collateral can be foreclosed to recover the
loan amounts to the adequate extent.
Scheduled maturities of loans held for investment at March 31, 2000 are as
follows:
Amount
---------
Due in one year or less $ 2,908,137
Due from one to five years 4,657,968
Due from five to ten years 5,372,226
Due after ten years 10,466,665
------------------
$ 23,404,996
==================
On March 31, 2000, the Company reclassified $11,461,433 of residential real
estate loans from loans held for investment to loans available for sale,
which are recorded at the lower of cost or estimated market value in the
aggregate.
F-14
<PAGE>
Certain loans held for investment and mortgage loans available for sale
amounting to $10,264,660 are pledged as collateral for certain short-term
borrowings and long-term debt.
5. Other assets
------------
Other assets as of March 31, 2000 consist of the following:
Amount
------
Prepayment for purchase of real estate asset $ 2,643,646
Guarantee deposits 1,297,596
Others 804,189
-------------
$ 4,745,431
=============
6. Short-term Borrowings
---------------------
Short-term borrowings at March 31, 2000 consist of the following:
Annual interest
rates (%) Amount
----------------- -----------------
General term borrowings 9.2 - 13.4 $ 1,637,633
Notes with short-term finance companies 12.8 - 13.7 28,429,603
-----------------
$ 30,067,236
================
Certain bank deposits, loans held for investment, mortgage loans held for
sale and securities available for sale are pledged as collateral for the
above borrowings. Historically, short-term borrowings have been revolving
in nature and refinanced by new borrowings as they become due. Management
believes that the Company will continue to borrow in the near term
short-term funds for operations through renewals of existing borrowing
arrangements.
F-15
<PAGE>
Maximum and average borrowings and the weighted average interest rate on
short-term borrowings for the year ended March 31, 2000, are as follows:
Amount
-------------------------
Maximum borrowings $ 68,107,401
Average borrowings outstanding $ 58,863,738
Weighted average interest rate per annum 10.81%
7. Long-term Debt
--------------
Long-term debt at March 31, 2000 is comprised of the following:
Reference Amount
------------------ -----------------------
Debentures (A) $ 7,661,633
Bank loans (B) 5,776,174
----------------------
$ 13,437,807
======================
(A) Debentures outstanding at March 31, 2000 are comprised of the following:
<TABLE>
<CAPTION>
Annual interest
Maturity date rates (%) Amount
------------------- -------------------- ----------------------
<S> <C> <C> <C>
Collaterized debentures May 5, 2000 11.0 $ 4,512,635
Non-collaterized debentures June 29, 2001 10.5 3,158,845
--------------------
7,671,480
Less: discounts (9,847)
--------------------
$ 7,661,633
====================
</TABLE>
(B) Bank loans at March 31, 2000 are comprised of the following:
<TABLE>
<CAPTION>
Annual interest
Maturity date rates (%) Amount
------------------------ ---------------------- -------------------------
<S> <C> <C> <C>
Hanareum Merchant Bank
January 14, 2002 14.5 $ 3,610,108
Ssangyong Fire and Marine
Insurance March 25, 2003 10.25 2,166,066
-----------------------
$ 5,776,174
=======================
</TABLE>
F-16
<PAGE>
Certain bank deposits and financial assets are pledged as collateral for
the collateraized debentures and the loan payable to Hanareum Merchant
Bank.
In March 2000, the Company entered into an agreement to purchase an office
building located in Seoul, Korea for $3,068,592. A prepayment of
$2,643,646, included in other assets, was made in cash amounting to
$477,581 and by assuming the Ssangyong Fire and Marine Insurance mortgage
loan on the property amounting to $2,166,066.
The maturities of long-term debt outstanding at March 31, 2000, excluding
discounts on debentures, are as follows:
<TABLE>
<CAPTION>
Debentures Bank
(par value) loans Total
----------------------- ------------------------- ----------------------
<S> <C> <C> <C>
2000 $ 5,856,579 $ 1,299,639 $ 7,156,218
2001 1,805,054 2,743,682 4,548,736
2002 - 1,732,853 1,732,853
----------------------- ------------------------- ----------------------
$ 7,661,633 $ 5,776,174 $ 13,437,807
======================= ========================= ======================
</TABLE>
8. Financial Instruments
---------------------
The Company estimates the fair value of financial instruments using
available market information and appropriate valuation methods. However,
considerable judgment is necessarily required to interpret market data to
develop the estimates of fair value. Accordingly, the estimates presented
herein are not necessarily indicative of the amounts that could be realized
in a current market exchange. The use of different market assumptions or
estimation methods may have a material impact on the estimated fair value
amounts.
F-17
<PAGE>
The estimated fair values of the Company's financial instruments as of
March 31, 2000 are as follows:
<TABLE>
<CAPTION>
Korean won in thousands
------------------------------------------------
Book Fair
value Value
------------------- -------------------------
<S> <C> <C>
Financial assets:
Cash and cash equivalents $ 363,394 $ 363,394
Restricted cash 2,134,601 2,134,601
Interest-bearing deposits with banks 2,071,229 2,071,229
Securities available for sale 2,472,296 2,472,296
Securities held to maturity 66,841 58,593
Loans held for investment 15,270,126 15,219,218
--------------------------- ---------- ----------
Loans held for sale 11,461,433 12,415,864
Residual interest in securitization 7,168,060 7,168,060
Accrued interest receivable 455,318 455,318
Financial liabilities:
Short-term borrowings 30,067,236 30,067,236
Long-term debt 13,437,807 13,846,573
</TABLE>
The following methods and assumptions were used in estimating the Company's
fair value disclosures for financial instruments:
F-18
<PAGE>
Cash and cash equivalents: The fair value of cash and cash equivalents
approximates the carrying value reported in the balance sheet.
Restricted cash: The fair value of restricted cash approximates the
carrying value reported in the balance sheet.
Interest-bearing deposits with banks: The fair value of interest-bearing
deposits with banks approximates the carrying value reported in the balance
sheet.
Securities available for sale and held to maturity: Fair values for
securities are based on quoted market prices.
Loans held for investment and sale: Fair values for loans are estimated
using discounted cash flows analysis using interest currently being offered
for loans with similar term to borrowers of similar credit quality. Fair
values for impaired loans are estimated using discounted cash flow analysis
or underlying collateral values, where applicable.
Residual interests in securitizations: The fair value of residual interests
in securitizations is determined by calculating the net present value of
estimated future cash flows using a discount rate commensurate with the
risks involved.
Accrued interest receivable: The carrying value of accrued interest
receivable approximates its fair value.
Short-term borrowings: The carrying value reported in the balance sheet
approximates fair value as the short-term borrowings are due upon demand
and bear interest at a rate that approximates current market interest rates
for similar type short-term borrowings.
Long-term debt: The fair value of long-term debt is determined by
discounting the expected cash payments at the current market interest rate
over the term of long-term debt.
F-19
<PAGE>
9. Capital Stock
-------------
The following table illustrates the computation of basic and diluted loss
per share:
Numerator:
Net loss $ (13,794,403)
Denominator for basic and diluted loss per share:
Weighted-average common shares outstanding 10,771,245
--------------
Basic and diluted loss per share $ (1.28)
==============
The weighted-average common shares outstanding are calculated giving
retroactive effect, to April 1, 1999, of the Racom shares outstanding as of the
July 20, 1999 exchange transaction.
10. Income Taxes
------------
At March 31, 2000 the Company has Net Operating Loss ("NOL") carryforwards
for U.S. federal income tax purposes and Korean income tax purposes of
$300,954 which will expire in the years 2007 through 2019 and $2,246,694
which will expire in the years 2004 through 2005, respectively.
Temporary differences and tax loss carryforwards that comprised deferred
income tax assets and liabilities were as follows:
Loss carryforwards $ 1,822,002
---------
Impaired loans 642,995
Severance and retirement benefits 82,651
--------------------
Deferred income tax assets 2,547,648
---------
Valuation allowance (2,547,648)
-----------
--------------------
Net deferred income tax assets $ -
====================
A full valuation allowance was provided since the Company does not
anticipate taxable income in the foreseeable future.
F-20
<PAGE>
11. The Korean economy:
-------------------
From the fourth quarter of 1997, the effects of adverse economic conditions
in the Republic of Korea included national liquidity crisis, significant
depreciation of the value of the Korean won, higher domestic interest
rates, reduced opportunities for refinancing of maturing debts, and a
general reduction in spending across the country. In order to partially
address this situation, the Government of the Republic of Korea sought
assistance from the International Monetary Fund and implemented a
comprehensive policy package intended to address the structural weaknesses
in the Korean economy and financial sector. While the reform policies were
intended to alleviate the economic crisis in Korea and improve the economy
over time, the effects included, among others, slower economic growth, a
reduction in availability of credit, volatility in interest rates, an
increase in the number of bankruptcies of Korean companies and individuals,
and labor unrest resulting from the increase in unemployment. While the
Korean economy has recently shown signs of improvement, the effect on the
Company's financial position of future developments with respect to the
Korean economy can not presently be determined.
F-21
<PAGE>
INDEX TO FINANCIAL STATEMENTS OF 1998
Page
----
Independent Auditors' Report F-23
Financial Statements:
Consolidated Balance Sheet as of March 31, 1999 F-24
Consolidated Statement of Operations for the Periods
December 9, 1998 to March 31, 1999 and from
April 1, 1998 to December 8, 1998 F-25
Consolidated Statement of Cash Flows for the Periods
December 9, 1998 to March 31, 1999 and from
April 1, 1998 to December 8, 1998 F-26
Statement of Shareholders' Equity for the Periods
December 9, 1998 to March 31, 1999 and from
April 1, 1998 to December 8, 1998 F-27
Notes to Consolidated Financial Statements F-28
F-22
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders of
NewState Capital Co., Ltd., a subsidiary of Newstate Capital Corp. U.S.A.
In our opinion, the accompanying consolidated balance sheet and the related
consolidated statements of operations, shareholders' equity and cash flows
present fairly, in all material respects, the financial position of Newstate
Capital Co., Ltd. and its subsidiary as of March 31, 1999, and the results of
their operations and their cash flows for the periods from December 9, 1998 to
March 31, 1999 (Post-acquisition period), and from April 1, 1998 to December 8,
1998 (Pre-acquisition period) in conformity with accounting principles generally
accepted in the United States of America. These financial statements are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these statements in accordance with auditing standards generally
accepted in the United States of America which require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. We
believe that our audit provides a reasonable basis for the opinion expressed
above.
As discussed in Note 1 to the consolidated financial statements, effective
December 9, 1998, Newstate Capital Corp. U.S.A. acquired 99.5% of all the
outstanding stock of the Company in a business combination accounted for as a
purchase. As a result of the acquisition, the consolidated financial information
for the period after the acquisition is presented on a different cost basis than
that for the period before the acquisition and, therefore, is not comparable.
As described in Note 1, the Company operates under adverse economic conditions
in Korea and the Asia Pacific region.
/s/ SAMIL ACCOUNTING CORPORATION
July 30, 1999
Samil Accounting Corporation is the Korean member firm of the worldwide
PricewaterhouseCoopers organization.
F-23
<PAGE>
NEWSTATE CAPITAL CO., LTD. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEET
March 31, 1999
<TABLE>
<CAPTION>
In Thousands of U.S. Dollars
Korean Won (Unaudited)
---------------------- -----------------------
<S> <C> <C>
ASSETS
Cash and cash equivalents W 32,006,329 US$ 26,134,016
Interest-bearing deposits with banks 7,889,816 6,442,244
Securities available for sale (Note 3) 13,317,615 10,874,186
Securities held to maturity (Note 3) 64,153 52,383
Loans (Note 4) 118,463,288 96,728,413
Accrued interest receivable 2,972,203 2,426,882
Other assets 2,163,596 1,766,633
------------------ --------------------
Total assets W 176,877,000 US$ 144,424,757
================== ====================
liabilities and shareholders' equity
Short-term borrowings (Note 5) W 66,799,727 US$ 54,543,747
Accrued expenses and other liabilities 1,933,356 1,578,636
Long-term debt (Note 6) 86,343,288 70,504,032
Accrued employee benefit (Note 7) 689,000 562,587
Negative goodwill (Notes 2 and 12) 15,676,107 12,799,957
------------------ --------------------
Total liabilities 171,444,478 139,988,959
------------------ --------------------
Minority interest 42,379 34,603
Commitments and contingencies (Note 9)
Shareholders' equity:
Common stock: W 5,000 par value;
16,000,000 shares authorized; 4,978,000 shares
issued and outstanding (Note 10) 4,890,001 3,992,816
Retained earnings 464,995 379,681
Accumulated other comprehensive 35,147 28,698
------------------ --------------------
Total shareholders' equity 5,390,143 4,401,195
------------------ --------------------
Total liabilities and shareholders' equity W 176,877,000 US$ 144,424,757
================== ====================
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-24
<PAGE>
NEWSTATE CAPITAL CO., LTD. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF OPERATIONS
Periods from December 9, 1998 to March 31, 1999,
and from April 1, 1998 to December 8, 1998
<TABLE>
<CAPTION>
Period from December 9, 1998 to Period from April 1, 1998 to
March 31, 1999 December 8, 1998
--------------------------------------------- --------------------------------------------
In Thousands of U.S. Dollars In Thousands of U.S. Dollars
Korean Won (Unaudited) Korean Won (Unaudited)
-------------------- ---------------------- -------------------- ----------------------
<S> <C> <C> <C> <C>
Interest income:
Loans W 3,878,500 US$ 3,166,898 W 12,624,511 US$ 10,373,468
Deposits with banks 1,960,517 1,600,814 2,070,331 1,701,176
------------------- -------------------- ------------------ ---------------------
Total interest income 5,839,017 4,767,712 14,694,842 12,074,644
------------------- -------------------- ------------------ ---------------------
Interest expenses:
Short-term borrowings 2,186,995 1,785,739 6,681,407 5,490,063
Long-term debt 2,246,847 1,834,610 7,931,642 6,517,372
------------------- -------------------- ------------------ ---------------------
Total interest expense 4,433,842 3,620,349 14,613,049 12,007,435
------------------- -------------------- ------------------ ---------------------
Net interest income 1,405,175 1,147,363 81,793 67,209
Provision for loan losses -- -- (1,300,771) (1,068,834)
------------------- -------------------- ------------------ ---------------------
Net interest income (loss after
provision for loan losses 1,405,175 1,147,363 (1,218,978) (1,001,625)
Other income and expense:
Salaries and employee benefits
(513,324) (419,143) (449,568) (369,407)
General and administration (1,297,658) (1,059,572) (665,216) (546,603)
Employee benefit (213,000) (173,920) (476,000) (391,126)
Amortization of negative
goodwill 706,812 577,130 -- --
Other income, net 375,775 306,830 (192,313) (158,022)
------------------- -------------------- ------------------ ---------------------
(941,395) (768,675) (1,783,097) (1,465,158)
------------------- -------------------- ------------------ ---------------------
Income (loss) before income taxes
and minority interest 463,780 378,688 (3,002,075) (2,466,783)
Provision for income taxes (Note 11)
-- -- -- --
Minority interest 1,215 993
------------------- -------------------- ------------------ ---------------------
Net income (loss) W 464,995 US$ 379,681 W (3,002,075) US$ (2,466,783)
------------------- -------------------- ------------------ ---------------------
Net income (loss) per common share,
basic and diluted W 93 US$ 0.08 W (751) US$ (0.62)
------------------- -------------------- ------------------ ---------------------
Average number of shares outstanding
4,978,000 4,978,000 4,000,000 4,000,000
------------------- -------------------- ------------------ ---------------------
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-25
<PAGE>
NEWSTATE CAPITAL CO., LTD. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF CASH FLOWS
Periods from December 9, 1998 to March 31, 1999,
and from April 1, 1998 to December 8, 1998
<TABLE>
<CAPTION>
Period from December 9, 1998 to Period from April 1, 1998 to
March 31, 1999 December 8, 1998
--------------------------------------------- ------------------------------------------
In Thousands of U.S. Dollars In Thousands of U.S. Dollars
Korean Won (Unaudited) Korean Won (Unaudited)
-------------------- ----------------------- -------------------- -------------------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net income (loss) W 464,995 US$ 379,681 W (3,002,075) US$ (2,466,783)
Adjustment to reconcile net income
(loss) to net cash provided by
(used in) operating activities:
Minorities interest (1,215) (993) -- --
Depreciation and amortization 403,701 329,633 906,716 745,042
Amortization of negative goodwill (715,440) (584,176) -- --
Provision for loan losses -- -- 1,300,771 1,068,834
Increase in accrued employee 213,000 173,920 476,000 391,126
benefit
Decrease in accrued expenses and
other liabilities (281,542) (229,887) (545,247) (448,026)
Increase in accrued income and
other assets (70,756 (57,773) 286,033 235,031
------------------ --------------------- ------------------- ------------------
Net cash provided by (used in)
operating Activities 12,743 10,405 (577,802) (474,776)
------------------ --------------------- ------------------- ------------------
Cash flows from investing activities:
Decrease in loans, net 12,497,882 10,204,852 32,703,842 26,872,508
Decrease (increase) in interest
bearing deposits with banks, net 19,424,464 15,860,590 (5,899,275) (4,847,391)
Purchase of available-for-sale
securities (354,500) (289,459) (93,378) (76,728)
Payment for purchase of
subsidiary, net of cash acquired (12,974,134) (10,593,724) -- --
Other (22,410) (18,298) -- --
------------------ --------------------- ------------------- ------------------
Net cash provided by investing 18,571,302 15,163,961 26,711,189 21,948,389
activities
------------------ --------------------- ------------------- ------------------
Cash flows from financing activities:
Increase (decrease) in short-term
borrowings, net 20,500,000 16,738,793 (3,400,000) (2,793,755)
Payments on long-term debt (18,272,359) (14,919,866) (22,572,500) (18,547,658)
Issuance of common stock 4,890,000 3,992,815 -- --
------------------ --------------------- ------------------- ------------------
Net cash provided by (used in)
financing activities 7,117,641 5,811,742 (25,972,500) (21,341,413)
------------------ --------------------- ------------------- ------------------
Net increase in cash and cash 25,701,686 20,986,108 160,887 132,200
equivalents
Cash and cash equivalents at beginning
of period 6,304,643 5,147,908 6,143,756 5,048,279
------------------ --------------------- ------------------- ------------------
Cash and cash equivalents at end of W 32,006,329 US$ 26,134,016 W 6,304,643 US$ 5,180,479
period
------------------ --------------------- ------------------- ------------------
Supplemental schedule of non-cash
investing and financing activities:
The Parent acquired 99.5% of NEWSTATE
capital stock (see note 1) and NEWSTATE
acquired all of YOUNGNAM capital stock
(see note 12). In conjunction with the
acquisitions, liabilities were assumed as
follows:
Fair value of assets acquired W 188,123,541 US$ 153,607,855 W -- US$ --
Cash paid for the capital stock 19,000,001 15,514,003 -- --
------------------ --------------------- ------------------- ------------------
Liabilities assumed 169,123,540 138,093,852 -- --
------------------ --------------------- ------------------- ------------------
Supplemental cashflow information:
Cash paid for interest 1,488,393 1,215,312 2,976,785 2,446,002
------------------ --------------------- ------------------- ------------------
Cash paid for income taxes -- -- -- --
------------------ --------------------- ------------------- ------------------
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
F-26
<PAGE>
NEWSTATE CAPITAL CO., LTD.
STATEMENT OF SHAREHOLDERS' EQUITY
Periods from December 9, 1998 to March 31, 1999,
and from April 1, 1998 to December 8, 1998
-----------------
<TABLE>
<CAPTION>
In thousands of Korean Won
---------------------------------------------------------
Capital stock Accumulated other
-------------------------- Retained earning comprehensive In U.S. Dollars
Shares Amount (deficit) Income Total (Unaudited)
------------ ------------- -------------- --------------- --------------- --------------------
<S> <C> <C> <C> <C> <C> <C>
Balance April 1, 1998 4,000,000 W 20,000,000 W (17,947,338) W (321,524) W 1,731,138 US$ 1,413,520
Net loss - (3,002,075) - (3,002,075) (2,466,783)
Net change in unrealized
appreciation on
available-for-sale securities - - 228,146 228,146 186,287
------------ ------------- -------------- --------------- --------------- --------------------
Comprehensive income (2,773,929) (2,280,496)
Balance December 8, 1998 4,000,000 20,000,000 (20,949,413) (93,378) (1,042,791) (866,976)
Acquisition of the Company by
the Parent (19,999,999) 20,949,413 93,378 1,042,792 866,977
Shares issued to Parent 978,000 4,890,000 4,890,000 3,992,816
Net income - 464,995 - 464,995 379,680
Net change in unrealized
appreciation on
available-for-sale securities - - - 35,147 35,147 28,698
--------------- --------------- --------------------
Comprehensive income 500,142 408,378
------------ ------------- -------------- --------------- --------------- --------------------
Balance March 31, 1999 4,978,000 W 4,890,001 W 464,995 W 35,147 W 5,390,143 US$ 4,401,195
============ ============= ============== =============== =============== ====================
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-27
<PAGE>
NEWSTATE CAPITAL CORP., LTD. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 1999
-----------------------
1. Basis of Presentation:
----------------------
NEWSTATE CAPITAL CO., LTD. ("NEWSTATE"), a 99.6%-owned subsidiary of
Newstate Capital Corp. U.S.A. (the "Parent"), is a financing company
incorporated on February 18, 1994 under the laws of the Republic of Korea
to engage in factoring commercial notes and accounts receivable, and to
provide short-term and long-term financing to customers. The name of the
company was changed from Dongsuh Finance Co., Ltd. to NEWSTATE CAPITAL CO.,
LTD. on December 9, 1998 when the Parent acquired 3,980,000 (99.5%) shares
of NEWSTATE's common stock from Dongsuh Horizon Securities Co., Ltd. for $1
in cash. Youngnam Housing Finance Co., Ltd. ("YOUNGNAM"), a wholly-owned
subsidiary of NEWSTATE, is a business that provides financing for the
purchase of homes to middle-income individuals.
The accompanying consolidated financial statements include the accounts of
NEWSTATE and YOUNGNAM (collectively, the "Company"). All significant
inter-company accounts and transactions have been eliminated in
consolidation.
As a result of the effects of the International Monetary Fund debt crisis
in Korea, NEWSTATE and YOUNGNAM, since its acquisition by NEWSTATE,
suspended new loan originations from the period December 1997 to April
1999. Consequently, the accompanying financial statements do not reflect
the Company's normal business activities in a stable economic environment.
The Company operates a branch in Seoul and two branches in the Kyungsang
Province of the Republic of Korea.
The official accounting records of the Company are maintained in Korean Won
in accordance with the relevant laws and regulations of the Republic of
Korea. The U.S. Dollar amounts are provided herein as supplementary
information solely for the convenience of the reader. All Won amounts are
expressed in U.S. Dollars at the rate of W1,224.7: US$1, the prevailing
rate on March 31, 1999. This presentation should not be construed as a
representation that the Won amounts shown could be converted in or settled
in U.S. Dollars at this or any other rate.
The Company's primary source of revenue is from providing loans to
customers, who are predominantly small and middle-market businesses and
middle-income individuals. A substantial portion of the Company's revenues
is from housing loans.
Liquidity Risk
A significant portion of the Company's liabilities are short-term or due on
demand whereas most of its assets are long-term loans or investments. In
order to meet its obligations and sustain its operations, the Company must
generate sufficient cash flow through refinance of borrowings (see note 5),
collections on or sale of loans, sale of securities, or through capital
contributions.
F-28
<PAGE>
2. Summary of Significant Accounting Policies:
-------------------------------------------
The significant accounting policies followed by the Company in the
preparation of the accompanying consolidated financial statements are
summarized below:
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements requires management to make
estimates and assumptions that affect amounts reported therein. Due to the
inherent uncertainty involved in making estimates, actual results reported
may differ from those estimates.
Risks and Uncertainties
The operations of the Company have been affected, and may continue to be
affected for the foreseeable future by the unstable economic conditions in
the Republic of Korea and the Asia Pacific region. Specific factors that
have impacted the Company include increased unemployment in Korea, limited
availability of credit, significant numbers of corporate bankruptcies and
the general deterioration of the economies of countries in the Asia Pacific
region. Given the current economic conditions, it is at least reasonably
possible that a continuation of the economic crisis or a lack of
significant improvement in the Korean economy may require a material
adjustment in the short-term for the recoverability of the Company's
assets.
Recognition of Interest Income
Interest income on loans and investments is recognized on an accrual basis.
Discounts or premiums associated with the acquisition of NEWSTATE and the
acquisition of YOUNGNAM (see note 12) are recognized on an effective yield
method. Acquisition discounts from impaired or past due loans where
collection is not anticipated are recognized as cash, if any, is received.
Cash Equivalents
Cash and cash equivalents comprise cash and time deposits in banks with
original maturities of three months or less.
Securities Held to Maturity
Investments for which the Company has the positive intent and ability to
hold to maturity are reported at amortized cost.
Securities Available for Sale
Securities available for sale consist of certain equity and debt securities
which management believes could be sold in response to changes in market
conditions or other factors. Unrealized holding gains or losses, net of tax
if applicable, are included as a component of other comprehensive income in
shareholders' equity until realized.
Realized gains and losses on the sale of securities available for sale are
determined using the specific-identification method.
Realized declines in the fair value of individual held to maturity and
available for sale securities below their cost that are determined to be
other than temporary result in write-downs of the individual securities to
their fair value. The related write-downs are included as losses in the
statement of operations.
Premiums and discounts are recognized in interest income using the
effective interest method over the period to maturity.
F-29
<PAGE>
Loans, Allowance and Discontinuance of Interest Income Recognition
Loans receivable that management has the intent and ability to hold for the
foreseeable future or until maturity are reported at their outstanding
principal balance, net of allowance for loan losses, and since the
acquisition of NEWSTATE, net of discounts associated with the adjusting
loans to estimated market values.
The accrual of interest is discontinued if, in management's opinion, full
payment of principal or interest is in doubt, or when principal or interest
is past due over 90 days or more, and collateral, if any, is insufficient
to cover principal and interest. Non-accrual loans are those on which the
accrual of interest is discontinued. When the interest accrual is
discontinued, all uncollected accrued interest is reversed. Interest income
is subsequently recognized only to the extent cash payments are received.
The allowance for loan losses is increased by charges to expense and
decreased by charge-offs, if applicable. Management's periodic evaluation
of the adequacy of the allowance is based on the Company's past loan loss
experience, known and inherent risks in the portfolio, adverse situations
that may affect the borrowers' ability to repay, the estimated value of any
underlying collateral, and current economic conditions.
Losses on consumer and residential mortgage loans are generally provisioned
through a charge to the allowance for loan losses based upon specified
stages of delinquency and estimated losses on such loans.
Since the acquisition of NEWSTATE by the Parent in which all loans were
marked to market, the Company has established no provisions for loan losses
(see note 1 with respect to the lack of loan originations during the
periods).
The Company considers all non-accrual commercial loans as impaired loans.
Loan allowances on commercial loans deemed to be impaired are determined
based upon an estimate of future cash flows discounted at the related
loans' effective rate. Generally, the Company estimates cash flows for a
period of 3 to 5 years, regardless of whether the original or restructured
term of an impaired loan exceeds such periods. Charge-offs are recorded
only after all practical efforts to collect the loan have been exhausted.
Under Korean law, a loan to an individual remains legally binding in
perpetuity.
Foreclosed Real Estate
Real estate properties acquired through, or in lieu of, loan foreclosure
are to be sold and are initially recorded at fair value less cost to sell
at the date of foreclosure. After foreclosure, valuations are periodically
performed by management and the real estate is carried at the lower of
carrying amount or fair value, less cost to sell.
Premises and Equipment
Company premises, furniture and equipment are carried at cost, less
accumulated depreciation computed principally by the declining-balance
method over the estimated useful lives of the assets.
Accrued Employee Benefits
Employees and directors with more than one year of service are entitled to
receive a lump-sum payment upon termination of their service with the
Company, either voluntary or involuntary, based on their length of
employment and rate of pay at the time of termination. Severance benefits
are accrued based primarily on the employees' compensation and years of
service.
In accordance with the National Pension Act, a certain portion of accrued
employee benefits is remitted to the National Pension Fund and deducted
from accrued employee benefits. The contributed amount is refunded to
employees from the National Pension Fund upon their retirement.
F-30
<PAGE>
Negative Goodwill
Negative goodwill, which represents the excess of fair value over purchase
price of net assets required, is amortized on the straight-line basis over
5 years.
Debt Issuance Costs
Debt issuance costs are deferred and amortized over the life of the related
debt instrument on the effective interest method.
Income Taxes
Deferred income taxes are recognized for the future tax consequences of
differences between the tax bases of assets and liabilities and their
financial reporting amounts at each year-end based on enacted tax laws and
statutory tax rates applicable to the periods in which the differences are
expected to affect taxable income. A valuation allowance is provided on
deferred income tax assets where it is more likely than not that such
assets will not be realized.
Net Income (Loss) Per Share
Earnings (loss) per share is computed using the weighted average number of
common shares outstanding during the year. Basic and diluted earnings
(loss) per share amount are the same.
Comprehensive Income
The Company has adopted Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income", which defines and establishes the
standards for reporting comprehensive income. Comprehensive income for the
Company includes net income and the change in unrealized gains and losses
on available for sale securities. The Company has presented these item in
the statement of shareholders' equity.
Push Down Accounting
In accordance with Securities & Exchange Commission Staff Accounting
Bulletin No. 54 ("SAB No. 54"), the Company has "pushed down" the Parent's
purchase price in revaluing the assets and liabilities of the Company.
According to the provisions of SAB No. 54, purchase transactions that
result in an entity becoming substantially wholly-owned require a new basis
of accounting for the purchased assets and liabilities. For the periods
subsequent to December 9, 1998, the consolidated financial statements of
the Company reflect the accounting basis used by the Parent subsequent to
the acquisition of the Company.
As a result of the purchase, the following purchase price adjustments are
recorded as of December 9, 1998 (amounts in thousands of Won):
<TABLE>
<CAPTION>
Increase (Decrease)
------------------------------------------------
<S> <C> <C>
Interest-bearing deposits with bank W 7,679 US$ 6,270
Securities held to maturity 4,156 3,393
Loans (2,840,145) (2,319,054)
Accrued interest receivable (103,065) (84,155)
Long-term debt 113,862 92,971
Premises and equipment (199,634) (163,006)
</TABLE>
In connection with the acquisition of NEWSTATE, Dongsuh Horizon Securities
Co., Ltd. forgave W13,076,230 thousand of short term loan receivable due
from NEWSTATE. The negative goodwill resulting from the purchase, and the
resulting push down of the Parent's basis, amounted to W8,675,257 thousand.
F-31
<PAGE>
3. Securities:
-----------
Securities at March 31, 1999 are as follows (in thousands of Won):
<TABLE>
<CAPTION>
Gross unrealized Gross unrealized
Amortized cost gains losses Fair value
------------------- ------------------ ------------------ ------------------
<S> <C> <C> <C> <C>
Available for sale:
Equity securities W 970,621 W 35,147 W -- W 1,005,768
Interest in pools of
debt securities W 12,311,847 W 35,147 W -- W 65,366
------------------- ------------------ ------------------ ------------------
W 13,282,468 W 35,147 W -- W 13,317,615
------------------- ------------------ ------------------ ------------------
Held to maturity:
Bond W 64,153 W 1,213 W -- W 65,366
------------------- ------------------ ------------------ ------------------
</TABLE>
The Company's investment in the interests in pools of debt securities,
which the Company acquired from the subsidiary on March 12, 1999 (see note
12), functions similarly to mutual fund or debt fund where the holders'
interests represent their share of the net assets of the pools of debt
securities.
The scheduled maturities of securities held to maturity at March 31, 1999
are as follows:
In thousands of Won
Cost Fair value
---- ----------
Due in one year or less W -- W --
Due from one to five years 60,505 62,058
Due from five to ten years 3,648 3,308
------------------ -------------------
W 64,153 W 65,366
------------------ -------------------
F-32
<PAGE>
4. Loans:
------
As a result of acquisition transactions described in notes 1 and 12, the
Company's loan balances were adjusted to fair value as of those acquisition
dates. Accordingly, the loan balances at March 31, 1999 comprise the
following components by loan types (in thousands of Won):
<TABLE>
<CAPTION>
Principal Unamortized interest Credit discount Balance at March 31,
premium (discount) 1999
-------------------- ---------------------- -------------------- ----------------------
<S> <C> <C> <C> <C>
Commercial W 23,594,429 W 130,334 W (14,513,299) W 9,211,464
Residential real estate 108,580,975 (2,247,948) (629,640) 105,702,487
Consumer 6,479,325 (235,176) (2,694,812) 3,549,337
------------------- -------------------- ------------------ ---------------------
W 138,653,829 W (2,352,790) W (17,837,751) W 118,463,288
------------------- -------------------- ------------------ ---------------------
</TABLE>
The effective interest rates used for purposes of calculating interest
premium or discount were based on the loan rates at which the same loans,
after adjusting for amounts not expected to be collected, would be made
under conditions prevailing at the time.
At March 31, 1999, residential real estate loans of W54,396,799 (par value)
thousand are pledged as collateral for certain short-term and long-term
borrowings (see Notes 5 and 6).
An analysis of the change in the allowance for loan losses is as follows:
Thousands of Won
----------------------
Balance at March 31, 1998 W 17,760,105
Provision for loan losses 1,300,771
Adjustment for push down (19,060,876)
--------------------
W --
--------------------
Until the acquisition of NEWSTATE, W14,416,740 thousand of impairment
losses were recorded in relation to impaired loans. Impaired loans at the
end of the year totaled W18,181,919 thousand in principal balances.
Interest income recognized on impaired commercial loans amounted to
W253,262 thousand on cash basis during the fiscal year.
F-33
<PAGE>
Scheduled maturities of loans receivable at March 31, 1999 (net of
applicable discounts) are as follows:
Thousands of Won
----------------------
Due in one year or less W 29,045,689
Due from one to five years 41,355,076
Due from five to ten years 22,533,246
Due after ten years 25,529,277
--------------------
W 118,463,288
--------------------
5. Short-term Borrowings:
----------------------
Short-term borrowings at March 31, 1999 comprise the following:
Annual Interest Rates
(%) Thousands of Won
----------------------- ----------------------
Overdraft 8.95 W 1,999,727
General term borrowings 12.69 10,800,000
Notes with short-term
Finance companies
12.40 54,000,000
----------------------
W 66,799,727
----------------------
Certain bank deposits and financing assets are pledged as collateral for
the above borrowings (see Note 4). Historically, short-term borrowings have
been revolving in nature and refinanced by new borrowings as they become
due. Management believes that the Company will continue to borrow in the
near term short-term funds for operations through renewals of existing
borrowing arrangements.
Maximum and average borrowings and weighted average interest rate on
short-term borrowings for the year ended March 31, 1999, follows:
Thousands of Won
----------------------
Maximum borrowings W 66,799,727
Average borrowings outstanding 47,623,839
Weighted average interest rate 13.72%
6. Long-term Debt:
---------------
Long-term debt at March 31, 1999 comprises the following:
Thousands of Won
Reference
------------------- ----------------------
Debentures (A) W 52,346,288
Bank loans (B) 34,000,000
--------------------
W 86,346,288
--------------------
(A) Debentures outstanding at March 31, 1999 comprise the following:
Annual Interest
Rates (%) Thousands of Won
------------------ -----------------------
Debentures collateralized by
bank letter of credit 11.0 W 24,000,000
Non-collateralized debentures 15.5-17.0 11,000,000
Unlisted private debentures 10.0-10.5 17,500,000
---------------------
52,500,000
(153,712)
---------------------
Less: discounts W 52,346,288
---------------------
F-34
<PAGE>
(B) Bank loans at March 31, 1999 comprise the following:
Annual Interest
Rates (%) Thousands of Won
------------------ -----------------------
Korea First Bank 10.35-12.25 W 24,000,000
Hanaareum Merchant Bank 16.0 4,000,000
Kukmin Bank 10.5 6,000,000
---------------------
W 34,000,000
---------------------
Certain bank deposits and financing assets are pledged as collateral for
the above debt (see Note 4).
The maturities of long-term debt outstanding at March 31, 1999, excluding
discounts on debentures, are as follows:
Thousands of Won
Debentures Bank
(par value) Loans Total
----------- ------------------ ---------------------
1999 W 13,896,369 W 30,000,000 W 43,896,369
2000 31,514,701 2,400,000 33,914,701
2001 6,935,218 1,600,000 8,535,218
----------------------- -----------------------
---------------------
W 52,346,288 W 34,000,000 W 86,346,288
----------------------- ----------------------- ---------------------
7. Accrued Employee Benefit:
-------------------------
The following information relates to the Company's benefit obligation under
its severance benefit plan.
Change in benefit obligation:
As of As of
December 8, March 31,
1998 1999
----------------- -----------------
Benefit obligation at beginning of period W 167,000 W 638,000
Service cost 457,000 205,000
Interest cost 14,000 6,000
--------------- ----------------
Benefit obligation at end of period 638,000 849,000
Unrecognized prior service cost (162,000) (160,000)
--------------- ----------------
Accrued benefit cost W 476,000 W 689,000
--------------- ----------------
Components of net periodic benefit cost:
Service cost W 457,000 W 205,000
Interest cost 14,000 6,000
Amortization of prior service cost 5,000 2,000
--------------- ----------------
W 476,000 W 213,000
--------------- ----------------
The discount and rate of increase for future compensation used to determine
the actuarial value above were 12% and 4%, respectively.
F-35
<PAGE>
8. Financial Instruments:
----------------------
The estimated fair values of the Company's financial instruments are as
follows:
Thousands of Won
---------------------------------------
Book Fair
Value Value
------------------ ------------------
Financial assets:
Cash and cash equivalent W 31,990,862 W 31,990,862
Interest-bearing deposits with banks 7,903,478 8,079,671
Securities available for sale 13,317,615 13,317,615
Securities held to maturity 64,153 65,366
Loans 118,463,288 118,187,136
Accrued interest receivable 2,974,008 2,974,008
Financial liabilities:
Short-term borrowings 66,799,727 66,799,727
Long-term debt 86,346,288 87,719,641
The following methods and assumptions were used by the Company in
estimating fair values of financial instruments as disclosed herein:
- Cash and short-term instruments
Carrying amounts (which represent cost) of cash and short-term instruments
approximate their fair value.
- Available for sale and held to maturity securities.
Fair values for securities are based on quoted market prices.
- Loans receivable
Fair values for loans are estimated using discounted cash flow analysis
using interest currently being offered for loans with similar term to
borrowers of similar credit quality. Fair values for impaired loans are
estimated using discounted cash flow analysis or underlying collateral
values, where applicable.
- Accrued interest receivable
The carrying amounts of accrued interest receivable approximate their fair
values.
- Short-term borrowings
Carrying amounts (which represent cost) of short-term borrowings
approximate their fair value.
- Long-term debt
Fair values of long-term debt is estimated using discounted cash flow
analysis based on the Company's then current incremental borrowing rates
for similar types of borrowing arrangements.
F-36
<PAGE>
9. Commitments and Contingencies:
------------------------------
At March 31, 1999, the Company has entered into bank overdraft agreements
for borrowings of up to W2,000 million with Daegu Bank.
10. Capital Stock:
--------------
The Company issued 978,000 shares of common stock for cash at W5,000 per
share on December 9, 1998.
11. Income taxes:
-------------
The statutory income tax rate, including resident tax surcharges,
applicable to the Company is approximately 30.8% in 1999. However, the
actual income tax expense reported by Company differs from the expected
income tax computed at the statutory income tax rate as follows:
<TABLE>
<CAPTION>
Period from April 1, 1998 to Period from December 9, 1998
December 8, 1998 to March 31, 1999
--------------------------------------------- --------------------------------------------
Tax Rate Thousand Tax Rate Thousand
(%) of Won (%) of Won
-------------------- ---------------------- -------------------- ----------------------
<S> <C> <C> <C> <C>
Income tax expense computed at
statutory rate 30.8 W 143,218 (30.8) W (924,639)
Disallowed interest and expenses 10.4 48,573 0.2 78,856
Net amortization/accretion of
goodwill 19.1 89,024 -- --
Change in deferred tax valuation
allowance (60.3) (280,815) (30.6) 845,783
------------------- -------------------- ------------------ ---------------------
Income tax expense as reported -- W -- -- W --
------------------- -------------------- ------------------ ---------------------
</TABLE>
At March 31, 1999, the Company had tax basis net operating loss carryovers
of W3,160,338 thousand available to offset future taxable income. These
carryovers expire through March 31, 2004.
At March 31, 1999, the Company has fully reserved valuation allowance on
net deferred income tax assets arising from loss carry forwards and
temporary differences between amounts reported for financial accounting and
income tax purposes because it is uncertain that the Company will generate
enough taxable income in the future to fully utilize the loss carry
forwards and temporary differences.
F-37
<PAGE>
The significant components of deferred tax assets are reflected in the
following:
Thousand of Won
----------------------
Deferred tax assets:
Loss carry forward W 973,384
Loan 1,775,401
Accrued employee benefit 210,978
Debt forgiveness 4,027,479
Purchased discounts 356,335
--------------------
7,343,577
Deferred tax liabilities:
Accrued interest income 10,116
Purchased premium 1,476,739
--------------------
1,486,855
Net deferred tax assets before valuation
allowance 5,856,722
--------------------
Valuation allowance on net deferred tax
assets (5,856,722)
====================
Net deferred tax assets W --
--------------------
12. Acquisition of Youngnam Housing Finance Co., Ltd.:
-------------------------------------------------
On March 12, 1999, NEWSTATE acquired all of the outstanding stock of
YOUNGNAM for approximately W19,000,000 thousand in cash. The
acquisition was recorded under the purchase method of accounting. The
acquisition resulted in negative goodwill of approximately W7,707,661
thousand which is being amortized over 5 years using straight-line
method.
The following pro forma results reflect the assumption that the
transaction was effective at the beginning of the post-acquisition
period (in thousands, except per share amounts):
(Unaudited)
Period from April 1, Period from
1998 to December 8, December 9, 1998
1998 To March 31, 1999
---------------------- ------------------
Sales W 23,575,984 W 8,796,731
Net income(loss) (1,874,448) 840,870
Net income(loss) (468) 169
per share (in Korean Won)
F-38
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act,
the Company caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
NEWSTATE HOLDINGS, INC.
ERNEST B. KIM
By: ________________________________
Ernest B. Kim
Chairman of the Board
Dated: July 14, 2000
In accordance with the Exchange Act, this report has been
signed below by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
ERNEST B. KIM
________________________________ Chairman of the Board, July 14, 2000
Ernest B. Kim President and CEO
ALEXANDER T. SHANG
________________________________ Treasurer and Chief July 14, 2000
Alexander T. Shang Financial Officer
JIN K. KIM
________________________________ Vice President, Secretary July 14, 2000
Jin K. Kim and Director
SUN W. YOUNG
________________________________ Director July 14, 2000
Sun W. Young
A. SUNGIL NOH
________________________________ Director July 14, 2000
A. Sungil Noh
