<PAGE>
Filed pursuant to Rule 424(b)(4)
SEC File No. 333-34977
Prospectus
dated September 24, 1997
$20,000,000
LOGO
11.50% Senior Notes Due 2004
Matrix Capital Corporation (the "Company") is offering $20,000,000 aggregate
principal amount of 11.50% Senior Notes Due 2004 (the "Notes"). The Notes will
bear interest from September 29, 1997 at the annual rate of 11.50% of the
principal amount thereof, payable semi-annually in arrears on March 31 and
September 30 of each year (each, an "Interest Payment Date") commencing March
31, 1998, to the person in whose name each Note is registered at the close of
business on March 15 or September 15 (each, a "Regular Record Date") next
preceding such Interest Payment Date. The Notes will mature on September 30,
2004. The Notes are not redeemable by the Company prior to maturity. No
sinking fund is provided for the Notes. See "Description of the Notes."
The Notes will be represented by one permanent global certificate (the "Global
Security") registered in the name of a nominee of The Depository Trust
Company, as depositary (the "Depositary"). The Notes will be available for
purchase in minimum denominations of $1,000 or any amount in excess thereof
which is an integral multiple of $1,000 in book-entry form only. Beneficial
interests in the Global Security will be shown on, and transfers thereof will
be effected only through, records maintained by the Depositary and its
participants. Except as described under "Description of the Notes" herein,
owners of beneficial interests in the Global Security will not be entitled to
receive Notes in definitive form.
SEE "RISK FACTORS" COMMENCING ON PAGE 10 HEREIN FOR A DISCUSSION OF CERTAIN
FACTORS THAT SHOULD BE CONSIDERED BY PROSPECTIVE INVESTORS.
THESE SECURITIES ARE NOT SAVINGS ACCOUNTS OR DEPOSITS AND ARE NOT INSURED BY
THE FEDERAL DEPOSIT INSURANCE CORPORATION, BY ANY OTHER GOVERNMENTAL AGENCY,
OR OTHERWISE.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS
A CRIMINAL OFFENSE.
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
PRICE TO UNDERWRITING PROCEEDS TO
PUBLIC DISCOUNT (1) COMPANY (2)
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Per Note................................... 100.0% 4.5% 95.5%
- --------------------------------------------------------------------------------
Total...................................... $20,000,000 $900,000 $19,100,000
</TABLE>
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
(1) The Company has agreed to indemnify the Underwriters against certain
liabilities, including liabilities under the Securities Act of 1933, as
amended (the "Securities Act"). See "Underwriting."
(2) Before deducting offering expenses payable by the Company estimated at
$235,000.
The Notes are offered by the several Underwriters subject to prior sale when,
as and if delivered to and accepted by the Underwriters and subject to their
right to reject orders in whole or in part. It is expected that delivery of
the Notes will be made on or about September 29, 1997 in book entry form
through the facilities of the Depositary or its nominees. The Notes will not
generally be issuable in definitive certificated form to any person other than
the Depositary.
Joint Book-Running Managers
Keefe, Bruyette & Woods, Inc. Piper Jaffray inc.
<PAGE>
[LOGOS OF MATRIX CAPITAL CORPORATION AND ITS OPERATING SUBSIDIARIES]
CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS THAT
STABILIZE, MAINTAIN OR OTHERWISE EFFECT THE PRICE OF THE NOTES OFFERED HEREBY.
SUCH TRANSACTIONS MAY INCLUDE STABILIZING, THE PURCHASE OF SECURITIES TO COVER
SYNDICATE SHORT POSITIONS AND THE IMPOSITION OF PENALTY BIDS. FOR A
DESCRIPTION OF THESE ACTIVITIES, SEE "UNDERWRITING."
2
<PAGE>
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by the more detailed
information and consolidated financial information appearing elsewhere in this
Prospectus. Unless the context clearly suggests otherwise, references to the
"Company" include Matrix Capital Corporation and its subsidiaries (the
"Subsidiaries"), collectively, and references to "Matrix Capital" include the
parent company only. In addition to the historical information contained
herein, certain statements in this Prospectus constitute "forward-looking
statements" under the Private Securities Litigation Reform Act of 1995 (the
"Reform Act") that involve risks and uncertainties. The Company's actual
results may differ materially from those discussed herein. Factors that might
cause such a difference include, but are not limited to, those discussed under
the captions "Risk Factors" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations," as well as those discussed
elsewhere in this Prospectus. See "Risk Factors--Forward-Looking Statements."
THE COMPANY
OVERVIEW. Matrix Capital Corporation is a specialized financial services
company that, through its Subsidiaries, focuses on mortgage merchant banking by
purchasing and selling residential mortgage loans and residential mortgage
servicing rights; offering brokerage, consulting, and analytical services to
other financial services companies and financial institutions; servicing
residential mortgage portfolios for investors; originating residential
mortgages; and providing real estate management and disposition services. The
Company also provides trust administration services for self-directed qualified
retirement plans, individual retirement accounts, custodial and directed trust
accounts, and broker-dealer services to individuals and deferred contribution
plans. Based upon management's experience within the industries in which the
Company operates, the Company believes that its structure of combining a
mortgage banking firm, a mortgage servicing brokerage and consulting firm, a
federally chartered banking institution, a real estate management and
disposition firm, a self-directed trust company, and a securities broker-dealer
is unique to the financial services industry. This unique structure creates
revenue enhancing relationships among the Subsidiaries.
The Company is a broker of mortgage servicing rights serving a nationwide
client base, and, in 1996, brokered the sale of mortgage loan servicing
portfolios totaling $26.4 billion in outstanding principal balances. As a
result of its participation in brokerage activity, the Company has access to a
wide array of information relating to the mortgage banking industry, including
emerging market trends, prevailing market prices, pending regulatory changes,
and changes in levels of supply and demand. Consequently, the Company is able
to identify certain types of mortgage servicing portfolios that are well suited
to its particular servicing platform and unique corporate structure. The
Company, for example, has focused its mortgage servicing acquisition strategy
on seasoned loans having lower principal and higher custodial escrow balances
than newly originated mortgage loans. Mortgage servicing rights on these types
of loans are generally not attractive to many market participants. However, the
Company believes that given the prevailing pricing for such mortgage servicing
rights and the Company's ability to hold the non-interest bearing custodial
escrow accounts at its federal bank subsidiary, it has been able to achieve
attractive returns on investment in such mortgage servicing rights.
Consolidated net income for the year ended December 31, 1996, and for the six
months ended June 30, 1997, was $3.6 million and $3.6 million, respectively,
resulting in an annualized return on average equity of 24.3% and 21.4%,
respectively. As of June 30, 1997, the Company had consolidated assets of
$502.6 million and shareholders' equity of $35.9 million.
HISTORY OF THE COMPANY. Although Matrix Capital was formed in 1993, the
history of the Company traces back to the formation of United Financial, Inc.
("United Financial") in 1989. United Financial was formed by two of the
Company's principal shareholders to broker mortgage loan servicing rights and
became an approved mortgage loan servicing broker for the Resolution Trust
Corporation (the "RTC"). In 1990, one of the founders of United Financial
divested himself of his interest in United Financial to form Matrix Financial
Services Corporation ("Matrix Financial"), which was established through the
acquisition of an existing mortgage
3
<PAGE>
banking company. Matrix Financial initially focused on the acquisition of
mortgage loan servicing portfolios from the RTC and the Federal Deposit
Insurance Corporation (the "FDIC") as part of their disposition of insolvent
thrifts and banks during the early 1990s. In June 1993, Matrix Capital was
formed when the founding shareholders of United Financial and Matrix Financial
exchanged all of the outstanding capital stock of those two entities for shares
of Matrix Capital. The Company acquired Matrix Capital Bank ("Matrix Bank"), a
federal savings bank, in late 1993 in order to capture the benefit of the
custodial escrow account balances relating to the Company's mortgage servicing
portfolio and to engage in the purchase and sale of bulk residential mortgage
loan portfolios. In order to add a source of additional non-interest revenue,
the Company formed United Special Services, Inc. ("USS") in June 1995 to
provide real estate management and disposition services to the Company and
other mortgage companies and financial institutions. The Company formed United
Capital Markets, Inc. ("UCM") in December 1996, primarily to provide risk
management services for existing institutional clients of United Financial. In
February 1997, the Company acquired The Vintage Group, Inc. ("Vintage") which
resulted in the Company moving approximately $80.0 million of deposits from a
third-party institution to Matrix Bank.
THE SUBSIDIARIES. The Company's core business operations are conducted
through the following operating Subsidiaries:
United Financial. United Financial provides brokerage and consulting services
to financial institutions and financial services companies in the mortgage
banking industry. These services include the brokering and analysis of
residential mortgage loan servicing rights, corporate and mortgage loan
servicing portfolio valuations (which includes the complex valuation and
analysis required under Statement of Financial Accounting Standards
No. 122, Accounting for Mortgage Servicing Rights ("FAS 122")), and, to a
lesser extent, consultation and brokerage services in connection with mergers
and acquisitions of mortgage banking entities. United Financial provides
brokerage services to several of the nation's largest financial institutions,
such as Banc One Mortgage Corporation, Chase Manhattan Mortgage Corporation,
and Mellon Mortgage Corporation. During 1996 and the first six months of 1997,
United Financial brokered the sale of 92 and 49 mortgage loan servicing
portfolios totaling $26.4 billion and $12.0 billion in outstanding mortgage
loan principal balances, respectively.
Matrix Financial. Matrix Financial acquires residential mortgage loan
servicing rights on a nationwide basis through purchases in the secondary
market, services the loans underlying these rights, and originates mortgage
loans through its wholesale loan origination network. As of June 30, 1997,
Matrix Financial owned or serviced 58,640 borrower accounts representing $3.1
billion in principal balances (including $106.9 million in subservicing for
non-affiliates of the Company), the majority of which were seasoned loans
having lower principal and higher custodial escrow balances than newly
originated mortgage loans. See "Business--Residential Loan Servicing
Activities--Residential Mortgage Loan Servicing." As a servicer of mortgage
loans, Matrix Financial is required to establish custodial escrow accounts for
the deposit of borrowers' payments, which may include principal, interest,
taxes, and insurance. These payments are held at Matrix Bank. During the six
months ended June 30, 1997, the custodial escrow accounts at Matrix Bank
averaged $58.0 million in the aggregate. For the six months ended June 30,
1997, Matrix Financial originated $192.7 million in wholesale mortgage loans
through its regional production offices located in Atlanta, Denver, and
Phoenix. The loans originated by Matrix Financial on a wholesale basis are
typically sold in the secondary market.
Matrix Bank. With branches in Las Cruces, New Mexico and Sun City, Arizona,
Matrix Bank serves its local communities by providing a broad range of personal
and business depositors services, offering residential and consumer loans, and
providing, on a limited basis, commercial real estate loans. Matrix Bank also
holds the non-interest bearing custodial escrow deposits related to the
residential mortgage loan servicing portfolio serviced by Matrix Financial and
the deposit accounts of the customers of Vintage. These custodial escrow
deposits, as well as other traditional deposits, are used to fund bulk
purchases of mortgage loan portfolios throughout the United States, a
substantial portion of which are subserviced by Matrix Financial following
their purchase. Maintaining custodial escrow deposits at Matrix Bank allows the
Company to achieve returns historically greater than could have been realized
had the Company used the custodial escrow deposits as compensating balances to
reduce the effective borrowing cost on its warehouse credit facilities. As of
June 30, 1997, Matrix Bank was deemed to be "well-capitalized" under applicable
regulatory standards and had total assets of $384.3 million, including loans
aggregating $340.8 million. On December 31, 1996, the Company
4
<PAGE>
disposed of the fixed assets of the Sterling Finance Co., Inc. ("Sterling
Finance") subsidiary of Matrix Bank, and ceased to originate sub-prime
automobile loans.
The Vintage Group, Inc. On February 5, 1997, the Company completed its
acquisition of Vintage. Vintage's subsidiaries, Sterling Trust Company
("Sterling Trust") and First Matrix Investment Services Corp., formerly known
as Vintage Financial Services Corp. ("First Matrix"), are located in Waco,
Texas and Arlington, Texas, respectively. Sterling Trust was incorporated in
1984 as a Texas independent, non-bank trust company specializing in the
administration of self-directed qualified retirement plans, individual
retirement accounts, custodial, and directed trust accounts. As of June 30,
1997, Sterling Trust had in excess of 28,000 accounts with assets under
administration of over $1.3 billion. First Matrix is a National Association of
Securities Dealers, Inc. ("NASD") broker-dealer that provides services to
individuals and deferred contribution plans. The purchase price of
approximately $11.25 million was paid through the issuance to the former
shareholders of Vintage of 779,592 shares of common stock, $.0001 par value
(the "Common Stock"), of the Company.
United Special Services. USS provides real estate management and disposition
services to financial services companies and financial institutions. In
addition to the unaffiliated clients currently served by USS, Matrix Financial
uses USS exclusively in handling the disposition of its foreclosed real estate.
In addition, USS provides limited collateral valuation opinions to clients,
such as the Federal Home Loan Mortgage Corporation (the "FHLMC"), that are
interested in assessing the value of the collateral underlying mortgage loans,
as well as to clients such as Matrix Bank and other third-party mortgage loan
buyers evaluating potential bulk purchases of mortgage loans.
United Capital Markets. UCM was formed in December 1996 to advise
institutional clients primarily on risk management issues relating to
residential mortgage loan servicing portfolios. It provides a professional
outsourcing alternative to in-house risk management departments on Wall Street
derivative products. The focus is on interest rate and prepayment risk, as each
relates to specific client objectives. The strategy includes modeling asset
risk, setting up and trading individual hedge accounts, and mirroring
accounting practice and management goals. Although it is anticipated that many
asset classes will be considered for management and advice, UCM initially will
focus on mortgage servicing rights. UCM is managed by former senior executives
from nationally recognized investment banks and the mortgage banking industry
with experience in risk management and hedging strategies. UCM generated no
revenues in 1996 or the first six months of 1997, and there can be no assurance
that its operations will generate significant revenues, or be profitable,
during the remainder of 1997 or in future years. However, two clients have
entered into service agreements with UCM as of the date hereof.
BUSINESS STRATEGY. The Company's business strategy is to:
. cultivate the revenue-enhancing relationships among the Subsidiaries by
sharing knowledge, information, and business opportunities;
. expand significantly the residential mortgage loan servicing portfolio of
the Company within identified niches, thereby increasing non-interest
income, improving operational efficiencies, and increasing custodial
escrow deposits; and
. diversify its revenue sources through development of new business lines
and potential acquisitions of financial services businesses that the
Company currently operates in or that management believes are
complementary to its existing business.
To accomplish this strategy, the Company has established an infrastructure,
including management information systems, capable of servicing significantly
more residential mortgage loans than it currently services, formed UCM,
acquired Vintage, implemented new loan programs, and started a national call
center to complement Matrix Financial's existing wholesale loan origination
capabilities.
OTHER INFORMATION. The Company is a unitary thrift holding company that was
incorporated in Colorado in June 1993. Its principal executive offices are
located at 1380 Lawrence Street, Suite 1410, Denver, Colorado 80204, and its
telephone number is (303) 595-9898.
5
<PAGE>
THE OFFERING
Securities offered..........
$20,000,000 principal amount of 11.50% Senior
Notes due 2004.
Denominations............... $1,000 and integral multiples thereof.
Maturity.................... September 30, 2004.
Mandatory redemption........
None.
Optional redemption......... None.
Interest payment dates...... Semiannually on March 31 and September 30 of
each year, commencing March 31, 1998. The first
interest payment will represent interest from
the date of issuance of the Notes to March 31,
1998. See "Description of the Notes."
Sinking fund................
None.
Change of control........... Upon a Change of Control (as defined in
"Description of Notes--Certain Definitions"),
Matrix Capital will be required to make an
offer to repurchase all outstanding Notes at
101% of the principal amount thereof plus
accrued and unpaid interest thereon, if any, to
the date of repurchase.
Covenants................... The indenture pursuant to which the Notes will
be issued (the "Indenture") will restrict,
among other things, the Company's ability to
incur additional indebtedness and issue
preferred stock, incur liens to secure pari
passu or subordinated indebtedness, pay
dividends or make certain other restricted
payments, apply net proceeds from certain asset
sales, enter into certain transactions with
affiliates, merge or consolidate with any other
person, sell stock of Subsidiaries or sell,
assign, transfer, lease, convey, or otherwise
dispose of substantially all of the assets of
the Company. See "Description of the Notes."
Ranking.....................
The Notes will be unsecured general obligations
of Matrix Capital and will rank pari passu in
right of payment with all current and future
Senior Indebtedness (as defined in "Description
of the Notes--Certain Definitions") of Matrix
Capital. However, the Notes will be effectively
subordinated to all existing and future secured
Indebtedness of Matrix Capital and the
Subsidiaries, including the Permitted Secured
Indebtedness (as defined herein) as described
below, and interests (including Indebtedness)
of Securitization Trusts, which rank senior in
right of payment to Matrix Capital's right to
receive excess cash flow of such trusts. As of
the date hereof, the Permitted Secured
Indebtedness of Matrix Capital outstanding
consists of approximately $920,000 in mortgage
indebtedness
6
<PAGE>
outstanding on the building owned by Matrix
Capital in Phoenix, Arizona, approximately
$5,500,000 outstanding under the bank stock
loan of Matrix Capital with Bank One, Texas,
N.A., and approximately $466,000 in term debt
secured by servicing rights owned by a
Subsidiary (the "Permitted Secured
Indebtedness"). In addition, the Notes will be
effectively subordinated to all liabilities of
the Subsidiaries, including the deposits of
Matrix Bank. As of June 30, 1997, the
Subsidiaries had approximately $28.2 million of
long-term indebtedness (excluding guarantees of
Matrix Capital's Indebtedness). See
"Management's Discussion and Analysis of
Financial Condition and Results of Operations--
Liquidity and Capital Resources" and
"Description of the Notes--General."
Use of proceeds.............
The net proceeds of this offering will be used
to reduce the balances outstanding on certain
of the Company's revolving line of credit
facilities. See "Use of Proceeds."
Rating...................... The Notes have not been rated.
7
<PAGE>
SUMMARY CONSOLIDATED FINANCIAL AND OPERATING INFORMATION
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
The following table sets forth historical summary financial and other
information of the Company as of the dates and for the periods indicated. In
February 1997, the Company acquired Vintage in a transaction accounted for as a
pooling of interests. As a result of the pooling, the historical financial and
other information of the Company has been restated to include the financial and
other information of Vintage.
<TABLE>
<CAPTION>
AS OF AND FOR THE
AS OF AND FOR THE SIX MONTHS
YEAR ENDED DECEMBER 31, ENDED JUNE 30,
---------------------------------- ------------------------
1994 1995 1996 1996 1997
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
OPERATING DATA
Net interest income be-
fore provision for loan
and valuation losses... $ 4,004 $ 3,592 $ 6,059 $ 2,665 $ 5,771
Provision for loan and
valuation losses....... 216 401 143 152 297
---------- ---------- ---------- ---------- ----------
Net interest income..... 3,788 3,191 5,916 2,513 5,474
Non-interest income:
Loan administration.... 6,926 7,749 8,827 4,632 8,264
Brokerage.............. 4,017 4,787 4,364 1,947 1,961
Trust services......... 2,488 2,869 3,061 1,616 1,768
Gain on sale of loans
and mortgage-backed
securities............ 1,590 3,272 3,369 852 964
Gain on sale of mort-
gage servicing
rights................ 684 1,164 3,232 1,091 2,352
Loan origination(1).... 1,294 2,069 1,561 194 1,509
Other.................. 940 1,744 2,173 933 1,537
---------- ---------- ---------- ---------- ----------
Total non-interest in-
come.................. 17,939 23,654 26,587 11,265 18,355
Non-interest expense.... 16,593 20,453 26,655 11,286 17,930
---------- ---------- ---------- ---------- ----------
Income before income
taxes.................. 5,134 6,392 5,848 2,492 5,899
Income taxes............ 2,014 2,469 2,278 991 2,275
---------- ---------- ---------- ---------- ----------
Net income.............. $ 3,120 $ 3,923 $ 3,570(2) $ 1,501(2) $ 3,624
========== ========== ========== ========== ==========
Net income per common
and common equivalent
share(3)............... $ .69 $ .83 $ .68 $ .31 $ .53
Weighted average common
and common equivalent
shares outstanding..... 4,529,593 4,707,221 5,077,040 4,707,221 6,776,895
Cash dividends paid by
pooled company prior to
merger................. $ -- $ -- $ 201 $ 66 $ --
BALANCE SHEET DATA
Total assets............ $ 113,597 $ 186,313 $ 274,559 $ 216,930 $ 502,563
Total loans (excluding
allowance for loan and
valuation losses)...... 90,068 147,608 213,400 150,561 395,126
Allowance for loan and
valuation losses....... 728 943 1,039 1,058 1,339
Nonperforming loans(4).. 3,314 5,538 3,903 4,092 3,376
Mortgage servicing
rights................. 6,183 13,817 23,680 10,587 30,811
Foreclosed real es-
tate(4)................ 543 835 788 1,093 1,418
Deposits................ 41,910 48,877 90,179 73,509 202,598(10)
Custodial escrow bal-
ances.................. 24,687 27,011 37,881 26,689 80,924
FHLB borrowings......... 14,600 19,000 51,250 36,400 70,600
Borrowed money.......... 18,438 65,093 42,431 52,089 87,451
Total shareholders' eq-
uity................... 6,662 10,686 32,270 12,157 35,894
OPERATING RATIOS AND
OTHER SELECTED DATA
Return on average as-
sets(5)(11)............ 3.13% 2.59% 1.69% 1.48% 1.88%
Return on average equi-
ty(5)(11).............. 57.06 47.62 24.30 26.53 21.41
Average equity to aver-
age assets(5).......... 5.49 5.44 6.97 5.57 8.76
Net interest mar-
gin(5)(6)(11).......... 4.64 2.84 3.45 3.10 3.78
Operating efficiency ra-
tio(7)................. 76.37 76.19 82.01 81.91 75.24
Total amount of loans
purchased.............. $ 80,048 $ 91,774 $ 159,015 $ 65,262 $ 208,483
Balance of owned servic-
ing portfolio (end of
period)................ $1,041,785 $1,596,385 $2,505,036 $1,362,444 $2,980,579
Trust assets under ad-
ministration (end of
period)................ $ 750,186 $ 952,528 $1,162,231 $1,070,678 $1,305,874
</TABLE>
8
<PAGE>
<TABLE>
<CAPTION>
AS OF AND FOR THE
AS OF AND FOR THE SIX MONTHS
YEAR ENDED DECEMBER 31, ENDED JUNE 30,
---------------------------- ------------------
1994 1995 1996 1996 1997
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Wholesale loan origination
volume...................... $183,130 $388,937 $583,279 $373,024 $192,698
Ratio of earnings to fixed
charges:(8)
Including interest on depos-
its........................ 2.58x 1.86x 1.54x 1.45x 1.78x
Excluding interest on depos-
its........................ 3.91x 2.22x 1.84x 1.64x 2.61x
Excluding interest on depos-
its and FHLB borrowing..... 4.31x 2.55x 2.18x 1.85x 3.01x
Excluding interest on depos-
its, FHLB borrowing and
warehouse debt............. 7.87x 4.24x 3.58x 3.05x 4.47x
LOAN PERFORMANCE RATIOS
Nonperforming loans/total
loans(4).................... 3.68% 3.75% 1.83% 2.72% 0.85%
Nonperforming assets/total
assets(4)................... 3.40 3.42 1.89 2.39 0.99
Net loan charge offs/average
loans(5)(11)................ 0.03 0.15 0.03 0.02 0.00
Allowance for loan and valua-
tion losses/total loans(9).. 0.81 0.64 0.49 0.70 0.34
Allowance for loan and valua-
tion losses/nonperforming
loans(9).................... 21.97 17.03 26.62 25.86 39.66
</TABLE>
- --------
(1) On January 1, 1995, the Company adopted FAS 122. Since FAS 122 prohibits
retroactive application, the historical accounting results for 1995, 1996,
and 1997 are not directly comparable to the results for prior periods.
(2) See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Comparison of Results of Operations for the Six
Months Ended June 30, 1997 and 1996--Loan Origination" for a discussion of
the impact on net income of a secondary marketing loss incurred in March
1996.
(3) Net income per common and common equivalent share is based on the weighted
average number of common shares outstanding during each period and the
dilutive effect, if any, of stock options and warrants outstanding. There
are no other dilutive securities.
(4) See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Asset and Liability Management--Nonperforming
Assets" for a discussion of the impact of certain bulk purchases of
mortgage loan portfolios on the level of nonperforming loans and
foreclosed real estate, and the effect of repurchasing sub-prime
automobile loans.
(5) Calculations are based on average daily balances where available and
monthly averages otherwise.
(6) Net interest margin has been calculated by dividing net interest income
before loan and valuation loss provision by average interest-earning
assets.
(7) The operating efficiency ratio has been calculated by dividing non-
interest expense by operating income (net interest income plus non-
interest income).
(8) For purposes of computing the ratio of earnings to fixed charges, earnings
represent income before income taxes and fixed charges. Fixed charges
represent interest expense and the estimated interest component of net
rental payments.
(9) The allowance for loan and valuation losses does not include a $600,000
and $895,000 liability reserve account at December 31, 1996 and June 30,
1997, respectively, to cover potential losses associated with certain sub-
prime automobile loans repurchased by Matrix Bank. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations--
Asset and Liability Management--Nonperforming Assets."
(10) Deposits increased by the transfer to Matrix Bank of $80.0 million of
deposits held in trust from a third party institution following the
acquisition of Vintage.
(11) Ratios for the six months ended June 30, 1996 and 1997 have been
calculated on an annualized basis.
9
<PAGE>
RISK FACTORS
An investment in the Notes involves a high degree of risk. Prospective
investors should carefully consider the following factors, in addition to the
other information contained in this Prospectus, in evaluating an investment in
the Notes offered hereby.
RANKING OF NOTES
The Notes will be general unsecured obligations of Matrix Capital and will
rank pari passu in right of payment with all current and future Senior
Indebtedness of Matrix Capital. However, the Notes will be effectively
subordinated to all existing and future secured Indebtedness of Matrix Capital
and the Subsidiaries, including the Permitted Secured Indebtedness, and
interests (including Indebtedness) of Securitization Trusts, which rank senior
in right of payment to Matrix Capital's right to receive excess cash flow of
such trusts. The Notes will represent the only borrowings of the Company
outstanding at the parent level at the completion of the offering, except for
the Permitted Secured Indebtedness, an aggregate of $8.8 million of which is
expected to be outstanding upon consummation of the offering, and an aggregate
of $2.9 million in Senior Subordinated Notes issued by Matrix Capital in
August 1995 (the "Senior Subordinated Notes"). The Indenture generally permits
the Company and its Subsidiaries to incur additional indebtedness as long as
the Company maintains a Consolidated Leverage Ratio (as defined in
"Description of the Notes--Certain Definitions") of at least 2.0 to 1.0. See
"Description of the Notes--Certain Covenants--Incurrence of Indebtedness and
Issuance of Preferred Stock."
Because Matrix Capital is a holding company, the right of Matrix Capital to
participate in any distribution of assets of any Subsidiary upon such
Subsidiary's liquidation or reorganization or otherwise (and thus the ability
of holders of the Notes to benefit indirectly from such distribution) is
subject to the prior claims of creditors of that Subsidiary (including
depositors in the case of Matrix Bank), except to the extent that Matrix
Capital may itself be recognized as a creditor of that Subsidiary. As of June
30, 1997, the Subsidiaries had approximately $28.2 million of long-term
indebtedness (excluding guarantees of Matrix Capital's Indebtedness).
Accordingly, the Notes will be effectively subordinated to all existing and
future liabilities of the Subsidiaries, and holders of Notes should look only
to the assets of Matrix Capital for payments on the Notes.
DEPENDENCE ON DIVIDENDS AND INTEREST PAYMENTS FROM THE SUBSIDIARIES
As a holding company without significant assets other than its equity
interest in the Subsidiaries, Matrix Capital's ability to pay interest on the
Notes depends primarily upon the cash dividends Matrix Capital receives from
the Subsidiaries. Dividend payments from the Subsidiaries are subject to
regulatory and/or other limitations imposed by the various regulatory agencies
with authority over the respective Subsidiaries and by the various lenders to
the respective Subsidiaries and Matrix Capital. Payment of dividends is also
subject to regulatory restrictions if such dividends would impair the capital
of the Subsidiaries. Payment of dividends by the Subsidiaries is also subject
to the Subsidiaries' profitability, financial condition and capital
expenditures, and other cash flow requirements. No assurance can be given that
the Subsidiaries will be able to pay dividends at past levels, or at all, in
the future. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations--Liquidity and Capital Resources" and "Supervision
and Regulation."
RESTRICTIONS IMPOSED BY THE TERMS OF THE COMPANY'S INDEBTEDNESS
The Revolving Lines of Credit (as defined in "Use of Proceeds"), the
Indenture and the terms of the Senior Subordinated Notes issued by Matrix
Capital in August 1995 contain covenants limiting, among other things, the
nature and amount of additional indebtedness that the Company may incur. These
covenants could limit the Company's ability to withstand competitive pressures
or adverse economic conditions, make acquisitions or take advantage of
business opportunities that may arise. Failure to comply with these covenants
could, as provided in the Revolving Lines of Credit, permit the lenders under
the Revolving Lines of Credit or the Permitted Secured Indebtedness, as the
case may be, to accelerate payment of the amounts borrowed under the
facilities, or, in the case of the Permitted Secured Indebtedness, to
foreclose upon the collateral securing the Permitted Secured Indebtedness.
Because, however, the Notes are senior in right of payment to the Senior
Subordinated Notes, upon the maturity of any payments relating to the Notes,
whether by lapse of time, acceleration or otherwise, unless
10
<PAGE>
and until all principal, premium, interest or other amounts due under the
terms of the Notes are paid in full, no amounts may be paid in respect of the
Senior Subordinated Notes. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital
Resources" and "Description of the Notes--General."
POTENTIAL FOR ADDITIONAL SENIOR INDEBTEDNESS
Under the Indenture and the terms of the Senior Subordinated Notes and the
Permitted Secured Indebtedness, the Company will be permitted to incur
substantial Senior Indebtedness. Based on the Company's consolidated
shareholders' equity as of June 30, 1997, the Company would be permitted to
borrow approximately $72.0 million in Senior Indebtedness. The interest
expense associated with the Notes and the potential interest expense
associated with the maximum permitted Senior Indebtedness could substantially
increase the Company's fixed charge obligations and could potentially limit
the Company's ability to meet its obligations under the Notes. In addition to
Senior Indebtedness, Matrix Capital and its Subsidiaries may incur
Indebtedness and encumber assets for a variety of uses in the ordinary course
of business without limit. See "Description of the Notes."
LIMITED COVENANTS IN THE INDENTURE
The Indenture contains financial and operating covenants including, among
others, limitations on the Company's ability to pay dividends, to incur
additional indebtedness and to engage in certain transactions, including
consolidations, mergers or transfers of all or substantially all of its
assets. The covenants in the Indenture are limited and are not designed to
protect holders of the Notes in the event of a material adverse change in the
Company's financial condition or results of operations. See "Description of
the Notes."
LIMITED OPERATING HISTORY OF THE COMPANY
The Company was formed in 1993 to combine the operations of Matrix Financial
and United Financial, which were formed in 1990 and 1989, respectively. The
Company purchased Matrix Bank in 1993, formed USS as a start-up operation in
1995, formed UCM in 1996 and completed the acquisition of Vintage in 1997.
This series of combinations, purchases and formations has involved the
integration of the operations of companies that previously operated
independently or, in the case of USS and UCM, not at all. Consequently, the
Company has a limited operating history under its existing corporate structure
upon which investors may base an evaluation of its performance. There can be
no assurance that the Company will not encounter significant difficulties in
integrating operations acquired or commenced in the future, including the
recently acquired self-directed (non-discretionary) trust services and broker-
dealer operations provided by Vintage and its subsidiaries, Sterling Trust and
First Matrix.
POTENTIAL ADVERSE IMPACT OF FLUCTUATING INTEREST RATES
RESIDENTIAL MORTGAGE LOAN SERVICING RIGHTS. The Company's ownership of
residential mortgage loan servicing rights carries interest rate risk because
the total amount of servicing fees earned, as well as the amortization of the
investment in the servicing rights, fluctuates based on loan prepayments
(affecting the expected average life of a portfolio of residential mortgage
servicing rights). The rate of prepayment of mortgage loans may be influenced
by changing national and regional economic trends, such as recessions or
depressed real estate markets, as well as the difference between interest
rates on existing mortgage loans relative to prevailing mortgage rates. During
periods of declining interest rates, many borrowers refinance their mortgage
loans. Accordingly, prepayments of mortgage loans increase and the loan
administration fee income related to the mortgage loan servicing rights
corresponding to a mortgage loan ceases as underlying loans are prepaid.
Consequently, the market value of portfolios of mortgage loan servicing rights
tends to decrease during periods of declining interest rates, since greater
prepayments can be expected. The income derived from and the market value of
the Company's servicing portfolio, therefore, may be adversely affected during
periods of declining interest rates. See "--Risks Associated with General
Economic Conditions" and "Business--Residential Mortgage--Loan Origination."
ASSET AND LIABILITY MANAGEMENT. The Company's earnings depend in part upon
the level of its net interest income. Net interest income is the difference
between the interest income received from interest-earning assets
11
<PAGE>
and the interest expense incurred in connection with interest-bearing
liabilities. Accordingly, the Company is vulnerable to an increase in interest
rates to the extent that its interest-earning assets, such as mortgage loans,
have longer effective maturities than, or do not adjust as quickly as, its
interest-bearing liabilities. In a rising interest rate environment, interest
rates paid to depositors and on borrowings of the Company may rise more
quickly than rates earned on the Company's loan portfolio. Under such
circumstances, material and prolonged increases in interest rates generally
would materially and adversely affect net interest income and the value of
interest-earning assets, while material and prolonged decreases in interest
rates generally would have a favorable effect on net interest income and the
value of interest-earning assets. Fluctuating interest rates also may affect
the net interest income earned by the Company resulting from the difference
between the yield to the Company on mortgage loans held prior to sale and the
interest paid by the Company for funds advanced under the Company's warehouse
lines of credit to purchase such mortgage loans. The process of balancing the
maturities of the Company's assets and liabilities necessarily involves
estimates as to how changes in the general level of interest rates will impact
the yields earned on assets and the rates paid on liabilities. These estimates
may prove to be inaccurate. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
PIPELINE LOANS. Secondary marketing losses on sales of originated mortgage
loans may result from changes in interest rates from the time the interest
rate on the customer's mortgage loan application is established to the time
the Company sells the loan. Such a change in interest rates could result in a
loss upon the sale of such loans. In order to hedge this risk and to minimize
the effect of interest rate changes on the sale of originated loans, the
Company commits to sell mortgage loans to investors for delivery at a future
time for a stated price. At any given time, the Company's policy is to sell
substantially all of its mortgage loans that are closed and a percentage of
the mortgage loans that are not yet closed but for which the interest rate has
been established ("pipeline loans").
To manage the interest rate risk of the Company's pipeline loans, the
Company continuously projects the percentage of the pipeline loans it expects
to close and, on the basis of such projections, enters into forward
commitments to sell such loans. If an unanticipated change in interest rates
occurs, the actual percentage of mortgage loans that close may differ from the
projected percentage. The resulting mismatch of commitments to originate loans
and commitments to sell loans may have an adverse effect on the results of
operations of the Company. A sudden increase in interest rates can cause a
higher percentage of mortgage loans to close than projected. To the degree
this may not have been anticipated, the Company may not have made commitments
to sell these additional loans and consequently may incur significant losses
upon their sale, adversely affecting results of operations. On the other hand,
if a lower percentage of mortgage loans close than was projected, due to a
sudden decrease in interest rates or otherwise, the Company may have committed
to sell more loans than actually close and as a result may incur significant
losses in fulfilling these commitments, adversely affecting results of
operations. This risk is greatest during times of high interest rate
volatility.
In March 1996, a dramatic and sudden increase in interest rates, coupled
with a failure on the part of a former officer of Matrix Financial to adhere
to the hedging policies established by Matrix Financial's board of directors,
resulted in $1.9 million secondary marketing loss. These established policies
set benchmarks for Matrix Financial's forward commitments to deliver loans or
mortgage backed securities which are to be maintained against the pipeline of
loan commitments made to borrowers. In addition, these policies stipulate that
all closed loans are to be fully hedged with forward commitments. Neither
policy was adhered to, which resulted in a $1.9 million loss when interest
rates increased dramatically in March 1996, thereby causing the funded loans
and pipeline commitments to decline in market value. Had these policies been
followed, the Company would still have recognized a loss, albeit significantly
smaller, since it is difficult for the Company to be completely hedged when
interest rates rapidly and significantly change. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations--Comparison of
Results of Operations for the Six Months Ended June 30, 1997 and 1996--Loan
Origination."
12
<PAGE>
POTENTIAL FLUCTUATIONS IN QUARTERLY RESULTS
The Company's financial results are subject to significant quarterly
fluctuations as a result of, among other things, the variance in the number
and magnitude of purchases and sales of mortgage loans and/or mortgage
servicing rights consummated by the Company from time to time. In addition, a
portion of the Company's revenues are derived from brokerage fees, the timing
and receipt of which are unpredictable. Accordingly, the Company's results of
operations for any particular quarter are not necessarily indicative of the
results that may be achieved for any succeeding quarter or for the full fiscal
year.
DIVERSIFICATION IN BUSINESS LINES; MANAGEMENT OF GROWTH
As part of the Company's business strategy, the Company has in the past
diversified, and may in the future diversify, its lines of business into areas
that are not now part of its core business. As a result, the Company must
manage the development of new business lines in which the Company has not
previously participated. Although the Company's strategy is to acquire on-
going businesses and to retain senior management of the entities that the
Company acquires, such as Vintage, each new business line, including start-up
operations like USS and UCM, requires the investment of additional capital and
the significant involvement of senior management of the Company to acquire or
develop a new line of business and integrate it with the Company's operations.
There can be no assurance that the Company will successfully achieve these
objectives.
In addition to entering into new lines of business, the Company's business
strategy also envisions the expansion of its existing lines of business,
particularly in the area of servicing mortgage loans. The Company believes
that it currently has in place the infrastructure necessary to undertake this
expansion, including management information systems, senior management and
other personnel. However, there can be no assurance that any rapid expansion,
similar to that encountered by the Company over the past several years, would
not unduly burden the Company's infrastructure or that senior management of
the Company could successfully oversee such expansion. See "Business--
Residential Loan Servicing Activities--Residential Mortgage Loan Servicing."
RISKS ASSOCIATED WITH GENERAL ECONOMIC CONDITIONS
Residential mortgage loans comprised approximately 99.6% of the loans
serviced (including loans subserviced for non-affiliates) by the Company and
approximately 90.5% of the loans held by the Company at June 30, 1997. General
economic conditions, whether regional or industry-related or due to a
recession throughout the United States, affect consumers' decisions to buy or
sell residences as well as the number of residential mortgage loan
delinquencies and foreclosures, the value of collateral supporting loan
portfolios, administrative costs in evaluating and processing mortgage loan
applications, and the costs and availability of funds that mortgage banking
companies rely upon in order to make or purchase loans. Changes in the level
of consumer confidence, real estate values, prevailing interest rates, and
investment returns expected by the financial community could make mortgage
loans of the types purchased, serviced, and sold by the Company less
attractive to borrowers or investors.
DEPENDENCE UPON MORTGAGE SERVICING RIGHTS
The Company has relied and expects to continue to rely on the purchase and
sale of mortgage servicing rights for a significant portion of its revenues.
There is no established exchange or trading market for mortgage servicing
rights and no assurance can be given that an active trading market will
develop in the future. The Company believes that it has been able to benefit
from opportunities resulting from inefficiencies in the existing market for
mortgage servicing rights; however, no assurance can be given that such
inefficiencies will continue in the future, and even if continued, that the
Company will be able to benefit from such inefficiencies to the extent it has
in the past, or that if an active trading market for mortgage servicing rights
develops in the future, the Company will be able to benefit from such
developments. See "Business--Residential Loan Servicing Activities--
Acquisition of Servicing Rights." The supply of and demand for mortgage
servicing rights are affected by a number of factors beyond the Company's
control, including, among others, interest rates, regional
13
<PAGE>
and national economic conditions, other factors affecting the housing
industry, regulations affecting the financial services industry and accounting
rules and interpretations related to the accounting treatment of mortgage
servicing rights. Some or all of these factors may adversely affect the
Company's ability to originate, purchase, and sell mortgage servicing rights
profitably in the future. See "Business--Residential Loan Servicing
Activities."
CONCENTRATION OF LOANS AND SERVICING RIGHTS
The Company's portfolio of residential mortgage loans and mortgage servicing
rights are concentrated in certain geographic areas. The geographic areas in
which concentrations exist varies from time to time. Consequently, the
Company's results of operations and financial condition are dependent upon
general trends in the markets in which concentrations exist and, more
specifically, their respective residential real estate markets. A decline in a
market in which the Company has a concentration may adversely affect the
values of properties securing the Company's loans, such that the principal
balances of such loans, together with any primary financing on the mortgaged
properties, may equal or exceed the value of the mortgaged properties, making
the Company's ability to recover losses in the event of a borrower's default
extremely unlikely. In addition, uninsured disasters such as earthquakes and
mudslides may adversely impact borrowers' ability to repay loans made by the
Company and the value of collateral underlying such loans, which could have a
material adverse effect on the Company's results of operations and financial
condition. See "--Risks Associated with General Economic Conditions."
DELINQUENCY, FORECLOSURE AND CREDIT RISKS
MORTGAGE LOAN PORTFOLIO. The Company's loan portfolios include loans that
were originated by numerous lenders throughout the United States under various
loan programs and underwriting standards. Many of the loan portfolios include
loans that have had payment delinquencies in the past or, to a lesser extent,
are delinquent at the time of the purchase. As a part of the Company's
business strategy, portfolios of mortgage loans with varying degrees of
current and past delinquencies are purchased at discounts. Although the
Company performs extensive due diligence procedures at the time loans are
purchased, there remains the risk of continuing or recurrent delinquency. The
Company assumes substantially all risk of loss associated with its loan
portfolio in the case of foreclosure. This risk includes the cost of the
foreclosure, the loss of interest, and the potential loss of principal to the
extent that the value of the underlying collateral is not sufficient to cover
the Company's investment in the loan. See "Business--Purchase and Sale of Bulk
Loan Portfolios."
SERVICING PORTFOLIO. The Company also is affected by mortgage loan
delinquencies and defaults on mortgage loans that it services. Under many
types of mortgage servicing contracts, even when mortgage loan payments are
delinquent, the servicer must forward all or part of the scheduled payments to
the owner of the mortgage loan. Also, to protect their liens on mortgaged
properties, owners of mortgage loans usually require the servicer to advance
mortgage and hazard insurance and tax payments on schedule even though
sufficient escrow funds may not be available. Typically, the servicer will
ultimately be reimbursed by the mortgage loan owner or from foreclosure
proceeds for payments advanced that the servicer is unable to recover from the
borrower. However, in the interim, the servicer must absorb the cost of funds
advanced during the time such advance is outstanding. Further, the servicer
must bear the increased costs of attempting to collect on delinquent and
defaulted mortgage loans. Although these increased costs are somewhat reduced
through the receipt of late fees and the reimbursement of certain direct
expenses out of foreclosure proceeds, the Company believes that increased
delinquencies and defaults generally increase the costs of the servicing
function. In addition, the Company is required to forego servicing income from
the time and as long as the loan is delinquent. See "Business--Residential
Loan Servicing Activities--Residential Mortgage Loan Servicing."
POSSIBLE INADEQUACY OF ALLOWANCE FOR LOAN LOSSES
The Company's allowance for loan losses is maintained at a level considered
adequate by management to absorb anticipated losses. The amount of future
losses is susceptible to changes in economic, operating and other conditions,
including changes in interest rates, that may be beyond the Company's control,
and such losses may
14
<PAGE>
exceed current estimates. Although management believes that the Company's
allowance for loan losses is adequate to absorb any losses on existing loans
that may become uncollectible, there can be no assurance that the allowance
will prove sufficient to cover actual loan losses on existing loans in the
future. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Asset and Liability Management--Analysis of Allowance
for Loan Losses."
LEGAL PROCEEDINGS
In the ordinary course of its business, the Company is subject to claims
made against it by borrowers and private investors arising from, among other
things, losses that are claimed to have been incurred as a result of alleged
breaches of contract and fiduciary obligations, misrepresentations, errors and
omissions of employees, officers and agents of the Company, incomplete
documentation and failures by the Company to comply with various laws, and
regulations applicable to its business, including federal and state banking
and consumer lending laws. Although management does not believe that any
liability for current outstanding litigation would exceed amounts accrued
therefore, there can be no assurance that any liability with respect to
current legal actions, or ones that might be instituted in the future, would
not be material to the Company's consolidated results of operations, financial
condition, or cash flows. See "--Liabilities Under Representations and
Warranties," "Business--Legal Proceedings," and "Supervision and Regulation."
LIABILITIES UNDER REPRESENTATIONS AND WARRANTIES
In the ordinary course of business, the Company makes representations and
warranties to the purchasers and insurers of mortgage and other loans and the
purchasers of mortgage servicing rights regarding compliance with laws,
regulations, and program standards, as well as representations and warranties
regarding the accuracy of certain information. To a lesser extent, the Company
contractually provides recourse relating to the performance of the loans that
it sells. Under certain circumstances, the Company may become liable for
damages or may be required to repurchase a loan if there has been a breach of
these representations or warranties or in a case where contractual recourse is
permitted. The Company generally receives similar representations and
warranties from the originators and sellers from whom it purchases mortgage
and other loans and servicing rights. However, in the event of breaches of
such representations and warranties, the Company is subject to the risk that
an originator may not have the financial capacity to repurchase loans when
called upon to do so by the Company, or otherwise respond to demands made by
the Company. During 1996 and the six months of 1997, the Company realized
losses of $150,000 and $259,000, respectively, which were reserved for in
prior periods. These losses relate to repurchases resulting from a particular
servicing portfolio purchased by the Company. The Company believes it has
recourse against the seller of the mortgage servicing rights, but does not
expect to make any significant recovery due to the current financial condition
of the seller. The Company as of June 30, 1997 also has an accrued liability
of $71,000 for additional losses relating to this servicing portfolio. Matrix
Bank had, as of June 30, 1997, repurchased approximately $4.0 million of
automobile installment loans and repossessed automobiles that Sterling Finance
sold to outside investors, including approximately $1.5 million of automobile
installment loans plus $108,000 of accrued interest pursuant to the settlement
with a certain purchaser completed in the second quarter of 1997. The Company
recorded total provisions for losses on recourse sales of approximately $1.9
million for the repurchased automobile installment loans and repossessed
automobiles. See "Supervision and Regulation--Federal Savings Bank
Operations--Regulation of Sub-Prime Automobile Lending." The Company does not
anticipate any future material losses in connection with these two portfolios
or as a result of additional repurchases due to breaches of representations
and warranties; however; there can be no assurance that the Company will not
experience such losses. See "Business--Residential Loan Servicing Activities--
Servicing Sales."
IMPACT OF REGULATION
GENERAL. The operations of the Company are subject to extensive regulation
by federal and state governmental authorities and are subject to various laws
and regulations and judicial and administrative decisions
15
<PAGE>
that, among other things, establish licensing requirements, regulate credit
extension, establish maximum interest rates and insurance coverages, require
specific disclosures to customers, prohibit discrimination in mortgage lending
activities, govern secured transactions, establish collection, repossession
and claims handling procedures and other trade practices and, in certain
states, require payment of interest on servicing-related custodial escrow
deposits. In particular, Matrix Bank is subject to extensive regulation,
examination, and supervision by the Office of Thrift Supervision (the "OTS"),
as its chartering agency, and the FDIC, as insurer of deposits held at Matrix
Bank. Matrix Bank is a member of the Federal Home Loan Bank (the "FHLB")
system and its deposits are insured by the FDIC up to the applicable limits of
the Savings Association Insurance Fund (the "SAIF"). In addition, in certain
instances, the ability of Matrix Financial and Matrix Bank to pay dividends to
Matrix Capital could be restricted due to regulatory requirements. Sterling
Trust is regulated by the Texas Department of Banking as a Texas chartered
trust company. Under applicable law, a Texas trust company, such as Sterling
Trust, is subject to virtually all provisions of the Texas Banking Act of 1995
(the "TBA") as if the trust company were a state chartered bank. There can be
no assurance that more restrictive laws, rules, or regulations will not be
adopted in the future, or that existing or proposed laws will not be changed
to the detriment of the Company. Any change in such laws and regulations, or
the adoption of more restrictive laws and regulations, whether by the OTS, the
FDIC, the Texas Department of Banking, the Congress of the United States, or
the Texas legislature could have a material adverse effect on the Company and
its financial condition or results of operations. See "--Dependence on
Dividends and Interest Payments from the Subsidiaries" and "Supervision and
Regulation."
PROPOSED LEGISLATION. Matrix Capital is not currently subject to regulation
by the Federal Reserve. The Congress of the United States adopted a bill that
did not become law, but that would have required federal savings banks to
convert to national banks. In the event of such a conversion, subject to
limited grandfathering, thrift holding companies, such as Matrix Capital,
would have become regulated by the Federal Reserve. The Federal Reserve
requires bank holding companies to maintain a leverage ratio of 5.0% with the
aggregate amount of purchased mortgage servicing rights not to exceed 50.0% of
Tier 1 capital (the numerator of the leverage ratio). Had Matrix Capital been
subject to the Federal Reserve's capital regulations as of June 30, 1997, its
consolidated leverage ratio would have been approximately 4.7% (assuming no
other adjustments).
FEDERAL PROGRAMS. The Company's ability to sell mortgage loans is largely
dependent upon the continuation of programs administered by the Federal
National Mortgage Association ("FNMA"), the Federal Home Loan Mortgage
Corporation ("FHLMC"), and the Government National Mortgage Association
("GNMA"), which facilitate the sale of mortgage loans and the pooling of such
loans into mortgage-backed securities, as well as the Company's continued
eligibility to participate in such programs. The discontinuation of, or a
significant reduction in, the operation of such programs would have an adverse
effect on the Company's operations. The Company expects that it will continue
to remain eligible to participate in such programs, but any significant
impairment of such eligibility would adversely affect its operations because
seller/servicer status is vital to its servicing business. In addition, the
products offered under such programs may be changed from time to time. The
profitability of specific products may vary depending on a number of factors,
including the administrative costs to the Company of originating or acquiring
such products. See "Business--Residential Mortgage Loan Origination--Sale of
Loan Originations" and "Supervision and Regulation."
POTENTIAL LIMITATIONS ON AVAILABILITY OF FUNDING SOURCES
Funding for the Company's mortgage banking activities, including the
acquisition of mortgage servicing rights and the acquisition and origination
of mortgage loans, is provided primarily through lines of credit and
sale/repurchase facilities from various financial institutions and from FHLB
borrowings. The Company's business plan entails, and the profitable use of the
proceeds of the offering depends, in part, on the Company's ability to
maintain existing credit facilities and negotiate additional credit facilities
for the acquisition of mortgage servicing rights and other purposes. There can
be no assurance that existing credit facilities will be renewed, or if
renewed, that the terms will be favorable to the Company. Furthermore, there
can be no assurance that additional credit lines will be available, or if
available, that the terms will be favorable to the Company.
16
<PAGE>
Unavailability of funding on terms favorable to the Company, or at all, would
have an adverse effect on the Company's business and financial condition. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources."
COMPETITION
The industries in which the Company competes are highly competitive. The
Company competes with other mortgage banking companies, servicing brokers,
commercial banks, savings associations, credit unions, other financial
institutions, trust companies, broker/dealers, and various other lenders. A
number of these competitors have substantially greater financial resources,
greater operating efficiencies, and longer operating histories than the
Company. Customers distinguish between product and service providers in the
industries in which the Company operates for various reasons, including
convenience in obtaining the product or service, overall customer service,
marketing and distribution channels, and pricing for the various products and
services. Because of its emphasis on mortgage banking activities, competition
for the Company is affected particularly by fluctuations in interest rates.
During periods of rising rates, competitors of the Company who have locked in
lower borrowing costs may have a competitive advantage. During periods of
declining rates, competitors may solicit the Company's customers to refinance
their loans. During economic slowdowns or recessions, credit-impaired
borrowers may have new financial difficulties and may be receptive to offers
by the Company's competitors. See "Business--Competition."
RELIANCE ON SYSTEMS AND CONTROLS
The Company depends heavily upon its systems and controls, many of which are
designed specifically for its business. These systems and controls support the
evaluation, acquisition, monitoring, collection, and administration of the
Company's mortgage loan and servicing portfolios, as well as support the
consulting and brokerage functions performed by the Company and the
depository, general accounting, trust services, and other management functions
of the Company. For example, in order to track information on its mortgage
servicing portfolio, the Company utilizes a data processing system provided by
Alltel Information Services Inc. ("Alltel"), formerly known as Computer Power
Incorporated, or CPI. There can be no assurance that Alltel or the Company's
other providers can continue to provide the systems and controls on which the
Company relies, or that the Company's systems and controls, including those
specially designed and built for the Company, are adequate or will continue to
be adequate to support the Company's growth. A failure of the automated
systems, including a failure of data integrity or accuracy, could have a
material adverse effect upon the Company's business and financial condition.
DEPENDENCE ON KEY PERSONNEL
The Company is dependent upon the continued services of Guy A. Gibson,
Richard V. Schmitz, D. Mark Spencer, and the Company's other executive
officers. While the Company believes that it could find replacements for its
executive officers, the loss of their services could have an adverse effect on
the Company's financial condition or results of operations. None of the
Company's executive officers named above have entered into employment
agreements with the Company, but each has a significant equity interest in the
Company. The Company does not maintain key-man life insurance on any of its
executive officers. See "Management--Employment Agreements" and "Principal
Shareholders."
ABSENCE OF PUBLIC MARKET FOR THE NOTES
There is no existing market for the Notes and there can be no assurance as
to the liquidity of any markets that may develop for the Notes, the ability of
holders of the Notes to sell their Notes or the price at which such holders
would be able to sell their Notes. If such a market were to develop, the Notes
could trade at prices that may be higher or lower than the initial offering
price thereof depending upon many factors, including prevailing interest
rates, the Company's operating results and the markets for similar securities.
The Underwriters have advised the Company that they currently intend to make a
market in the Notes; however, they are not obligated
17
<PAGE>
to do so and any market making may be discontinued at any time without notice.
The Company does not intend to apply for listing of the Notes on any
securities exchange or to seek the inclusion thereof on The Nasdaq Stock
Market.
FORWARD-LOOKING STATEMENTS
Certain statements contained in this Prospectus, including, without
limitation, statements containing the words "believes," "anticipates,"
"intends," "expects," and words of similar import, constitute "forward-looking
statements" within the meaning of the Reform Act. Such forward-looking
statements involve known and unknown risks, uncertainties, and other factors
that may cause the actual results, performance, or achievements of the Company
to be materially different from any future results, performance, or
achievements expressed or implied by such forward-looking statements. Such
factors include, among others, the factors referenced in this Prospectus,
including, without limitation, under the captions "Prospectus Summary," "Risk
Factors," "Management's Discussion and Analysis of Financial Condition and
Results of Operations," "Business," and "Supervision and Regulation." Given
these uncertainties, prospective investors are cautioned not to place undue
reliance on such forward-looking statements. The Company disclaims any
obligation to update any such factors or to publicly announce the results of
any revisions to any of the forward-looking statements contained herein to
reflect future events or developments.
18
<PAGE>
USE OF PROCEEDS
Matrix Capital intends to use the net proceeds of approximately $18.9
million from the sale of the Notes to reduce the balances outstanding on
certain of the Company's revolving line of credit facilities and term loan
facilities (the "Revolving Credit Facilities") (an aggregate of approximately
$77.9 million was outstanding as of June 30, 1997 and approximately $68.5
million is expected to be outstanding upon the consummation of the offering),
which amounts will then become available to the Company under the Revolving
Credit Facilities. Subject to certain collateral limitations, the Company
intends to use future borrowings under the Revolving Credit Facilities to
purchase portfolios of mortgage loan servicing rights as opportunities become
available and to inject capital into Matrix Bank; however, such use may change
if the Company is presented with an opportunity for a strategic acquisition in
a complementary financial services-related area or for the purchase of a
financial institution or a branch by Matrix Bank. The Company has had
preliminary discussions for the purchase of a certain financial services
company, although the Company has no agreements or understandings related to
any such acquisitions of financial institutions, branches, deposits, or other
financial services-related companies.
The Revolving Credit Facilities are secured by the stock of Matrix Bank,
mortgage loans, mortgage servicing rights, eligible servicing advance
receivables, and/or eligible delinquent mortgage loans held by the Company.
The Revolving Credit Facilities bear interest rates (i) in the case of the
bank stock loan, at prime (at June 30, 1997 the prime rate was 8.5%) or (ii)
in the case of the Subsidiaries' revolving credit facilities, at 0.85% to
2.00% over the federal funds rate (at June 30, 1997 the federal funds rate was
5.56%) or, in the case of a $5.0 million revolving credit facility, at the
interest rate on the underlying mortgage note pledged as collateral. Advances
under the Revolving Credit Facilities were incurred primarily during the last
year to inject capital into Matrix Bank, to originate residential mortgage
loans on a wholesale basis, to fund acquisitions of mortgage servicing rights,
and to fund servicing advances. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital
Resources."
RATIOS OF EARNINGS TO FIXED CHARGES
The following table sets forth the ratios of earnings to fixed charges of
the Company on a consolidated basis for the respective periods indicated.
<TABLE>
<CAPTION>
SIX MONTHS
ENDED
YEAR ENDED DECEMBER 31, JUNE 30,
---------------------------- ------------
1992 1993 1994 1995 1996 1996 1997
---- ---- ---- ---- ---- ----- -----
<S> <C> <C> <C> <C> <C> <C> <C>
Ratios of earnings to fixed
charges:
Including interest on deposits... 1.13x 3.28x 2.58x 1.86x 1.54x 1.45x 1.78x
Excluding interest on deposits... 1.13x 4.77x 3.91x 2.22x 1.84x 1.64x 2.61x
Excluding interest on deposits
and FHLB borrowing.............. 1.13x 4.82x 4.31x 2.55x 2.18x 1.85x 3.01x
Excluding interest on deposits,
FHLB borrowing and warehouse
debt............................ 1.14x 6.91x 7.87x 4.24x 3.58x 3.05x 4.47x
</TABLE>
For purposes of computing the ratios of earnings to fixed charges, earnings
represent income before income taxes and fixed charges. Fixed charges
represent interest and the estimated interest component of net rental
payments.
19
<PAGE>
CAPITALIZATION
The following table sets forth as of June 30, 1997 (i) the capitalization of
the Company and (ii) the capitalization of the Company as adjusted to give
effect to the sale of the Notes and application of the estimated net proceeds
to the Company therefrom as described under "Use of Proceeds." This
information is qualified in its entirety by, and should be read in conjunction
with, the Consolidated Financial Statements of the Company and Notes thereto
appearing elsewhere in this Prospectus.
<TABLE>
<CAPTION>
JUNE 30, 1997
--------------------
ACTUAL AS ADJUSTED
-------- -----------
(IN THOUSANDS)
<S> <C> <C>
LIABILITIES
Deposits.................................................. $202,598 $202,598
Custodial escrow balances................................. 80,924 80,924
FHLB borrowings........................................... 70,600 70,600
Borrowed money (1)........................................ 87,451 88,451
-------- --------
Total................................................... 441,573 442,573
SHAREHOLDERS' EQUITY
Preferred Stock, $0.0001 par value; 5,000,000 shares
authorized; no shares outstanding; no shares outstanding
as adjusted.............................................. -- --
Common Stock, $0.0001 par value; 50,000,000 shares
authorized; 6,681,031 shares outstanding................. 1 1
Additional paid-in capital................................ 21,983 21,983
Retained earnings......................................... 13,910 13,910
-------- --------
Total shareholders' equity.............................. 35,894 35,894
-------- --------
Total capitalization.................................... $477,467 $478,467
======== ========
</TABLE>
- --------
(1) Includes indebtedness outstanding under the Revolving Credit Facilities,
an aggregate of $68.5 million of which is expected to be outstanding upon
the consummation of the offering.
(2) Excludes an aggregate of (i) 525,000 shares of Common Stock reserved for
issuance under the 1996 Amended and Restated Stock Option Plan (the "1996
Stock Option Plan"), of which 309,050 shares were subject to outstanding
options at June 30, 1997, (ii) 125,000 shares of Common Stock reserved for
issuance under the Employee Stock Purchase Plan of Matrix Capital (the
"Purchase Plan"), and (iii) 75,000 shares of Common Stock issuable to the
Underwriters upon exercise of warrants issued to such firms upon
consummation of the initial public offering of the Company in October
1996.
20
<PAGE>
REGULATORY CAPITAL RATIOS
The following sets forth the consolidated regulatory capital ratios of Matrix
Bank at June 30, 1997.
<TABLE>
<CAPTION>
AS OF
JUNE 30, 1997
------------------------
CORE RISK-BASED
CAPITAL CAPITAL
----------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C>
Shareholder's equity/GAAP capital.................... $ 20,768 $ 20,768
Additional items:
General valuation allowances....................... -- 1,339
----------- -----------
Regulatory capital as reported to the OTS............ 20,768 22,107
Minimum capital requirement as reported to the OTS... 11,559 17,181
----------- -----------
Regulatory capital--excess........................... $ 9,209 $ 4,926
=========== ===========
Capital ratios....................................... 5.39% 10.29%
Well-capitalized requirement......................... 5.00% 10.00%
</TABLE>
21
<PAGE>
SELECTED CONSOLIDATED FINANCIAL AND OPERATING INFORMATION
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
The following table sets forth historical selected financial and other
information of the Company as of the dates and for the periods indicated. In
February 1997, the Company completed the acquisition of Vintage in a
transaction accounted for as a pooling of interests. As a result of the
pooling, the historical financial and other information of the Company has
been restated to include the financial and other information of Vintage. The
balance sheet data as of December 31, 1995 and 1996 and the operating data for
the years ended December 31, 1994, 1995 and 1996 have been derived from, and
are qualified by reference to, the Consolidated Financial Statements and Notes
thereto, which have been audited by Ernst & Young LLP, independent auditors,
as indicated in their report included elsewhere herein. The balance sheet and
operating data as of June 30, 1996 and 1997 and for the six month periods then
ended and the balance sheet data as of December 31, 1994 and the balance sheet
and operating data as of and for the years ended and the balance sheet data as
of December 31, 1992 and 1993, have been derived from unaudited consolidated
financial statements of the Company. The financial data as of December 31,
1992 and for the year then ended reflects the combined operations of United
Financial, Matrix Financial and Vintage. The unaudited consolidated financial
statements include all adjustments, consisting of normal recurring
adjustments, which the Company considers necessary for a fair presentation of
its financial position as of such dates and the results of operations and cash
flows for such periods. Operating results for the six months ended June 30,
1997 are not necessarily indicative of the results that may be expected for
the entire year ending December 31, 1997. The selected financial data should
be read in conjunction with the Consolidated Financial Statements and Notes
thereto and "Management's Discussion and Analysis of Financial Condition and
Results of Operations" included elsewhere in this Prospectus.
<TABLE>
<CAPTION>
AS OF AND FOR THE
AS OF AND FOR THE SIX MONTHS
YEAR ENDED DECEMBER 31, ENDED JUNE 30,
------------------------------------------------------- ------------------------
1992 1993(1) 1994 1995 1996 1996 1997
---------- ---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
OPERATING DATA
Net interest income
(loss) before provision
for loan and valuation
losses................. $ (551) $ 944 $ 4,004 $ 3,592 $ 6,059 $ 2,665 $ 5,771
Provision for loan and
valuation losses....... -- 15 216 401 143 152 297
---------- ---------- ---------- ---------- ---------- ---------- ----------
Net interest income
(loss)................. (551) 929 3,788 3,191 5,916 2,513 5,474
Non-interest income:
Loan administration.... 6,025 6,427 6,926 7,749 8,827 4,632 8,264
Brokerage.............. 1,842 2,132 4,017 4,787 4,364 1,947 1,961
Trust services......... 1,388 1,685 2,488 2,869 3,061 1,616 1,768
Gain on sale of loans
and mortgage-backed
securities............ 546 2,361 1,590 3,272 3,369 852 964
Gain on sale of
mortgage servicing
rights................ 348 38 684 1,164 3,232 1,091 2,352
Loan origination(2).... -- 221 1,294 2,069 1,561 194 1,509
Other.................. 377 669 940 1,744 2,173 933 1,537
---------- ---------- ---------- ---------- ---------- ---------- ----------
Total non-interest
income................ 10,526 13,533 17,939 23,654 26,587 11,265 18,355
Non-interest expense.... 9,872 12,184 16,593 20,453 26,655 11,286 17,930
---------- ---------- ---------- ---------- ---------- ---------- ----------
Income before income
taxes.................. 103 2,278 5,134 6,392 5,848 2,492 5,899
Income taxes(3)......... -- 404 2,014 2,469 2,278 991 2,275
---------- ---------- ---------- ---------- ---------- ---------- ----------
Net income.............. $ 103 $ 1,874 $ 3,120 $ 3,923 $ 3,570(4) $ 1,501(4) $ 3,624
========== ========== ========== ========== ========== ========== ==========
Net income per common
and common equivalent
share(5)............... $ .69 $ .83 $ .68 $ .31 $ .53
Pro forma net
income(6).............. $ 62 $ 1,367
Pro forma net income per
common and common
equivalent share(6).... $ .01 $ .31
Weighted average common
and common equivalent
shares outstanding..... 4,222,093 4,375,843 4,529,593 4,707,221 5,077,040 4,707,221 6,776,895
Cash dividends(13)...... $ 1 $ 92 $ -- $ -- $ 201 $ 66 $ --
</TABLE>
22
<PAGE>
<TABLE>
<CAPTION>
AS OF AND FOR THE
AS OF AND FOR THE SIX MONTHS
YEAR ENDED DECEMBER 31, ENDED JUNE 30,
-------------------------------------------------------- ----------------------
1992 1993(1) 1994 1995 1996 1996 1997
-------- ---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE SHEET DATA
Total assets.............. $ 10,923 $ 96,553 $ 113,597 $ 186,313 $ 274,559 $ 216,930 $ 502,563
Total loans (excluding
allowance for loan and
valuation losses)........ 497 77,034 90,068 147,608 213,400 150,561 395,126
Allowance for loan and
valuation losses......... -- 538 728 943 1,039 1,058 1,339
Nonperforming loans(7).... -- 853 3,314 5,538 3,903 4,092 3,376
Mortgage servicing
rights................... 6,200 1,818 6,183 13,817 23,680 10,587 30,811
Foreclosed real
estate(7)................ 69 726 543 835 788 1,093 1,418
Deposits.................. -- 45,517 41,910 48,877 90,179 73,509 202,598(14)
Custodial escrow
balances................. -- 31,794 24,687 27,011 37,881 26,689 80,924
FHLB borrowings........... -- -- 14,600 19,000 51,250 36,400 70,600
Borrowed money............ 5,347 8,791 18,438 65,093 42,431 52,089 87,451
Total shareholders'
equity................... 1,754 3,534 6,662 10,686 32,270 12,157 35,894
OPERATING RATIOS AND OTHER
SELECTED DATA
Return on average
assets(8)(15)............ 0.95% 5.30% 3.13% 2.59% 1.69% 1.48% 1.88%
Return on average
equity(8)(15)............ 5.12 73.26 57.06 47.62 24.30 26.53 21.41
Average equity to average
assets(8)................ 18.45 7.24 5.49 5.44 6.97 5.57 8.76
Net interest
margin(8)(9)(15)......... -- 4.15 4.64 2.84 3.45 3.10 3.78
Operating efficiency
ratio(10)................ 98.97 84.25 76.37 76.19 82.01 81.91 75.24
Total amount of loans
purchased................ $ -- $ 32,231 $ 80,048 $ 91,774 $ 159,015 $ 65,262 $ 208,483
Balance of owned servicing
portfolio (end of
period).................. $855,506 $1,007,286 $1,041,785 $1,596,385 $2,505,036 $1,362,444 $2,980,579
Trust assets under
administration (end of
period).................. $521,945 $ 655,750 $ 750,186 $ 952,528 $1,162,231 $1,070,678 $1,305,874
Wholesale loan origination
volume................... $ -- $ 126,200 $ 183,130 $ 388,937 $ 583,279 $ 373,024 $ 192,698
Ratio of earnings to fixed
charges:(11)
Including interest on
deposits................ 1.13x 3.28x 2.58x 1.86x 1.54x 1.45x 1.78x
Excluding interest on
deposits................ 1.13x 4.77x 3.91x 2.22x 1.84x 1.64x 2.61x
Excluding interest on
deposits and FHLB
borrowing............... 1.13x 4.82x 4.31x 2.55x 2.18x 1.85x 3.01x
Excluding interest on
deposits, FHLB borrowing
and warehouse debt...... 1.14x 6.91x 7.87x 4.24x 3.58x 3.05x 4.47x
LOAN PERFORMANCE RATIOS
Nonperforming loans/total
loans(7)................. -- 1.11% 3.68% 3.75% 1.83% 2.72% 0.85%
Nonperforming assets/total
assets(7)................ -- 1.64 3.40 3.42 1.89 2.39 0.99
Net loan charge
offs/average
loans(8)(15)............. -- 0.18 0.03 0.15 0.03 0.02 0.00
Allowance for loan and
valuation losses/ total
loans(12)................ -- 0.70 0.81 0.64 0.49 0.70 0.34
Allowance for loan and
valuation losses/
nonperforming loans(12)..... -- 63.07 21.97 17.03 26.62 25.86 39.66
</TABLE>
- --------
(1) The Company acquired all of the outstanding capital stock of Matrix Bank
on September 23, 1993. The operations of Matrix Bank have been included in
the consolidated operations of the Company from the date of acquisition.
(2) On January 1, 1995, the Company adopted FAS 122. Since FAS 122 prohibits
retroactive application, the accounting results for 1995, 1996, and 1997
are not directly comparable to the results for prior periods.
(3) Prior to the formation of Matrix Capital in June 1993, Matrix Financial
and United Financial had elected for certain periods to be taxed under the
provisions of subchapter "s" of the Code and accordingly did not pay
income taxes on their respective earnings; instead the shareholders of
Matrix Financial and United Financial were liable for such taxes. As a
result, there is no income tax provision for earnings during the periods
in which subchapter "s" treatment had been elected.
(4) See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Comparison of Results of Operations for the Six
Months Ended June 30, 1997 and 1996--Loan Origination" for a discussion of
the impact on net income of a secondary marketing loss incurred in March
1996.
23
<PAGE>
(5) Net income per common and common equivalent share is based on the weighted
average number of common shares outstanding during each period and the
dilutive effect, if any, of stock options and warrants outstanding. There
are no other dilutive securities.
(6) Pro forma net income and pro forma net income per share are presented for
periods in which the Company was not a taxable entity as a result of its
subchapter "s" election. The pro forma net income assumes an effective tax
rate of 40%. Pro forma net income per share is computed by dividing pro
forma net income by the weighted average number of shares of Common Stock
and Common Stock equivalents outstanding during the year.
(7) See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Asset and Liability Management--Nonperforming
Assets" for a discussion of the impact of certain bulk purchases of
mortgage loan portfolios on the level of nonperforming loans and
foreclosed real estate, and the effect of repurchasing sub-prime
automobile loans.
(8) Calculations are based on average daily balances where available and
monthly averages otherwise.
(9) Net interest margin has been calculated by dividing net interest income
before loan and valuation loss provision by average interest-earning
assets.
(10) The operating efficiency ratio has been calculated by dividing non-
interest expense by operating income (net interest income plus non-
interest income).
(11) For purposes of computing the ratio of earnings to fixed charges,
earnings represent income before income taxes, and fixed charges. Fixed
charges represent interest expense and the estimated interest component
of net rental payments.
(12) The allowance for loan and valuation losses does not include a $600,000
and $895,000 liability reserve account at December 31, 1996 and June 30,
1997, respectively, to cover potential losses associated with sub-prime
auto loans repurchased by Matrix Bank. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Asset and
Liability Management--Nonperforming Assets."
(13) The years 1992 and 1996 are cash dividends paid by the pooled company,
Vintage, prior to its acquisition. The dividend paid in 1993 represents
$88,000 from the Company and $4,000 from the pooled company prior to its
acquisition.
(14) Deposits increased by the transfer to Matrix Bank of $80.0 million of
deposits held in trust from a third party institution following the
acquisition of Vintage.
(15) Ratios for the six months ended June 30, 1996 and 1997 have been
calculated on an annualized basis.
24
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following management's discussion and analysis of the financial
condition and results of operations of the Company should be read in
conjunction with the preceding "Selected Consolidated Financial and Operating
Information." Additionally, the Company's Consolidated Financial Statements
and the Notes thereto, as well as other data included in this Prospectus,
should be read and analyzed in combination with the analysis below.
GENERAL
The Company's principal activities consist of the purchase and sale of
portfolios of mortgage loans and mortgage servicing rights, administration of
portfolios of mortgage loans, consulting and brokerage activities involving
mortgage loan servicing, deposit generation and administration of self-
directed trust accounts. These activities are conducted through the Company's
wholly owned subsidiaries, Matrix Financial, United Financial, Matrix Bank and
Sterling Trust. More recently, the Company commenced real estate management
and disposition services, risk management services, and its trust company
activities through its wholly owned subsidiaries, USS, UCM, and Sterling
Trust, respectively. While USS and UCM have not generated material amounts of
revenue during their limited operating history, management anticipates that
they will make a larger contribution to the Company's revenues and expenses in
the future.
The principal components of the Company's revenues consist primarily of net
interest income recorded by Matrix Bank and Matrix Financial, loan
administration fees generated by Matrix Financial, brokerage fees realized by
United Financial, loan origination fees and gains on sales of mortgage loans
and mortgage servicing rights generated by Matrix Financial and Matrix Bank,
and trust service fees generated by Sterling Trust. The Company's results of
operations are influenced by changes in interest rates and the effect of these
changes on the volume of loan originations, mortgage loan prepayments and the
value of mortgage servicing portfolios. See "Risk Factors--Potential Adverse
Impact of Fluctuating Interest Rates."
HISTORY
The Company was formed in June 1993 when the founding shareholders of two of
its Subsidiaries, Matrix Financial and United Financial, exchanged all of the
outstanding capital stock of those two entities for shares of the Company in a
series of transactions that were each accounted for as a pooling of interests.
As a result, the Company's financial results for 1993 reflect a full 12 months
of operations for Matrix Financial and United Financial. Prior to the
acquisition of Matrix Financial and United Financial by the Company in 1993,
Matrix Financial and United Financial were operated as independent subchapter
"s" corporations.
In September 1993, the Company acquired Matrix Bank, formerly named Dona Ana
Savings Bank, FSB and Dona Ana Savings and Loan Association, FSB. The
acquisition was accounted for using the purchase method of accounting and all
of the assets and liabilities were recorded at their estimated fair value as
of the date of acquisition. The Company's consolidated financial results for
1993, therefore, reflect only three months of operations for Matrix Bank.
In June 1995, the Company formed USS. The financial results for USS for the
year ended December 31, 1996 and for the six months ended June 30, 1997 have
provided minimal revenue, as such periods have been utilized primarily to
develop marketing material and establish investor relationships.
In December 1996, the Company formed UCM. The financial results to date
reflect a start-up operation with no revenue. All efforts to date have focused
on completion of the financial hedging models, the development of marketing
material and the establishment of a customer base. Two clients have entered
into service agreements with UCM as of the date hereof.
25
<PAGE>
In May 1996, the Company formed Sterling Finance Co., Inc. ("Sterling"), a
subsidiary of Matrix Bank, which subsequently acquired for $47,000 in cash
substantially all of the assets of an originator of sub-prime automobile
retail installment sales contracts. On December 31, 1996, the Company disposed
of the fixed assets of Sterling and ceased to originate sub-prime automobile
loans.
In February 1997, the Company acquired Vintage. The acquisition was
accounted for as a pooling of interests and, accordingly, no goodwill was
recorded and the consolidated financial statements of the Company for the
prior periods have been restated.
RELATIONSHIPS AMONG THE SUBSIDIARIES
Management believes that the synergies within the Company's corporate
structure, and the opportunities resulting from those synergies, make the
Company unique in the financial services industry. United Financial, which is
primarily a broker of mortgage servicing rights and a consultant to the
mortgage banking industry, provides significant benefits to certain of the
other Subsidiaries. Through United Financial's daily contact with businesses
in the mortgage banking industry, Matrix Financial is able to gain insight
into the mortgage banking industry in which it competes. For example, although
Matrix Financial does not buy mortgage servicing rights brokered by United
Financial in competitive bid situations, United Financial provides market
intelligence to Matrix Financial as to the current market for the purchase and
sale of mortgage loan servicing rights in the secondary market, including the
buyers and sellers in the marketplace at any given time. United Financial also
provides Matrix Financial with mortgage loan servicing valuation capabilities,
puts Matrix Financial in direct contact with sellers of servicing portfolios,
and apprises Matrix Financial of the emerging trends in the industry. All
mortgage loan servicing rights that are sold by the Company are brokered
through United Financial, which allows all brokerage fees paid by Matrix
Financial to be retained within the Company.
United Financial's affiliation with Matrix Bank provides both Matrix Bank
and United Financial with what management believes to be a competitive
advantage. United Financial through its brokerage activities provides Matrix
Bank with loan portfolio investment opportunities and market contacts for the
purchase of mortgage loan portfolios that it may not otherwise have
identified. Another advantage for both companies is the financing
opportunities that United Financial is able to refer to Matrix Bank directly
from United Financial's clients. The opportunity for United Financial to refer
its clients to an affiliate for financing provides Matrix Bank with an
increased pipeline of lending opportunities and enables United Financial to
provide more comprehensive services than many of its competitors.
United Financial's affiliation with USS provides both companies with
significant benefits. Disposition of foreclosed real estate on an outsourced
basis through USS is another service that United Financial can provide its
clients. Management considers the referrals and contacts that United Financial
provides USS to be a marketing advantage that has allowed USS to develop a
client base more quickly than it could have otherwise. In addition, Matrix
Financial outsources all of the disposition of foreclosed real estate that it
services to USS. This affiliation with USS allows Matrix Financial to reduce
its overhead and has turned the disposition function from a net cost to the
Company into a revenue producer.
Another strategic affiliation within the Company is the one that exists
between Matrix Financial and Matrix Bank. Prior to the acquisition of Matrix
Bank, the custodial escrow deposits related to Matrix Financial's mortgage
loan servicing portfolio were used as compensating balances with the Company's
warehouse lenders, which reduced the interest rate on the amounts outstanding
under the warehouse lines of credit to the extent of the compensating balances
or the Company's loan balances outstanding, whichever was less. The benefit of
the custodial escrow deposits, therefore, was limited to the amounts
outstanding under the warehouse lines and the reduction in interest negotiated
for the use of these compensating balances. Since its acquisition, Matrix Bank
has acted as the depository institution for all of Matrix Financial's
custodial escrow deposits. This relationship allows the Company to derive the
full benefit from these custodial escrow deposits. The deposits are invested
in interest-earning residential mortgage loans at returns greater than
historically had been realized by depositing these sums as compensating
balances with the Company's warehouse lenders. Prior to the acquisition of
Matrix
26
<PAGE>
Bank, Matrix Financial also purchased and sold bulk residential mortgage loan
packages, a function that is now handled primarily through Matrix Bank. This
activity as previously conducted by Matrix Financial was limited due to the
lack of availability and expensive cost of the short-term financing needed to
purchase and carry such portfolios. If financing was not available, Matrix
Financial attempted to arrange the simultaneous purchase and sale of the same
portfolio. Transactions executed in this manner prohibited the Company from
earning interest income during the period between the purchase and
corresponding sale and also resulted in an inefficient execution on the
purchase and sale. With Matrix Bank's funding capabilities, the Company is
able to react to mortgage loan purchase opportunities more quickly and, once
the mortgage loan portfolio has been purchased, the Company is able to hold
the portfolio at lower cost than would otherwise be possible.
In addition to servicing its own portfolio of mortgage servicing rights,
Matrix Financial performs the servicing function for all of Matrix Bank's
mortgage servicing portfolio. Because of the economics of scale achieved with
Matrix Financial's management information systems and its experience in the
servicing industry, management believes that these loans are serviced more
efficiently and at less cost than could normally be achieved by an institution
of Matrix Bank's size. Moreover, Matrix Financial's expertise in the servicing
arena facilitates the purchase by Matrix Bank of bulk loan portfolios
throughout the country.
Matrix Financial's servicing portfolio includes mortgage loans owned by more
than 200 private investors. Matrix Financial routinely contacts these
investors to determine their interest in selling their loan portfolios. In
those instances where a private investor expresses interest in selling a loan
portfolio, Matrix Financial is able to make a referral to Matrix Bank. In many
cases, this referral allows Matrix Bank to purchase loans without having to
participate in a competitive bid process. In addition, with Matrix Financial
acting as servicer for these loan portfolios, Matrix Bank is able to perform
due diligence on the portfolios more efficiently and at a lower cost than
transactions executed in the open market.
United Financial's affiliation with UCM provides both companies with
significant benefits. The relationships and contacts of United Financial
provide a resource for UCM to present the risk management services it
provides. The opportunities for United Financial to refer its clients to an
affiliate for risk management and hedging activities provides another service
to its clients to further strengthen the relationship. Both United Financial
and UCM provide services that relate to analysis of servicing portfolios.
Since accurate and timely data is critical in assisting a client, the sharing
of information allows two companies an opportunity to provide professional
advice and execution without duplicating the clients efforts in providing the
necessary information.
Another strong affiliation exists between Sterling Trust and Matrix Bank. At
June 30, 1997, Sterling Trust had trust assets under administration in excess
of $1.3 billion. Historically, approximately 6% to 8% of the assets under
administration have been maintained in interest-earning deposits. In February
1997, Sterling Trust moved approximately $80.0 million of deposits from a
third party institution to Matrix Bank.
COMPARISON OF RESULTS OF OPERATIONS FOR THE SIX MONTHS ENDED JUNE 30, 1997 AND
1996
NET INCOME; RETURN ON AVERAGE EQUITY. Net income increased $2.1 million to
$3.6 million for the period ended June 30, 1997, as compared to $1.5 million
for the six months ended June 30, 1996. Return on average equity decreased to
21.4% annualized for the six months ended June 30, 1997, as compared to 26.5%
annualized for the six months ended June 30, 1996. The decrease in return on
average equity was primarily due to the increase in the average equity in the
first six months of 1997 due to the sale of additional stock in the fourth
quarter of 1996, in conjunction with the Company's initial public offering,
which increased equity by $18.2 million, and a $1.1 million reserve on
repurchased sub-prime auto loans. For additional discussion of the reserve on
repurchased sub-prime auto loans see "--Asset and Liability Management--
Nonperforming Assets." The return on average equity of 26.5% annualized for
the six months ended June 30, 1996 was significantly reduced by the effect of
the $1.9 million secondary marketing loss recognition in the first quarter of
1996. See "--Loan Origination."
27
<PAGE>
NET INTEREST INCOME. The Company's earnings depend in part upon the level of
its net interest income. Net interest income is the difference between
interest income, principally derived from the Company's loan portfolios, and
interest expense, principally derived from customer deposits and Company
borrowings. Changes in net interest income result primarily from changes in
volume and spread. Volume refers to the average dollar amount of interest-
earning assets and interest-bearing liabilities. Spread refers to the
difference between the average yield on interest-earning assets and the
average cost of interest-bearing liabilities. Net interest income before
provision for loan and valuation losses increased $3.1 million, or 116.5%, to
$5.8 million for the six months ended June 30, 1997, as compared to $2.7
million for the period ended June 30, 1996. The increase for the period ended
June 30, 1997 was attributable to the decrease in the Company's cost of
interest-bearing liabilities, which decreased to 5.66% annualized for the six
months ended June 30, 1997, as compared to 6.86% annualized for the six months
ended June 30, 1996, which was partially offset by a decrease in the yield on
interest-earning assets, which decreased to 8.59% annualized for the six
months ended June 30, 1997, as compared to 9.38% annualized for the six months
ended June 30, 1996. The decrease in the cost of the interest-bearing
liabilities was a result of the trust deposits administered by Sterling Trust
being transferred to Matrix Bank upon consummation of the Vintage acquisition.
The decrease in the Company's yield on interest-bearing assets was
attributable to the lower yield earned on the loan portfolio which decreased
to 8.85% annualized for the period ended June 30, 1997 from 9.62% annualized
for the period ended June 30, 1996. The Company's net interest margin
increased to 3.78% annualized for the period ended June 30, 1997, as compared
to 3.10% annualized for the period ended June 30, 1996. The Company's average
interest-earning assets increased $133.6 million, or 77.7%, to $305.5 million
for the period ended June 30, 1997, as compared to $171.9 million for the
period ended June 30, 1996. This increase was attributable primarily to the
increase in the size of the Company's loan portfolio. For a tabular
presentation of the changes in net interest income due to changes in volume of
interest-earning assets and changes in interest rates, see "--Analysis of
Changes in Net Interest Income Due to Changes in Interest Rates and Volumes."
PROVISION FOR LOAN AND VALUATION LOSSES. The provision for loan and
valuation losses is an amount charged to expense to provide for estimated
losses that may occur in the future on existing loans. In order to determine
the amount of the provision, the Company conducts a monthly review of its loan
portfolio and a quarterly evaluation of the adequacy of its valuation
reserves. This systematic evaluation includes an allocation of the valuation
reserve to each loan category, based on pre-determined loss reserve factors.
For example, a higher loss reserve factor is applied against commercial real
estate loans than against residential loans. Within each loan category, the
loans are further stratified by delinquency. Loss reserve factors are higher
for delinquent loans. This evaluation also takes into consideration current
economic and market conditions, loan portfolio growth, monthly loan losses and
recoveries, changes in non-performing loans, and the current loan collateral
values. Provision for loan losses increased $145,000 to $297,000 for the six
months ended June 30, 1997, as compared to $152,000 for the six months ended
June 30, 1996. This increase was primarily in response to the increase in the
loans receivable balance. For a discussion of the Company's allowance for loan
losses as it relates to nonperforming assets, see "--Asset and Liability
Management--Nonperforming Assets."
LOAN ADMINISTRATION. Loan administration fees represent service fees and
other income earned from servicing loans for various investors. Loan
administration fees include service fees that are based on a contractual
percentage of the outstanding principal balance on loans serviced plus late
fees and other ancillary charges. Income is recognized when the related
payments are received. Loan administration fees increased $3.7 million, or
78.4%, to $8.3 million for the six months ended June 30, 1997. This increase
was primarily attributable to the increase in the outstanding principal
balance underlying the Company's mortgage servicing rights portfolio for the
six months ended June 30, 1997, as compared to the six months ended June 30,
1996. The mortgage loan servicing portfolio increased by $1.6 billion, or
118.7%, to $3.0 billion at June 30, 1997, as compared to $1.4 billion at June
30, 1996.
BROKERAGE FEES. Brokerage fees increased $14,000, or 0.7%, to $2.0 million
for the six months ended June 30, 1997. The balance of residential mortgage
servicing portfolios brokered by United Financial, in terms of aggregate
unpaid principal balances on the underlying loans, decreased to $12.0 billion
the six months ended June 30, 1997, as compared to $12.6 billion for the six
months ended June 30, 1996.
28
<PAGE>
TRUST SERVICES FEES. Trust service fees increased $152,000, or 9.4%, to $1.8
million for the six months ended June 30, 1997, as compared to $1.6 million
for the six months ended June 30, 1996. This increase was primarily a result
of the growth in the number of trust accounts under administration at Sterling
Trust, which increased to 28,396 at June 30, 1997 from 24,708 at June 30,
1996.
GAIN ON SALE OF LOANS AND MORTGAGE BACKED SECURITIES. Gain on the sale of
loans and mortgage backed securities increased by $112,000, or 13.1% to
$964,000 for the six months ended June 30, 1997, as compared to $852,000 for
the six months ended June 30, 1996. Gain on sale of loans can fluctuate
significantly from period to period based on a variety of factors, such as the
current interest rate environment, the supply of loan portfolios in the
market, the mix of loan portfolios available in the market, the type of loan
portfolios the company purchases, and the particular loan portfolios the
Company elects to sell. The sales were consummated to generate funds to
acquire additional residential loan portfolios and to generate revenues.
GAIN ON SALE OF MORTGAGE SERVICING RIGHTS. Gain on the sale of mortgage
servicing rights increased $1.3 million to $2.4 million for the six months
ended June 30, 1997, as compared to $1.1 million for the six months ended June
30, 1996. In terms of aggregate outstanding principal balances of mortgage
loans underlying such servicing rights, the Company sold $988.5 million in
purchased mortgage servicing rights for the six months ended June 30, 1997, as
compared to $390.5 million for the six months ended June 30, 1996. All of the
mortgage servicing rights sold in 1997 pertain to mortgage servicing rights
purchased in 1997 and were consummated primarily to provide the Company with
the opportunity to diversify its servicing portfolio and generate earnings.
LOAN ORIGINATION. Loan origination income includes all mortgage loan
origination fees, secondary marketing activity on new loan originations and
servicing released premiums on new originations sold, net of outside
origination costs. Loan origination income increased $1.3 million to $1.5
million for the six months ended June 30, 1997, as compared to $194,000 for
the six months ended June 30, 1996, even though the Company experienced a
decrease in wholesale residential mortgage loan production of $180.3 million,
or 48.3%, to $192.7 million for the period ended June 30, 1997, as compared to
$373.0 million for the period ended June 30, 1996. This increase was primarily
attributable to a $1.9 million secondary marketing loss that occurred in March
1996. The secondary loss was attributable to the failure of a former officer
of Matrix Financial to adhere to the established hedging policies. As a
result, certain closed loans were not adequately hedged, which resulted in the
$1.9 million loss when interest rates increased dramatically in March 1996,
thereby causing the funded loans and pipeline commitments to decline in market
value. Had the policies been followed, the Company would still have recognized
a loss, albeit significantly smaller, since it is difficult for the Company to
be completed hedged when interest rates rapidly and significantly change.
The Company has implemented several management and reporting changes to help
ensure that the hedging policies established by Matrix Financial's board of
directors are adhered to so as to mitigate secondary marketing losses in
volatile interest rate markets. The management and reporting changes were made
in two major areas. First, the Company reorganized the reporting structure for
the production division related to the Company's secondary marketing
activities. A new Chief Lending Officer was hired to manage loan production
and the related operations for Matrix Financial, and a new secondary marketing
manager was hired to focus specifically on managing the interest rate risk of
this business line. Second, the Company developed and implemented additional
policies and procedures for production and secondary marketing activities to
decrease the interest rate risk exposure of the Company.
The Company also divided the reporting hierarchy for the production and
secondary marketing responsibilities, thus reducing the production pressures
on secondary marketing and allowing the Company to focus specifically on
interest rate risk management. The secondary marketing department has been
relocated from Atlanta to Phoenix and reports directly to the finance division
of Matrix Financial. The reorganization and centralization of the secondary
marketing department has been supplemented by the development of more
formalized pipeline, interest rate risk management, hedging policies and
procedures to further reduce secondary marketing risks. The secondary
marketing manager provides daily analysis of loan pipeline, hedge positions
and mark-to-market valuations to insure the Company's hedging policies are
being followed. This analysis is
29
<PAGE>
reviewed daily with the Chief Financial Officer of Matrix Financial and a
weekly summary is provided to the executive officers of Matrix Capital. New
procedures and policies regarding the establishment of customers' interest
rates on pipeline loans (an "interest rate lock"), interest rate lock
tracking, and authorizations for interest rate lock extensions and pricing
exceptions have been implemented. With these changes, the Company believes it
has reduced the risk of significant secondary marketing losses such as the one
experienced in March 1996.
NONINTEREST EXPENSE. Noninterest expense increased $6.6 million, or 58.9%,
to $17.9 million for the six months ended June 30, 1997, as compared to $11.3
million for the six months ended June 30, 1996. This increase was primarily
due to expenses related to the interim subservicing on mortgage servicing
portfolios recently acquired, the expenses related to UCM which was formed in
December 1996, the establishment of a $1.1 million reserve for potential
losses on repurchased sub-prime auto loans, and the overall growth and
expansion of the Company. The following table details the major components of
noninterest expense for the periods indicated:
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30,
-------------------------
1996 1997
------------ ------------
(IN THOUSANDS)
<S> <C> <C>
Compensation and employee benefits................ $ 6,137 $ 6,904
Amortization of mortgage servicing rights......... 1,184 3,175
Occupancy and equipment........................... 902 977
Professional fees................................. 240 418
Data processing................................... 287 365
Other general and administrative.................. 2,536 6,091
------------ ------------
Total........................................... $ 11,286 $ 17,930
============ ============
</TABLE>
Compensation and employee benefits increased $767,000, or 12.5%, to $6.9
million for the six months ended June 30, 1997, as compared to $6.1 million
for the six months ended June 30, 1996. This increase was the result of the
continued expansion of the Company's business lines in 1997 including the
opening of a retail branch of Matrix Bank, a new lending office of Matrix
Bank, and the formation of UCM. The Company had an increase of 50 employees,
or 18.3%, to 323 employees at June 30, 1997 as compared to 273 employees at
June 30, 1996.
Amortization of mortgage servicing rights increased $2.0 million, or 168.2%,
to $3.2 million for the six months ended June 30, 1997, as compared to $1.2
million for the six months ended June 30, 1996. Amortization of mortgage
servicing rights fluctuates based on the size of the Company's mortgage
servicing portfolio and the prepayment rates experienced with respect to the
underlying mortgage loan portfolio.
The remainder of non-interest expense, which includes occupancy and
equipment expenses, professional fees, data processing costs, and other
expenses, increased $3.9 million, or 98.0%, to $7.9 million for the six months
ended June 30, 1997, as compared to $4.0 million for the six months ended June
30, 1996. The increase was primarily attributable to the interim subservicing
cost on mortgage servicing portfolios recently acquired, expansion of both
existing and new business lines, and the establishment of $1.1 million of
additional reserves for potential losses on repurchased sub-prime auto loans.
PROVISION FOR INCOME TAXES. Provision for income taxes increased $1.3
million to $2.3 million for the six months ended June 30, 1997, as compared to
$991,000 for the period ended June 30, 1996. The increase was due to the
increase in pre-tax income which was somewhat mitigated by a reduction in the
effective tax rate to 38.6% for the six months ended June 30, 1997, as
compared to 39.8% for the six months ended June 30, 1996.
COMPARISON OF RESULTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 1996 AND
1995
NET INCOME; RETURN ON AVERAGE EQUITY. Net income decreased $353,000, or
9.0%, to $3.6 million for the year ended December 31, 1996, as compared to
$3.9 million for the year ended December 31, 1995. Return on average equity
decreased to 24.3% for the year ended December 31, 1996, as compared to 47.6%
for the year
30
<PAGE>
ended December 31, 1995. The decrease in return on average equity was
primarily due to the Company's policy of retaining all of its earnings and the
issuance of 2,012,500 shares of additional stock as part of an IPO in the
fourth quarter, both of which increased its capital base, as well as the
reserve for the probable settlement of certain outstanding litigation, the
first quarter 1996 secondary marketing loss, a one-time expense of $450,000
(pre-tax) for the SAIF assessment, the reserve for the probable settlement of
certain outstanding litigation, and the recourse losses related to the sub-
prime automobile retail installment contracts repurchased by a subsidiary of
Matrix Bank. See "--Loan Origination," "--Asset Liability Management--
Nonperforming Assets," and "Business--Legal Proceedings."
NET INTEREST INCOME. Net interest income before provision for loan and
valuation losses increased $2.5 million, or 68.7%, to $6.1 million for the
year ended December 31, 1996, as compared to $3.6 million for the year ended
December 31, 1995. The increase for the year ended December 31, 1996 was
attributable to the increase in the Company's yield on interest earning
assets, which increased to 9.43% for the year ended December 31, 1996, as
compared to 8.54% for the year ended December 31, 1995, and a decrease in the
cost of interest-bearing liabilities, which decreased to 6.59% for the year
ended December 31, 1996, as compared to 7.14% for the year ended December 31,
1995. The increase in the Company's yield on interest-earning assets was
primarily attributable to an increase in the yield on the Company's adjustable
rate loan portfolio, the amortization and payoffs of loans which had
significant discounts, and the origination of higher yielding consumer loans.
The decrease in the cost of interest-bearing liabilities was attributable to
the lower cost of borrowed funds. The Company's net interest margin increased
to 3.45% for the year ended December 31, 1996, as compared to 2.84% for the
year ended December 31, 1995. The Company's average interest-earning assets
increased $49.0 million, or 38.8%, to $175.4 million for the year ended
December 31, 1996, as compared to $126.4 million for the year ended December
31, 1995. This increase was attributable primarily to the increase in the size
of the Company's loan portfolio held for sale. For a tabular presentation of
the changes in net interest income due to changes in volume of interest-
earning assets and changes in interest rates, see "--Analysis of Changes in
Net Interest Income Due to Changes in Interest Rates and Volumes."
PROVISION FOR LOAN AND VALUATION LOSSES. Provision for loan and valuation
losses decreased $258,000, or 64.3%, to $143,000 for the year ended December
31, 1996, as compared to $401,000 for the year ended December 31, 1995. This
decrease was primarily attributable to the improvement in the portion of the
Company's residential loan portfolio classified as non-accrual. For a
discussion of the Company's allowance for loan and valuation losses as it
relates to nonperforming assets, see "--Asset and Liability Management--
Nonperforming Assets."
LOAN ADMINISTRATION. Loan administration fees increased $1.1 million, or
13.9%, to $8.8 million for the year ended December 31, 1996, as compared to
$7.7 million for the year ended December 31, 1995. This increase was primarily
attributable to the increase in the average outstanding principal balance
underlying the Company's mortgage servicing rights portfolio for the year
ended December 31, 1996, as compared to the year ended December 31, 1995. Loan
administration fees are affected by factors that include the size of the
Company's residential mortgage loan servicing portfolio, the servicing spread,
the timing of payment collections, and the amount of ancillary fees collected.
The mortgage loan servicing portfolio owned increased by $908.7 million, or
56.9%, to $2.5 billion for the year ended December 31, 1996, as compared to
$1.6 billion for the year ended December 31, 1995, with the majority of the
increase occurring in the fourth quarter of 1996.
BROKERAGE FEES. Brokerage fees decreased $423,000, or 8.8%, to $4.4 million
for the year ended December 31, 1996, as compared to $4.8 million for the year
ended December 31, 1995. This decrease was a direct result of the amount of
the residential mortgage servicing portfolios brokered by United Financial.
The balance of residential mortgage servicing portfolios brokered by United
Financial, measured in terms of aggregate unpaid principal balances on the
underlying loans, decreased $6.2 billion, or 19.0%, to $26.4 billion the year
ended December 31, 1996, as compared to $32.6 billion for the year ended
December 31, 1995. The decrease was primarily due to the amount of servicing
brokered in the first quarter of 1996 as mortgage banking firms and financial
institutions deferred servicing sales pending their review of the impact of
FAS 122 on their portfolios.
31
<PAGE>
TRUST SERVICES FEES. Trust services fees increased $192,000, or 6.7%, to
$3.1 million for the year ended December 31, 1996, as compared to $2.9 million
for the year ended December 31, 1995. The increase in fee income is related to
increases in both assets under administration and the number of accounts being
serviced.
GAIN ON SALE OF LOANS AND MORTGAGE BACKED SECURITIES. Gain on the sale of
loans and mortgage-backed securities increased $97,000, or 3.0%, to $3.4
million the year ended December 31, 1996, as compared to $3.3 million for the
year ended December 31, 1995. Gain on sale of loans can fluctuate
significantly from quarter to quarter and from year to year based on a variety
of factors, such as the current interest rate environment, the supply of loan
portfolios in the market, the mix of loan portfolios available in the market,
the type of loan portfolios the Company purchases, and the particular loan
portfolios the Company elects to sell. The Company's strategy has been and
will continue to be to match its purchases and sales while managing its
desired growth.
GAIN ON SALE OF MORTGAGE SERVICING RIGHTS. Gain on the sale of mortgage
servicing rights increased $2.0 million, or 177.7%, to $3.2 million for the
year ended December 31, 1996, as compared to $1.2 million for the year ended
December 31, 1995. In terms of aggregate outstanding principal balances of
mortgage loans underlying such servicing rights, the Company sold $646.0
million in purchased mortgage servicing rights for the year ended December 31,
1996, as compared to $31.8 million for the year ended December 31, 1995. A
portion of the servicing rights sold in 1996 pertained to mortgage servicing
portfolios that the Company combined with the related loan participation
interests, and then sold as one asset. The servicing portfolio sold in 1995
consisted of loans with non-standard payment accrual methodologies, including
the Rule of 78's and daily simple interest accruals, and were secured by
second liens. The sales in 1996 were consummated primarily to generate
additional cash flow in order to acquire more desirable residential servicing
portfolios and to generate revenues.
LOAN ORIGINATION. Loan origination income decreased $508,000, or 24.6%, to
$1.6 million for the year ended December 31, 1996, as compared to $2.1 million
for the year ended December 31, 1995, even though the Company experienced an
increase in wholesale residential mortgage loan production of $194.4 million,
or 50.0%, to $583.3 million for the year ended December 31, 1996, as compared
to $388.9 million for the year ended December 31, 1995. This decrease was
primarily attributable to the $1.9 million secondary marketing loss that
occurred in March 1996.
NONINTEREST EXPENSE. Noninterest expense increased $6.2 million, or 30.3% to
$26.7 million for the year ended December 31, 1996, as compared to $20.5
million for the year ended December 31, 1995. This increase was primarily due
to the one-time SAIF assessment of $450,000 (pre-tax), reserve for the
probable settlement of certain outstanding litigation, expenses related to new
operating subsidiaries and expenses related to the operating loss and recourse
losses on sub-prime automobile installment contracts sold by a subsidiary of
Matrix Bank and the ceasing of its operations in December 1996. The following
table details the major components of noninterest expense for the periods
indicated:
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
---------------
1995 1996
------- -------
(IN THOUSANDS)
<S> <C> <C>
Compensation and employee benefits........................... $10,527 $12,722
Amortization of mortgage servicing rights.................... 1,817 2,432
Occupancy and equipment...................................... 1,451 1,776
Professional fees............................................ 783 666
Data processing.............................................. 560 642
Other........................................................ 5,315 8,417
------- -------
Total...................................................... $20,453 $26,655
======= =======
</TABLE>
Compensation and employee benefits increased $2.2 million, or 20.9%, to
$12.7 million for the year ended December 31, 1996, as compared to $10.5
million for the year ended December 31, 1995. This increase was the
32
<PAGE>
result of the expansion of the Company's business lines in 1996, including the
opening of two new branches of Matrix Bank, the formation of two new operating
subsidiaries, and the increased amount of wholesale mortgage loan originations
(employees in the mortgage loan origination area are typically compensated on
a commission basis). The Company had an increase of 34 employees, or 15.0%, to
260 employees at year end December 31, 1996, as compared to 226 employees at
year end December 31, 1995.
Amortization of mortgage servicing rights increased $615,000, or 33.8%, to
$2.4 million for the year ended December 31, 1996, as compared to $1.8 million
for the year ended December 31, 1995. Amortization of mortgage servicing
rights fluctuates based on the size of the Company's mortgage servicing
portfolio and the prepayment rates experienced with respect to the underlying
mortgage loan portfolio.
The remainder of noninterest expense, which includes occupancy and equipment
expenses, professional fees, data processing costs, and other expenses
increased $3.4 million, or 41.8%, to $11.5 million for the year ended December
31, 1996, as compared to $8.1 million for the year ended December 31, 1995.
The increase was primarily attributable to the reserve for the probable
settlement of certain outstanding litigation (approximately $600,000),
recourse losses on automobile installment contracts sold by a subsidiary of
Matrix Bank and the ceasing of its operations in December 1996 (approximately
$600,000), the one-time SAIF assessment ($450,000), expansion of both existing
and new business lines, the formation of two operating subsidiaries, and the
opening of two bank branches.
PROVISION FOR INCOME TAXES. Provision for income taxes decreased $191,000,
or 7.7%, to $2.3 million for the year ended December 31, 1996, as compared to
$2.5 million for the year ended December 31, 1995. The decrease was due to the
decline in pre-tax income. The two periods had comparable effective income tax
rates of 39.0% and 38.6%, respectively.
COMPARISON OF RESULTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 1995 AND
1994
NET INCOME; RETURN ON AVERAGE EQUITY. Net income increased $803,000, or
25.7%, to $3.9 million for the year ended December 31, 1995, as compared to
$3.1 million for the year ended December 31, 1994. Return on average equity
decreased to 47.6% for the year ended December 31, 1995, as compared to 57.1%
for the year ended December 31, 1994. The decrease in return on average equity
was primarily due to the Company's policy of retaining all of its earnings,
which increased the Company's equity base.
NET INTEREST INCOME. Net interest income before provision for loan and
valuation losses decreased $412,000, or 10.3%, to $3.6 million for the year
ended December 31, 1995, as compared to $4.0 million for the year ended
December 31, 1994. The decrease for the year ended December 31, 1995 was
attributable primarily to the increase in the Company's cost of interest-
bearing liabilities, which increased to 7.14% for the year ended December 31,
1995, as compared to 5.16% for the year ended December 31, 1994. The increase
in the cost of interest-bearing liabilities was primarily related to
borrowings used to fund the increase in the mortgage loan originations. The
Company's mortgage loan originations are funded through borrowings based on
short-term interest rates. The interest rate spread between short-term
interest rates and long-term interest rates generally was lower during the
year ended December 31, 1995, as compared to the year ended December 31, 1994.
The decrease occurred primarily because the cost of interest-bearing
liabilities increased more rapidly than the yield on interest-earning assets.
The effect of smaller spreads between long-term interest rates and short-term
interest rates means generally that the Company earns less net interest income
on its wholesale mortgage loan originations which, in turn, reduces its net
interest margin (net interest income before provision for loan losses divided
by average interest-earning assets). The Company's net interest margin
decreased to 2.84% for the year ended December 31, 1995, as compared to 4.64%
for the year ended December 31, 1994. The effect of the lower interest rate
margin was partially offset by an increase in the Company's average interest-
earning assets. The Company's average interest-earning assets increased $40.1
million, or 46.4%, to $126.4 million for the year ended December 31, 1995, as
compared to $86.3 million for the year ended December 31, 1994. This increase
was attributable primarily to the increase in the size of the Company's loan
portfolio held for sale. For a tabular
33
<PAGE>
presentation of the changes in net interest income due to changes in volume of
interest-earning assets and changes in interest rates, see "--Analysis of
Changes in Net Interest Income Due to Changes in Interest Rates and Volumes."
PROVISION FOR LOAN AND VALUATION LOSSES. The provision for loan and
valuation losses increased $185,000, or 85.6%, to $401,000 for the year ended
December 31, 1995, as compared to $216,000 for the year ended December 31,
1994. This increase was attributable primarily to the corresponding increase
in the size of the Company's loan portfolio. For a discussion of the Company's
allowance for loan and valuation losses as it relates to nonperforming assets,
see "--Asset and Liability Management--Nonperforming Assets."
LOAN ADMINISTRATION. Loan administration fees increased $823,000, or 11.9%,
to $7.7 million for the year ended December 31, 1995, as compared to $6.9
million for the year ended December 31, 1994. This increase was attributable
primarily to the increase in the average outstanding principal balance
underlying the Company's mortgage servicing rights portfolio for the year
ended December 31, 1995, as compared to the year ended December 31, 1994.
BROKERAGE FEES. Brokerage fees increased $770,000, or 19.2%, to $4.8 million
for the year ended December 31, 1995, as compared to $4.0 million for the year
ended December 31, 1994. The increase was primarily attributable to an
increase in the volume of residential mortgage servicing portfolios brokered
by United Financial. The balance of residential mortgage servicing portfolios
brokered by United Financial, in terms of aggregate unpaid principal balances
on the underlying loans, increased $3.7 billion, or 12.8%, to $32.6 billion
for the year ended December 31, 1995, as compared to $28.9 billion for the
year ended December 31, 1994.
TRUST SERVICES FEES. Trust services fees increased $381,000, or 15.3%, to
$2.9 million for the year ended December 31, 1995, as compared to $2.5 million
for the year ended December 31, 1994. The increase in fee income is related to
increases in the volume of accounts being administered as well as increases in
the volume of assets.
GAIN ON SALE OF LOANS AND MORTGAGE BACKED SECURITIES. Gain on sale of
mortgage loans and mortgage-backed securities increased by $1.7 million, or
105.8%, to $3.3 million for the year ended December 31, 1995, as compared to
$1.6 million for the year ended December 31, 1994. The increase was
attributable primarily to the type of loan portfolios that the Company
purchased during 1995. The Company's strategy has been and will continue to be
to match its purchases and sales while managing its desired growth. Therefore,
the increase of $1.7 million in gain on loan sales was attributable to the
Company's loan purchases, which affect the mix, and to a limited extent the
amount of the loan portfolios that the Company sold.
GAIN ON SALE OF MORTGAGE SERVICING RIGHTS. Gain on sale of mortgage
servicing rights increased $480,000, or 70.2%, to $1.2 million for the year
ended December 31, 1995, as compared to $684,000 for the year ended December
31, 1994. This increase resulted primarily from one particular sale of
mortgage servicing rights with aggregate unpaid principal balances of $16.2
million, resulting in a gain of $1.0 million. The servicing portfolio sold
consisted of loans with non-standard payment accrual methodologies, including
the Rule of 78s and daily simple interest accruals, and were secured by second
liens. The sale allowed the Company to deploy the cash generated to purchase
new servicing portfolios considered by the Company to be more conforming in
nature and, thereby, enhance the efficiencies of the Company's servicing
operations.
LOAN ORIGINATION. Loan origination income increased $775,000, or 59.9%, to
$2.1 million for the year ended December 31, 1995, as compared to $1.3 million
for the year ended December 31, 1994. The increase of $775,000 was primarily
the result of the increase in new loan origination volume experienced by
Matrix Financial during 1995. The new loan origination volume increased $205.8
million, or 112.4%, to $388.9 million for the year ended December 31, 1995, as
compared to $183.1 million for the year ended December 31, 1994.
NONINTEREST EXPENSE. Noninterest expense increased $3.9 million, or 23.3%,
to $20.5 million for the year ended December 31, 1995, as compared to $16.6
million for the year ended December 31, 1994. This increase
34
<PAGE>
was primarily a result of the continued expansion and diversification of the
Company's operations during 1995. The following table details the major
components of noninterest expense for the periods indicated:
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
---------------
1994 1995
------- -------
(IN THOUSANDS)
<S> <C> <C>
Compensation and employee benefits.......................... $ 8,929 $10,527
Amortization of mortgage servicing rights................... 1,185 1,817
Occupancy and equipment..................................... 1,434 1,451
Professional fees........................................... 638 783
Data processing............................................. 520 560
Other....................................................... 3,887 5,315
------- -------
Total..................................................... $16,593 $20,453
======= =======
</TABLE>
Compensation and employee benefits increased $1.6 million, or 17.9%, to
$10.5 million for the year ended December 31, 1995, as compared to $8.9
million for the year ended December 31, 1994. The majority of the increase was
directly related to the increase in the brokerage volume at United Financial
and the loan origination volume at Matrix Financial. The majority of employees
engaged in these activities are paid on a commission basis. The brokerage
volume increased $3.7 billion, or 12.8%, and the loan originations increased
$205.8 million, or 112.4%, resulting in an increase in compensation of
approximately $800,000. The remainder of the increase is attributable to the
Company's development and expansion of both existing and new business lines
during 1995, which also resulted in the expansion of the Company's employee
base. The Company had a total of 226 employees at December 31, 1995, as
compared to 203 at December 31, 1994.
Amortization of mortgage servicing rights increased $632,000, or 53.3%, to
$1.8 million for the year ended December 31, 1995, as compared to $1.2 million
for the year ended December 31, 1994. This increase was due to the growth in
the Company's average outstanding balance of servicing rights, but was
partially offset by the slower rate of prepayments experienced during the year
ended December 31, 1995, as compared to the year ended December 31, 1994.
The remaining non-interest expense, including occupancy and equipment
expenses, professional fees, data processing costs, and other expenses, such
as telephone, postage, advertising and insurance, increased $1.6 million, or
25.1%, to $8.1 million for the year ended December 31, 1995, as compared to
$6.5 million for the year ended December 31, 1994. The increase was the result
of the development and expansion of both existing and new business lines.
PROVISIONS FOR INCOME TAXES. Provisions for income taxes increased $455,000,
or 22.6%, to $2.5 million for the year ended December 31, 1995, as compared to
$2.0 million for the year ended December 31, 1994. The increase was due to the
increase in pre-tax income. The two periods had comparable effective tax rates
of 38.6% and 39.2%, respectively.
AVERAGE BALANCE SHEET
The following table sets forth for the periods and as of the dates indicated
information regarding the Company's average balances of assets and liabilities
as well as the dollar amounts of interest income from interest-earning assets
and interest expense on interest-bearing liabilities and the resultant yields
or costs. Average interest rate information for the six months ended June 30,
1996 and 1997 has been annualized. Ratio, yield, and rate information are
based on average daily balances where available; otherwise, average monthly
balances have been used. Nonaccrual loans are included in the calculation of
average balances for loans for the periods indicated.
35
<PAGE>
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------------------------------------------------------
1994 1995 1996
------------------------- -------------------------- --------------------------
AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE
BALANCE INTEREST RATE BALANCE INTEREST RATE BALANCE INTEREST RATE
------- -------- ------- -------- -------- ------- -------- -------- -------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
ASSETS
Interest-earning
assets:
Loans receivable,
net of
discounts........ $79,393 $6,681 8.42% $121,206 $10,412 8.59% $162,648 $15,733 9.67%
Mortgage-backed
securities....... -- -- -- -- -- -- 4,653 351 7.54
Interest-earning
deposits......... 6,201 314 5.06 3,845 288 7.49 5,556 312 5.62
FHLB stock....... 716 35 4.89 1,321 86 6.51 2,585 153 5.92
------- ------ ------ -------- ------- ------ -------- ------- ------
Total interest-
earning assets.. 86,310 7,030 8.15 126,372 10,786 8.54 175,442 16,549 9.43
Noninterest
earning assets:
Cash............. 2,038 2,570 3,085
Allowance for
loan and
valuation
losses........... (690) (836) (964)
Premises and
equipment........ 3,999 5,213 6,976
Other assets..... 7,992 18,075 26,199
------- -------- --------
Total
noninterest-
earning assets.. 13,339 25,022 35,296
------- -------- --------
Total assets.... $99,649 $151,394 $210,738
======= ======== ========
LIABILITIES AND
SHAREHOLDERS'
EQUITY
Interest-bearing
liabilities:
Passbook
accounts......... $ 2,788 $ 72 2.58 $ 2,394 $ 85 3.55 $ 2,389 $ 82 3.43
Money market and
negotiable order
of withdrawal
("NOW")
accounts......... 9,481 271 2.86 8,320 292 3.51 11,964 468 3.91
Certificates of
deposit.......... 29,273 1,138 3.89 33,332 1,807 5.42 54,824 3,210 5.85
FHLB borrowings.. 3,071 213 6.94 17,662 1,113 6.30 35,838 2,039 5.69
Borrowed money... 14,008 1,332 9.51 39,021 3,897 9.99 54,171 4,691 8.66
------- ------ ------ -------- ------- ------ -------- ------- ------
Total interest-
bearing
liabilities..... 58,621 3,026 5.16 100,729 7,194 7.14 159,186 10,490 6.59
------- ------ ------ -------- ------- ------ -------- ------- ------
Noninterest-
bearing
liabilities:
Demand deposits
(including
custodial escrow
balances)........ 30,559 35,794 27,934
Other
liabilities...... 5,001 6,632 8,927
------- -------- --------
Total noninterest
bearing
liabilities...... 35,560 42,426 36,861
Shareholders'
equity........... 5,468 8,239 14,691
------- -------- --------
Total
liabilities and
shareholders'
equity.......... $99,649 $151,394 $210,738
======= ======== ========
Net interest
income before
provision for
loan and
valuation
losses........... $4,004 $ 3,592 $ 6,059
====== ======= =======
Interest rate
spread........... 2.99% 1.40% 2.84%
====== ====== ======
Net interest
margin........... 4.64% 2.84% 3.45%
====== ====== ======
Ratio of average
interest-earning
assets to average
interest-bearing
liabilities...... 147.23% 125.46% 110.21%
====== ====== ======
</TABLE>
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30,
------------------------------------------------------
1996 1997
-------------------------- --------------------------
AVERAGE AVERAGE AVERAGE AVERAGE
BALANCE INTEREST RATE BALANCE INTEREST RATE
-------- -------- ------- -------- -------- -------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Interest-earning
assets:
Loans receivable,
net of
discounts........ $160,380 $7,713 9.62% $284,028 $12,563 8.85%
Mortgage-backed
securities....... 3,487 134 7.69 -- -- --
Interest-earning
deposits......... 5,582 145 5.20 18,452 471 5.11
FHLB stock....... 2,453 72 5.87 2,982 88 5.90
-------- ------ ------ -------- ------- ------
Total interest-
earning assets.. 171,902 8,064 9.38 305,462 13,122 8.59
Noninterest
earning assets:
Cash............. 2,358 11,135
Allowance for
loan and
valuation
losses........... (978) (1,201)
Premises and
equipment........ 6,711 7,931
Other assets..... 23,295 63,144
-------- --------
Total
noninterest-
earning assets.. 31,386 81,009
-------- --------
Total assets.... $203,288 $386,471
======== ========
LIABILITIES AND
SHAREHOLDERS'
EQUITY
Interest-bearing
liabilities:
Passbook
accounts......... $ 2,415 $ 40 3.31 $ 2,854 $ 56 3.92
Money market and
negotiable order
of withdrawal
("NOW")
accounts......... 11,929 233 3.91 82,345 1,456 3.54
Certificates of
deposit.......... 44,225 1,288 5.82 79,020 2,325 5.88
FHLB borrowings.. 34,416 976 5.67 25,654 718 5.60
Borrowed money... 64,359 2,862 8.89 69,867 2,796 8.00
-------- ------ ------ -------- ------- ------
Total interest-
bearing
liabilities..... 157,344 5,399 6.86 259,740 7,351 5.66
-------- ------ ------ -------- ------- ------
Noninterest-
bearing
liabilities:
Demand deposits
(including
custodial escrow
balances)........ 28,518 74,772
Other
liabilities...... 6,110 18,101
-------- --------
Total noninterest
bearing
liabilities...... 34,628 92,873
Shareholders'
equity........... 11,316 33,858
-------- --------
Total
liabilities and
shareholders'
equity.......... $203,288 $386,471
======== ========
Net interest
income before
provision for
loan and
valuation
losses........... $2,665 $ 5,771
====== =======
Interest rate
spread........... 2.52% 2.93%
====== ======
Net interest
margin........... 3.10% 3.78%
====== ======
Ratio of average
interest-earning
assets to average
interest-bearing
liabilities...... 109.25% 117.60%
====== ======
</TABLE>
36
<PAGE>
ANALYSIS OF CHANGES IN NET INTEREST INCOME DUE TO CHANGES IN INTEREST RATES
AND VOLUMES
The following table presents the dollar amount of changes in interest income
and interest expense for major components of interest-earning assets and
interest-bearing liabilities. It distinguishes between the increase or
decrease related to changes in balances and changes in interest rates. For
each category of interest-earning assets and interest-bearing liabilities,
information is provided on changes attributable to (i) changes in volume
(i.e., changes in volume multiplied by old rate) and (ii) changes in rate
(i.e., changes in rate multiplied by old volume). For purposes of this table,
changes attributable to both rate and volume, which cannot be segregated, have
been allocated proportionately to the change due to volume and the change due
to rate.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, YEAR ENDED DECEMBER 31, SIX MONTHS ENDED JUNE 30,
1995 VS 1994 1996 VS 1995 1997 VS 1996
--------------------------- ------------------------- -----------------------------
INCREASE (DECREASE) INCREASE (DECREASE) INCREASE (DECREASE)
DUE TO CHANGE IN DUE TO CHANGE IN DUE TO CHANGE IN
--------------------------- ------------------------- -----------------------------
VOLUME RATE TOTAL VOLUME RATE TOTAL VOLUME RATE TOTAL
-------- ------- -------- -------- ------- ------- --------- --------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable, net
of discounts.......... $ 3,519 $ 212 $ 3,731 $ 3,561 $ 1,760 $ 5,321 $ 5,946 $ (1,096) $ 4,850
Mortgage-backed securi-
ties.................. -- -- -- -- 351 351 (134) -- (134)
Interest-earning depos-
its................... (119) 93 (26) 128 (104) 24 334 (8) 326
FHLB stock............. 30 21 51 82 (15) 67 16 -- 16
-------- ------- -------- ------- ------- ------- -------- --------- --------
Total interest-earning
assets................ 3,430 326 3,756 3,771 1,992 5,763 6,162 (1,104) 5,058
-------- ------- -------- ------- ------- ------- -------- --------- --------
Interest-bearing liabil-
ities:
Passbook accounts...... (10) 23 13 -- (3) (3) 7 9 16
Money market and NOW
accounts.............. (33) 54 21 128 48 176 1,375 (152) 1,223
Certificates of depos-
it.................... 158 511 669 1,165 238 1,403 1,013 24 1,037
FHLB advances.......... 1,012 (112) 900 1,145 (219) 926 (248) (10) (258)
Borrowed money......... 2,378 187 2,565 1,513 (719) 794 245 (311) (66)
-------- ------- -------- ------- ------- ------- -------- --------- --------
Total interest-bearing
liabilities........... 3,505 663 4,168 3,951 (655) 3,296 2,392 (440) 1,952
-------- ------- -------- ------- ------- ------- -------- --------- --------
Change in net interest
income before provision
for loan and valuation
losses................. $ (75) $ (337) $ (412) $ (180) $ 2,647 $ 2,467 $ 3,770 $ (664) $ 3,106
======== ======= ======== ======= ======= ======= ======== ========= ========
</TABLE>
ASSET AND LIABILITY MANAGEMENT
GENERAL. The Company structures its operations to derive the majority of its
revenues and earnings from noninterest income. However, a portion of the
Company's revenues and net income is derived from net interest income and,
accordingly, the Company strives to manage its interest-earning assets and
interest-bearing liabilities to generate what management believes to be an
appropriate contribution from net interest income. Asset and liability
management seeks to control the volatility of the Company's performance due to
changes in interest rates. The Company constantly attempts to achieve an
appropriate relationship between rate sensitive assets and rate sensitive
liabilities. The Company has responded to interest rate volatility by
developing and implementing asset and liability management strategies designed
to increase its noninterest income and improve the match between interest-
earning assets and interest-bearing liabilities. These strategies include:
. Utilizing mortgage servicing rights as a source of noninterest income and
as a countermeasure against the decline in the value of mortgage loans
during a rising interest rate environment. Increases in interest rates
tend to increase the value of mortgage servicing rights because of the
resulting decrease in prepayment rates on the underlying loans;
. Increasing the noninterest bearing custodial escrow balances related to
the Company's mortgage servicing rights and interest earning trust
deposits;
. Increasing focus on lines of business that are less interest rate
sensitive, such as brokerage activities, consulting services, self-
directed trust services, and real estate disposition;
. Maintaining a wholesale loan origination operation. Wholesale
originations provide a form of hedge against the balance of mortgage loan
servicing rights. In a decreasing interest rate environment, the value
37
<PAGE>
of the servicing portfolio tends to decrease due to increased prepayments
of the underlying loans. During this same period, however, the volume of
loan originations generally increases;
. Originating and purchasing adjustable rate mortgages and selling newly
originated fixed rate residential mortgages in the secondary market;
. Increasing emphasis on the origination of construction and commercial
real estate lending, which tend to have higher interest rates with
shorter loan maturities than residential mortgage loans;
. Increasing retail deposits, which are less susceptible to changes in
interest rates than other funding sources; and
. Pursuing strategic acquisitions that provide fee-based income or generate
liabilities that are less expensive or less interest rate sensitive than
retail deposits or borrowings from third party institutions to fund the
Companies investing activities.
LENDING ACTIVITIES. The major interest-earning asset of the Company is the
loan portfolio. Consequently, a significant part of the Company's asset and
liability management is monitoring the composition of the Company's loan
portfolio, including the corresponding maturities. The table below sets forth
the composition of the Company's loan portfolio by loan type as of the dates
indicated. The amounts in the table below are shown net of discounts and other
deductions.
<TABLE>
<CAPTION>
AS OF DECEMBER 31,
--------------------------------------------------------------------
1993 1994 1995 1996
--------------- --------------- ---------------- ----------------
AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT
------- ------- ------- ------- -------- ------- -------- -------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Residential............. $65,858 86.10% $80,010 89.56% $136,741 93.23% $192,118 90.47%
Multi-family and
commercial real
estate................. 7,813 10.21 7,518 8.41 7,544 5.15 15,352 7.23
Construction............ 125 0.16 106 0.12 78 0.05 1,061 0.50
Consumer................ 3,238 4.23 2,434 2.72 3,245 2.21 4,869 2.29
------- ------ ------- ------ -------- ------ -------- ------
Total loans............ 77,034 100.70 90,068 100.81 147,608 100.64 213,400 100.49
Less allowance for loan
and valuation losses... 538 0.70 728 0.81 943 0.64 1,039 0.49
------- ------ ------- ------ -------- ------ -------- ------
Loans receivable, net... $76,496 100.00% $89,340 100.00% $146,665 100.00% $212,361 100.00%
======= ====== ======= ====== ======== ====== ======== ======
</TABLE>
The following table presents the aggregate maturities of loans in each major
category of the Company's loan portfolio as of December 31, 1996. Loans held
for sale are classified as maturing within one year. Actual maturities may
differ from the contractual maturities shown below as a result of renewals and
prepayments or the timing of loan sales.
<TABLE>
<CAPTION>
AS OF DECEMBER 31, 1996
---------------------------------------
LESS THAN ONE TO OVER FIVE
ONE YEAR FIVE YEARS YEARS TOTAL
--------- ---------- --------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Residential........................... $186,324 $ 618 $ 5,176 $192,118
Multi-family and commercial real es-
tate................................. 5 108 15,239 15,352
Construction.......................... 1,061 -- -- 1,061
Consumer.............................. 1,159 2,446 1,264 4,869
-------- ------ ------- --------
Total loans......................... $188,549 $3,172 $21,679 $213,400
======== ====== ======= ========
</TABLE>
38
<PAGE>
NONPERFORMING ASSETS. As part of asset and liability management, the Company
monitors nonperforming assets ("NPAs") on a monthly basis. NPAs consist
primarily of nonaccrual loans and foreclosed real estate. Loans are placed on
nonaccrual when full payment of principal or interest is in doubt or when they
are past due 90 days as to either principal or interest. Foreclosed real
estate arises primarily through foreclosure on mortgage loans owned. The
following table sets forth the Company's NPAs as of the dates indicated:
<TABLE>
<CAPTION>
AS OF
------------------------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31, JUNE 30,
1993 1994 1995 1996 1997
------------ ------------ ------------ ------------ --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Nonaccrual mortgage
loans.................. $ 657 $3,275 $5,523 $3,031 $2,520
Nonaccrual consumer
loans.................. 196 39 15 872 856
------ ------ ------ ------ ------
Total nonperforming
loans................ 853 3,314 5,538 3,903 3,376
Foreclosed real estate.. 726 543 835 788 1,418
Repossessed automo-
biles.................. -- -- -- 506 191
------ ------ ------ ------ ------
Total nonperforming
assets............... $1,579 $3,857 $6,373 $5,197 $4,985
====== ====== ====== ====== ======
Total nonperforming as-
sets to total assets... 1.64% 3.40% 3.42% 1.89% 0.99%
Total nonperforming
loans to total loans... 1.11% 3.68% 3.75% 1.83% 0.85%
Ratio of allowance for
loan and valuation
losses to total non-
performing loans....... 63.07% 21.97% 17.03% 26.62% 39.66%
Interest income on non-
performing loans not
included in interest
income................. $ 23 $ 140 $ 156 $ 120 $ 50
</TABLE>
As of June 30, 1997, the Company had no accruing loans that were
contractually past due 90 days or more, unless the interest was guaranteed
through recourse provisions. At June 30, 1997, $2.3 million, or 69.5%, of the
nonaccrual loans were loans that were purchased in bulk loan portfolios.
Against the loans receivable, the Company has $2.9 million of purchase
discounts at June 30, 1997.
The balance in the nonaccrual consumer loans primarily pertains to sub-prime
auto loans that the Company repurchased. As previously disclosed, the Company
settled a dispute with the purchaser of certain of the automobile loans sold
prior to and in connection with the disposition of the assets of Sterling
Finance Co., Inc., a subsidiary of Matrix Bank. To settle the dispute the
Company was required in June 1997 to repurchase approximately $1.5 million of
automobile loans plus $108,000 of accrued interest.
The increase in the nonaccrual consumer loans in 1997 and 1996 over 1995
pertains to sub-prime automobile loans that the Company repurchased pursuant
to limited representations and warranties included in loan sale agreements.
The Company has a separate reserve of $895,000 and $600,000 included in other
liabilities for anticipated losses relating to the repurchased sub-prime
automobile loans at June 30, 1997 and December 31, 1996, respectively. The
balance of the repossessed automobiles have been written down to the
anticipated recoverable amount. The Company sold the fixed assets of its sub-
prime automobile lending subsidiary in December 1996, and it is anticipated
the Company will originate no additional sub-prime automobile contracts.
The prior delinquency and anticipated future delinquencies are taken into
consideration in the pricing of the loans acquired. The Company generally
purchases such loans at discounts and, in some instances, receives recourse or
credit enhancement from the seller to further reduce the Company's risk of
loss associated with the loans' nonaccrual status. At June 30, 1997, $2.3
million, or 69.5%, of the nonaccrual loans were loans that were residential
loans purchased in bulk loan portfolios and remain classified as "held for
sale." Total loans held for sale at June 30, 1997, were $343.1 million, of
which $3.1 million, or 0.9%, were nonaccrual loans. However, against the
$343.1 million of total loans held for sale, the Company has $2.9 million of
purchase discounts as well as approximately $59.3 million of total loans for
which the Company had full recourse to a third party guaranteeing the
repayment.
39
<PAGE>
The percentage of the allowance for loan and valuation losses to nonaccrual
loans varies widely due to the nature of the Company's portfolio of mortgage
loans, which are collateralized primarily by residential real estate. The
Company analyzes the collateral for each nonperforming mortgage loan to
determine potential loss exposure. In conjunction with other factors, this
loss exposure contributes to the overall assessment of the adequacy of the
allowance for loan and valuation losses. See "--Comparison of Results of
Operations for the Years Ended December 31, 1996 and 1995."
ANALYSIS OF ALLOWANCE FOR LOAN AND VALUATION LOSSES. The following table
sets forth information regarding changes in the Company's allowance for loan
and valuation losses for the periods indicated. The table includes the
allowance for both the loans held for investment and the loans held for sale.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------
1993 1994 1995 1996
------- ------- -------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C>
Balance at beginning of period.......... $ -- $ 538 $ 728 $ 943
Charge-offs:
Real estate-mortgage.................. 33 26 198 64
Real estate-construction.............. -- -- 35 --
Consumer.............................. -- -- 7 6
------- ------- -------- --------
Total charge-offs................... 33 26 240 70
Recoveries:
Real estate-mortgage.................. -- -- 5 8
Consumer.............................. -- -- 49 15
------- ------- -------- --------
Total recoveries.................... -- -- 54 23
Net charge-offs......................... 33 26 186 47
Allowance for loan losses established in
connection with the acquisition of Ma-
trix Bank.............................. 556 -- -- --
------- ------- -------- --------
Provision for loan and valuation losses
charged to operations.................. 15 216 401 143
------- ------- -------- --------
Balance at end of period................ $ 538 $ 728 $ 943 $ 1,039
======= ======= ======== ========
Ratio of net charge-offs to average
loans.................................. 0.18% 0.03% 0.15% 0.03%
======= ======= ======== ========
Average loans outstanding during the pe-
riod................................... $18,608 $79,393 $121,206 $162,648
======= ======= ======== ========
</TABLE>
The allowance for loan and valuation losses is increased by the provision
for loan and valuation losses (which is charged to operations) for particular
loans where management considers ultimate collection to be questionable. The
allowance for loan and valuation losses is calculated, in part, based on
historical loss experience. In addition, management takes into consideration
other factors such as certain qualitative evaluations of individual classified
assets, trends in the portfolio, geographic, and portfolio concentrations, new
products or markets, evaluations of the changes in the historical loss
experience component, and projections of this component into the current and
future periods based on current knowledge and conditions. Due to the nature of
the Company's loan portfolio, substantially all of the allowance for loan and
valuation losses relates to residential loans. However, to the extent that
there is diversification and growth in the Company's loan portfolio,
particularly for example with respect to construction and commercial real
estate loans, the Company's allocation of the provision for loan and valuation
losses will change, which could result in an increase in the provision. The
ratio of the allowance for loan and valuation losses to total loans was .81%,
.64%, .49%, and .34% at December 31, 1994, 1995, 1996, and June 30, 1997,
respectively. The allowance for loan and valuation losses is reduced by loans
charged off, net of recoveries.
RISK SENSITIVE ASSETS AND LIABILITIES. A traditional indicator of interest
rate risk is gap analysis. Gap analysis focuses on the difference (or gap)
between available repricing opportunities for assets and liabilities within
defined time periods. If the dollar amount of interest rate sensitive assets
is closely matched with the dollar
40
<PAGE>
amount of interest rate sensitive liabilities in a given period, then the
changes in interest income and interest expense over this time frame should
also be closely matched.
The following table sets forth the estimated maturity or repricing, and the
resulting interest rate gap, of the Company's interest-earning assets and
interest-bearing liabilities as of December 31, 1996. The amounts in the table
are derived from internal data of the Company and could be significantly
affected by external factors such as changes in prepayment assumptions, early
withdrawals of deposits, and competition. Loans held for sale are classified
as maturing within one year due to the Company's expectation of selling its
loans held for sale within one year.
<TABLE>
<CAPTION>
ESTIMATED MATURITY OR REPRICING
--------------------------------------------------------
LESS THAN THREE MONTHS
THREE TO LESS THAN ONE TO OVER
MONTHS ONE YEAR FIVE YEARS FIVE YEARS TOTAL
--------- ------------ ---------- ---------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Interest-earning assets:
Fixed-rate loans....... $ 34,182 $ 48,288 $ 2,950 $ 5,426 $ 90,846
Adjustable-rate loans.. 27,659 80,709 14,186 -- 122,554
Interest-earning
deposits.............. 9,754 -- -- -- 9,754
FHLB stock............. 2,871 -- -- -- 2,871
-------- -------- ------- ------- --------
Total interest-earning
assets............... 74,466 128,997 17,136 5,426 226,025
Interest-bearing
liabilities:
Passbook, NOW and money
market accounts....... 16,944 -- -- -- 16,944
Certificates of deposit
over $100,000......... 1,688 2,689 1,080 -- 5,457
Other certificates of
deposit............... 13,458 36,772 17,548 -- 67,778
FHLB borrowings........ 51,250 -- -- -- 51,250
Short term borrowings.. 31,504 -- -- -- 31,504
Other borrowings....... 101 738 7,460 2,628 10,927
-------- -------- ------- ------- --------
Total interest-bearing
liabilities.......... 114,945 40,199 26,088 2,628 183,860
-------- -------- ------- ------- --------
Interest rate gap....... $(40,479) $ 88,798 $(8,952) $ 2,798 $ 42,165
======== ======== ======= ======= ========
Cumulative interest rate
gap.................... $(40,479) $ 48,319 $39,367 $42,165
Gap/assets ratio........ (17.91)% 39.29% (3.96)% 1.24%
Cumulative gap/assets
ratio.................. (17.91)% 21.38% 17.42% 18.66%
</TABLE>
Gap analysis attempts to capture interest rate risk, which is attributable
to the mismatching of interest rate sensitive assets and liabilities. The
actual impact of interest rate movements on the Company's net interest income
may differ from that implied by any gap measurement, depending on the
direction and magnitude of the interest rate movements, the repricing
characteristics of various on and off-balance sheet instruments, as well as
competitive pressures. These factors are not fully reflected in the foregoing
gap analysis and, as a result, the gap report may not provide a complete
assessment of the Company's interest rate risk.
The generally positive cumulative gap value means that over the periods
indicated the assets of the Company will reprice slightly faster than the
Company's liabilities. This means generally that, in a rising interest rate
environment, net interest income can be expected to increase and that, in a
declining interest rate environment, net interest income can be expected to
decrease.
SHORT-TERM BORROWINGS. A primary function of asset and liability management
is to assure adequate liquidity. In addition to cash and cash equivalents, the
Company relies heavily on short-term borrowing capabilities for liquidity and
as funding vehicle. The primary sources for short-term borrowing are the FHLB
for Matrix Bank and unaffiliated financial institutions for Matrix Financial.
See "--Liquidity and Capital Resources."
41
<PAGE>
The following table sets forth a summary of the short-term borrowings of the
Company during 1994, 1995, and 1996 and as of the end of each such period:
<TABLE>
<CAPTION>
AVERAGE
AMOUNT MAXIMUM WEIGHTED
AMOUNT OUTSTANDING OUTSTANDING AVERAGE INTEREST WEIGHTED
OUTSTANDING DURING THE AT ANY RATE DURING AVERAGE INTEREST
AT YEAR END YEAR(1) MONTH END THE YEAR RATE AT YEAR END
----------- ----------- ----------- ---------------- ----------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
At or for the year ended
December 31, 1994:
FHLB borrowings....... $14,600 $3,071 $15,000 6.94% 6.50%
Revolving lines of
credit............... 9,890 4,917 11,042 9.29 9.21
Repurchase
agreements........... 2,529 4,320 6,157 8.03 7.18
At or for the year ended
December 31, 1995:
FHLB borrowings....... 19,000 17,662 33,000 6.30 6.30
Revolving lines of
credit............... 46,833 22,842 46,833 7.57 7.30
Repurchase
agreements........... 570 4,559 14,129 8.97 8.70
At or for the year ended
December 31, 1996:
FHLB borrowings....... 51,250 35,838 53,650 5.69 5.84
Revolving lines of
credit............... 31,504 35,489 60,804 7.17 6.50
Repurchase
agreements........... -- 991 4,962 12.58 --
</TABLE>
- --------
(1) Calculations are based on daily averages where available and monthly
averages otherwise.
PIPELINE MANAGEMENT. In the ordinary course of business, the Company makes
commitments to originate residential mortgage loans and holds originated loans
until delivery to an investor. Inherent in this business are risks associated
with changes in interest rates and the resulting change in the market value of
the pipeline loans. The Company mitigates this risk through the use of
mandatory and nonmandatory forward commitments to sell loans. As of December
31, 1996, the Company had $62.6 million in pipeline and funded loans offset
with mandatory forward commitments of $49.1 million and nonmandatory forward
commitments of $8.1 million. As of June 30, 1997, the Company had $56.0
million in pipeline and funded loans offset with mandatory forward commitments
of $36.1 million and non-mandatory commitments of $10.8 million. The inherent
value of the forward commitments is considered in the determination of the
lower of cost or market for such loans.
LIQUIDITY AND CAPITAL RESOURCES
Liquidity is the ability of the Company to generate funds to support asset
growth, satisfy disbursement needs, maintain reserve requirements, and
otherwise operate on an ongoing basis. To date, Matrix Capital's principal
source of funding for its investing activities has been secured senior debt
provided by unaffiliated financial institutions, the issuance of $2.9 million
aggregate principal amount of Senior Subordinated Notes in August 1995, a bank
stock loan, and the Company's initial public offering. As of June 30, 1997,
Matrix Capital had $11.7 million in indebtedness outstanding. The borrowed
funds have been used historically as capital injections to Matrix Bank and
Matrix Financial, as well as to acquire the office building in Phoenix where
Matrix Financial maintains its headquarters. See "Business--Properties."
The trend experienced over the reported periods of cash used by the
Company's operating activities results primarily from the growth that Matrix
Bank has experienced in its whole loan purchasing activity. The Company
anticipates the trend of a net use of cash from operations to continue for the
foreseeable future. This anticipation results from the expected growth at
Matrix Bank, which management believes will consist primarily of increased
activity in the purchasing of loan portfolios. The Company anticipates such
growth will be funded through retail deposits, custodial escrow deposits,
directed trust deposits, and FHLB borrowings.
42
<PAGE>
The Company's principal source of funding for its servicing acquisition
activities consists of line of credit facilities provided to Matrix Financial
by unaffiliated financial institutions. In prior years, including the year
ended December 31, 1996, Matrix Financial relied on various sources for
funding its servicing acquisition activities, including servicing acquisition
lines, the sale of mortgage servicing rights that were accounted for as
financings, and capital contributions from the Company. As of June 30, 1997,
Matrix Financial's servicing acquisition facilities aggregated $30.0 million,
of which $5.1 million was available to be utilized after deducting drawn
amounts. Borrowings under the servicing acquisition lines of credit are
secured by mortgage servicing rights owned by Matrix Financial, bear interest
at the federal funds rate plus a negotiated margin, and are due at the earlier
of the maturity of the mortgage servicing rights or amortized over five to six
years from the date of borrowing. At June 30, 1997, $24.9 million was
outstanding under the servicing acquisition line and the interest rate on
funds outstanding under these facilities at June 30, 1997 was 7.56%.
The Company's principal source of funding for its loan origination business
consists of warehouse lines of credit and sale/repurchase facilities provided
to Matrix Financial by financial institutions and brokerage firms. As of June
30, 1997, Matrix Financial's warehouse lines of credit aggregated $60.0
million, of which $23.4 million was available to be utilized. Borrowings under
the warehouse lines of credit are secured by all of the mortgage loans funded
with warehouse loan proceeds and bear interest at the federal funds rate plus
a negotiated margin. At June 30, 1997, $36.6 million was outstanding under the
warehouse lines of credit at a weighted average interest rate of 6.96%. As of
June 30, 1997, Matrix Financial's sale/repurchase facilities aggregated $20.0
million, with $1.8 million outstanding. Borrowings under the sale/repurchase
facilities are secured by all of the mortgage loans funded with
sale/repurchase facility proceeds and bear interest at either the prime rate
or the LIBOR rate plus a negotiated margin (depending on the facility).
The Company's principal source of funding for the working capital needs of
Matrix Financial consists of working capital facilities provided to Matrix
Financial by unaffiliated financial institutions. As of December 31, 1996 and
June 30, 1997, Matrix Financial's working capital facilities aggregated $2.5
million and $10.0 million, of which $2.5 million and $900,000 was available,
respectively. The amount of credit available for working capital borrowings is
a sublimit of the warehouse lines of credit, and therefore, any amounts
borrowed are netted against the amount of credit available from the warehouse
lines of credit. Borrowings under the working capital facilities are secured
by mortgage servicing rights, eligible servicing advance receivables, and
eligible delinquent mortgage loans and bear interest at the federal funds rate
plus a negotiated margin. At June 30, 1997, $9.1 million was outstanding under
the working capital facilities.
The amounts outstanding as stated above under Matrix Financial's servicing
acquisition facility, warehouse lines of credit, sale/repurchase facility, and
working capital facility were significantly reduced as a result of the
Company's completion of its initial public offering. The net proceeds raised
from the public offering were used to reduce balances outstanding on revolving
credit facilities. With the acquisition of additional residential mortgage
loan servicing portfolios subsequent to the initial public offering, the
Company expects to fully utilize all of its credit facilities.
The credit agreements relating to Matrix Financial's principal sources of
funding as described above require Matrix Financial to maintain, among other
things, (i) total shareholder's equity of at least $10.0 million plus 100% of
capital contributed after January 1, 1997, plus 50% of cumulative quarterly
net income, (ii) adjusted net worth, as defined, of at least $12.0 million,
(iii) a servicing portfolio of at least $2.0 billion, and (iv) principal debt
of term line borrowings of no more than the lesser of 70% of the appraised
value of the mortgage servicing portfolio or 1.25% of the unpaid principal
balance of the mortgage servicing portfolio, (v) a ratio of total adjusted
debt to adjusted tangible net worth of no more than eight to one, and (vi) a
ratio of cash flow to current maturities of long-term debt and any capital
leases of at least 1.3 to 1.0.
In March 1997, the Company refinanced its bank stock loan and increased the
credit available under the loan by an additional $6.0 million. The new bank
stock loan has two components of the loan, a $2.0 million term loan, which was
used to refinance the bank stock loan in place at December 31, 1996, and a
revolving line of credit of $6.0 million. In March of 1998, the balance of the
revolving line of credit will be converted to a
43
<PAGE>
term loan. The additional proceeds from the loan will be used as capital at
Matrix Bank. The new bank stock loan requires the Company to maintain (i)
total stockholders' equity of $27.5 million plus 100% of all future equity
contributions, plus 50% of cumulative quarterly net income, (ii) dividends
less than 50% of the Company's net cash income after adjustments, and (iii)
total adjusted debt to stockholders' equity less than 4 : 1. At June 30, 1996,
the balance under the revolving line of credit was $5.5 million. The Company
was in compliance with all but one of these covenants at June 30, 1997 of
which the Company received a waiver from the lending financial institution.
In August 1995, the Company issued $2.9 million in aggregate principal
amount of the Senior Subordinated Notes. Interest on the Senior Subordinated
Notes is payable semi-annually on January 15 and July 15, and the Senior
Subordinated Notes mature on July 15, 2002, with earlier mandatory redemptions
of $727,500, or 25% of the Senior Subordinated Notes, scheduled on July 15,
1999, 2000, and 2001, respectively. The Company is restricted from paying cash
dividends under the terms of the Senior Subordinated Notes. However, the
Company may pay cash dividends in an amount equal to 50% of the consolidated
net income of the Company as long as there has been no default under the terms
of the Senior Subordinated Notes and as long as the dividend does not exceed
10% of the consolidated net worth of the Company. The Company may redeem the
Senior Subordinated Notes, in whole or in part, at any time on or after July
15, 1998, at a redemption price equal to (i) 102% of par through July 14, 1999
and, thereafter, at par, plus (ii) all accrued but unpaid interest. Until
February 1997, the Senior Subordinated Notes bore interest at 13% per annum;
in February 1997, the interest rate increased to 14% per annum.
Matrix Bank's primary source of funds for use in lending, purchasing bulk
loan portfolios, investing and other general purposes are retail deposits,
custodial escrow balances, trust directed deposits, FHLB borrowings, sales of
loan portfolios, and proceeds from principal and interest payments on loans.
Contractual loan payments and deposit inflows and outflows are a generally
predictable source of funds, while loan prepayments and loan sales are
significantly influenced by general market interest rates and economic
conditions. Borrowings on a short-term basis are used as a cash management
vehicle to compensate for seasonal or other reductions in normal sources of
funds. Matrix Bank utilizes advances from the FHLB as its primary source for
borrowings. At June 30, 1997, Matrix Bank had overnight borrowings from the
FHLB of $70.6 million. The custodial escrow balances held by Matrix Bank
fluctuate based upon the mix and size of the related servicing rights
portfolios. For a tabular presentation of the Company's short-term borrowings,
see "--Asset and Liability Management--Short-term Borrowings."
Matrix Bank offers a variety of deposit accounts having a range of interest
rates and terms. Matrix Bank's deposits principally consist of demand deposits
and certificates of deposit. The flow of deposits is influenced significantly
by general economic conditions, changes in prevailing interest rates, and
competition. Matrix Bank's retail deposits are obtained primarily from areas
in which it is located and, therefore, its retail deposits are concentrated
primarily in Las Cruces and Sun City. Matrix Bank relies principally on
customer service, marketing programs, and its relationships with customers to
attract and retain these deposits. Matrix Bank currently does not solicit or
accept brokered deposits. In pricing deposit rates, management considers
profitability, the matching of term lengths with assets, the attractiveness to
customers, and rates offered by competitors. Matrix Bank intends to continue
its efforts to attract deposits as a primary source of funds to support its
lending and investing activities.
In January 1996, Matrix Bank opened a retail branch in Sun City, Arizona.
The Company has been successful in attracting deposits at the Sun City
location and this success has been the primary reason for the increased
deposit growth that the Company has experienced for the year ended December
31, 1996. In October 1996, Matrix Bank opened a second retail branch in Las
Cruces. In February 1997, Sterling Trust moved approximately $80.0 million of
deposits from a third party institution to Matrix Bank. The following table
sets forth the average balances for each major category of Matrix Bank's
deposit accounts and the weighted average interest rates paid for interest-
bearing deposits for the periods indicated:
44
<PAGE>
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------------------- SIX MONTHS ENDED
1994 1995 1996 JUNE 30, 1997
---------------- ---------------- ---------------- -----------------
WEIGHTED WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE
BALANCE RATE BALANCE RATE BALANCE BALANCE BALANCE RATE
------- -------- ------- -------- ------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Passbook accounts....... $ 2,788 2.58% $ 2,394 3.55% $ 2,389 3.45% $ 2,854 3.92%
NOW accounts............ 2,131 1.69 2,460 2.11 2,813 2.24 38,723 3.14
Money market accounts... 7,350 3.20 5,860 4.10 9,151 4.43 46,040 3.68
Time deposits........... 29,273 3.89 33,332 5.42 54,824 5.85 79,020 5.88
------- ---- ------- ---- ------- ---- -------- ----
Total deposits.......... $41,542 3.57% $44,046 4.96% $69,177 5.43% $166,637 4.61%
======= ==== ======= ==== ======= ==== ======== ====
</TABLE>
The following table sets forth the amount of Matrix Bank's certificates of
deposit that are greater than $100,000 by time remaining until maturity as of
June 30, 1997:
<TABLE>
<CAPTION>
AS OF JUNE 30, 1997
-----------------------
WEIGHTED AVERAGE
AMOUNT RATE PAID
------ ----------------
(DOLLARS IN THOUSANDS)
<S> <C> <C>
Three months or less................................. $1,261 5.66%
Over three months through six months................. 464 6.02
Over six months through twelve months................ 2,542 5.94
Over twelve months................................... 1,951 6.27
------ ----
Total.............................................. $6,218 5.99%
====== ====
</TABLE>
The Company actively monitors Matrix Bank's compliance with regulatory
capital requirements. Historically Matrix Bank has increased it core capital
through the retention of a portion of its earnings. Matrix Bank's future
growth is expected to be achieved through deposit growth, borrowings from the
FHLB, and custodial and directed trust deposits from affiliates which is
anticipated to require additional capital. The capital requirements related to
the anticipated growth will in part be fulfilled through retaining earnings,
increasing the Company's bank stock loan, and the use of a portion of the
proceeds raised from the sale of the Notes. See "Supervision and Regulation--
Federal Savings Bank Operations--Matrix Bank's Capital Ratios."
Matrix Bank and Matrix Financial are restricted from paying dividends to
Matrix Capital due to restrictions of certain debt agreements and regulatory
requirements. At June 30, 1997, the Company was in compliance with all but one
of debt covenants of which the Company received a waiver from the lending
financial institution. See "Supervision and Regulation."
In June 1996, the Company purchased 154 acres of land for $1.3 million in
cash for the purpose of developing 750 residential and multi-family lots in
Ft. Lupton, Colorado. The purchase was completed with operating funds of the
Company and a loan from a third-party financial institution. As part of the
acquisition, the Company entered into a Residential Facilities Development
Agreement (the "Development Agreement") with the City of Ft. Lupton. The
Development Agreement is a residential and planned unit development agreement
providing for the orderly planning, engineering and development of a golf
course and surrounding residential community. The City of Ft. Lupton is
responsible for the development of the golf course and the Company is
responsible for the development of the surrounding residential lots.
The Development Agreement sets forth a mandatory obligation on the part of
the Company to pay the City of Ft. Lupton pledged enhancement assessments of
$600,000. These pledged enhancement assessments require the Company to pay the
city a $2,000 fee each time the Company sells a developed residential lot. The
Company is obligated to pay a minimum of $60,000 in assessment fees per year
beginning in the year 1998 through the year 2007. The Company also entered
into a development management agreement with a local developer to complete the
development of the land. The terms of the agreement specify that the Company
is to earn a preferred rate of return on its investment and, once the initial
amount of its investment has been returned plus
45
<PAGE>
the preferred rate of return, the remaining profits are split equally. The
development management agreement obligates the Company to provide up to an
additional $500,000 of funds for development. The Company has no other
financial obligations to the developer beyond the $500,000.
It is anticipated that the Company will obtain a loan from an unaffiliated
financial institution for a portion of the future development costs. The
Company expects development to begin during the fall of 1997.
INFLATION AND CHANGING PRICES
The Consolidated Financial Statements and related data presented herein have
been prepared in accordance with generally accepted accounting principles,
which require the measurement of financial position and operating results in
terms of historical dollars without considering changes in the relative
purchasing power of money over time due to inflation. Unlike most industrial
companies, substantially all of the assets and liabilities of the Company are
monetary in nature. As a result, interest rates have a more significant impact
on the Company's performance than the effects of general levels of inflation.
Interest rates do not necessarily move in the same direction or in the same
magnitude as prices of goods and services. The Company discloses the estimated
fair market value of its financial instruments in accordance with Statement of
Financial Accounting Standards No. 107. See Note 14 to the Consolidated
Financial Statements included elsewhere herein.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1996, the FASB issued Statement of Financial Accounting Standards
No. 125, Accounting for Transfers and Servicing of Financial Assets and
Extinguishment of Liabilities ("FAS 125"). This statement provides accounting
and reporting standards for transfers and servicing of financial assets and
extinguishment of liabilities and is effective for the above that occur after
December 31, 1996. Transactions covered by FAS 125 include securitizations,
sales of partial interests in financial assets, repurchase agreements,
securities lending, pledges of collateral, loan syndications and
participations, sales of receivables with recourse, servicing of mortgages and
other loans, and in-substance defeasances. The statement uses a "financial
components" approach that focuses on control to determine the proper
accounting for financial asset transfers. Under that approach, after financial
assets are transferred, an entity would recognize on the balance sheet all
assets it controls and liabilities it has incurred. It would remove from the
balance sheet those assets it no longer controls and liabilities it has
satisfied. If the entity has surrendered control over the transferred assets,
the transaction would be considered a sale. Control is considered surrendered
only if the assets are isolated from the transferor, the transferee has the
right to pledge or exchange the assets or is a qualifying special-purpose
entity, and the transferor does not maintain effective control over the assets
through an agreement to repurchase or redeem them. If those conditions do not
exist, the transfer would be accounted for as a secured borrowing. The Company
adopted FAS 125 in the first quarter of 1997, and the effect of such adoption
was not material to its consolidated financial statements.
In February 1997, the FASB issued Statement of Financial Accounting
Standards No. 128, Earnings per Share ("FAS 128"), which specifies the
computation, presentation, and disclosure requirements for earnings per common
share ("EPS"). FAS 128 replaces the presentation of primary and fully diluted
EPS pursuant to Accounting Principles Board Opinion No. 15 Earnings per Share
("APB 15"), with the presentation of basic and diluted EPS. Basic EPS excludes
dilution and is computed by dividing net income available to common
stockholders by the weighted average number of common shares outstanding for
the period. Diluted EPS reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or
converted into common stock or resulted in the issuance of common stock that
then shared in the earnings of the entity. The Company is required to adopt
FAS 128 with its December 31, 1997 financial statements and restate all prior-
period EPS data. The Company will continue to account for EPS under APB 15
until that time. Management does not expect the adoption of FAS 128 will have
a material impact on the Company's consolidated financial statements.
46
<PAGE>
BUSINESS
GENERAL
Matrix Capital Corporation is a specialized financial services company that,
through its Subsidiaries, focuses on mortgage merchant banking by purchasing
and selling residential mortgage loans and residential mortgage servicing
rights; offering brokerage, consulting and analytical services to other
financial services companies and financial institutions; servicing residential
mortgage portfolios for investors; originating residential mortgages, and
providing real estate management and disposition services. The Company also
provides trust administration services to self-directed qualified retirement
plans, individual retirement accounts, custodial and self-directed trust
accounts, and broker dealer services to individuals and deferred contribution
plans. The Company is a unitary thrift holding company that was incorporated
in Colorado in June 1993. Based upon management's experience within the
industries in which the Company operates, the Company believes that its
structure of combining a mortgage banking firm, a mortgage servicing brokering
and consulting firm, a federally chartered banking institution, a real estate
management and disposition firm, a self-directed trust company and a
securities broker/dealer is unique to the financial services industry. This
unique structure creates revenue enhancing relationships among the
Subsidiaries. Its principal executive offices are located at 1380 Lawrence
Street, Suite 1410, Denver, Colorado 80204, and its telephone number is (303)
595-9898.
BUSINESS STRATEGY
The Company's primary business strategy is to expand its core businesses,
while at the same time further capitalize on the revenue-enhancing
relationships created by the Company's unique corporate structure. The Company
also remains opportunistic and, accordingly, may in the future diversify its
business into areas where the Company perceives there to be opportunities
complementary in nature to the Company's existing businesses. To implement its
business strategy, the Company will focus on the following areas:
. SHARE KNOWLEDGE, INFORMATION AND BUSINESS OPPORTUNITIES AMONG THE
SUBSIDIARIES. The Company's corporate structure facilitates the sharing
of knowledge, information, and business opportunities among the
Subsidiaries, which management believes gives the Company a competitive
advantage. The Company continually evaluates ways to better utilize
existing relationships developed by the Subsidiaries with their clients
and information and knowledge possessed by the Subsidiaries for the
potential benefit of the other Subsidiaries of the Company. For example,
the Company is currently investigating the possibility of using the
existing customer relationships from Matrix Financial's mortgage loan
servicing activities to market Matrix Bank's banking services, such as
credit card services, consumer loans, and equity lines of credit. In
addition, the Company has begun, on a limited basis, to market warehouse
and sale/repurchase credit facilities to the smaller mortgage banking
companies who are clients of United Financial and who, due primarily to
their size, otherwise would not be able to obtain such facilities from
the larger financial institutions who traditionally provide such
facilities. For a discussion of various synergies among the Subsidiaries,
see "Management's Discussion and Analysis of Financial Conditions and
Results of Operations--Relationships Among the Subsidiaries."
. EXPAND THE COMPANY'S RESIDENTIAL MORTGAGE LOAN SERVICING PORTFOLIO. The
Company has devoted significant time and resources over the past several
years to building an infrastructure capable of efficiently servicing
substantially more residential mortgage loans than it does at present.
Given the existing base of servicing employees at Matrix Financial and
the size of the servicing platform in which the servicing operation is
maintained, the Company believes that it now has the capacity to increase
the number of residential mortgage loans that it services. Growth in the
size of the servicing portfolio would likely reduce the average cost of
servicing a loan and allow the Company to grow Matrix Bank since the non-
interest bearing custodial escrow accounts held at Matrix Bank would
increase in proportion to the size of the Company's residential mortgage
loan servicing portfolio.
. DIVERSIFY REVENUE SOURCES THROUGH EXPANSION INTO COMPLEMENTARY BUSINESS
AREAS. The Company continually evaluates the development of new business
lines and potential acquisitions of financial services businesses that
management believes are complementary to the Company's existing
businesses.
47
<PAGE>
Such new business lines would allow the Company to leverage its management
expertise, customer relationships, existing capital, and corporate
structure. As examples of this strategy, the Company formed the B/C
Lending Division of Matrix Financial in June 1996, started a national call
center for solicitations of loans at Matrix Financial in May 1996, and
acquired Vintage in February 1997.
BROKERAGE AND CONSULTING SERVICES
BROKERAGE SERVICES. United Financial operates as a national, full-service
mortgage servicing broker. It is capable of analyzing, packaging, marketing,
and closing servicing portfolio and selected corporate merger and acquisition
transactions. United Financial markets its services to all types and sizes of
market participants, thereby developing diverse relationships. United
Financial has provided brokerage services to each of the following clients
during the last 12 months:
Banc One Mortgage Corporation Knutson Mortgage
Bank of America Mellon Mortgage Corporation
Chase Manhattan Mortgage Corporation NVR Mortgage Finance, Inc.
First of America Loan Services, Inc. Principal Residential Mortgage, Inc.
Firstar Bank Resource Bancshares Mortgage Group
The Company believes that the client relationships developed by United
Financial through its national network of contacts with commercial banks,
mortgage companies, savings associations, and other institutional investors
represent a significant competitive advantage and form the basis for United
Financial's national market presence. These contacts also enable United
Financial to identify prospective clients for other Subsidiaries and make
referrals where appropriate.
The secondary market for purchasing and selling mortgage servicing rights
has become increasingly more active since its inception during the early
1980s. While servicing rights are the primary asset of most mortgage
companies, other institutions such as commercial banks and savings
associations also build portfolios of mortgage servicing rights, which can
serve as significant source of non-interest income. Most institutions that own
mortgage servicing rights have found that careful management of these assets
is necessary due to their susceptibility to interest rate cycles, changing
prepayment patterns of mortgage loans, and fluctuating earnings rates achieved
on custodial escrow balances. With the implementation of FAS 122, which
requires companies to capitalize originated mortgage servicing rights,
management of mortgage servicing assets has become even more critical. These
managerial efforts, combined with interest rate sensitivity of the assets and
the growth strategies of market participants, create constantly changing
supply and demand and, therefore, price levels in the secondary market for
mortgage servicing rights.
The sale and transfer of mortgage servicing rights occur in a market that is
inefficient and often requires an intermediary to facilitate matching buyers
and sellers. Prices are unpublished and closely guarded by market
participants, unlike most other major financial secondary markets. This lack
of pricing information complicates an already difficult process of
differentiating between servicing product types, evaluating regional, economic
and socioeconomic trends, and predicting the impact of interest rate
movements. Due to its significant contacts, United Financial has access to
information on the availability of mortgage servicing portfolios and helps
bring together interested buyers and sellers.
CONSULTING AND ANALYTIC SERVICES. The analytics group of United Financial
has developed expertise in helping companies implement and, on an ongoing
basis, track their FAS 122 valuations and analyses. Expansion into the FAS 122
valuations arena represented a logical progression for United Financial. In
connection with the consulting services performed by United Financial on pools
of mortgage servicing rights held for sale by United Financial's clients,
United Financial performed many of the same types of analyses required by FAS
122. Therefore, United Financial was able to enhance its existing valuation
models and create a software program that could be customized to fit its
customers' many different needs and unique situations in performing FAS 122
48
<PAGE>
analyses. In addition, United Financial has the infrastructure and management
information system capabilities necessary to undertake the complex analyses
required by FAS 122. Many of the companies affected by the implementation of
FAS 122 have determined to outsource this function to a third party rather
than dedicate the resources necessary to develop systems for and perform their
own FAS 122 valuations. To provide an additional consulting service to the
mortgage banking industry, the Company formed UCM in December 1996. FAS 122
requires that servicing portfolios be valued at lower of cost or market. As a
result, the management of the servicing asset has become a critical component
to the holders of mortgage servicing rights. Due to the of risk of companies
incurring an impairment of their servicing portfolio, the need to hedge has
become much more prevalent. UCM will market to many of the same companies as
United Financial and will focus its efforts on providing hedging strategies
for institutional clients servicing portfolios. Management believes that
providing these consulting and analytic services enhances the Company's
ability to attract and retain client relationships.
RESIDENTIAL LOAN SERVICING ACTIVITIES
RESIDENTIAL MORTGAGE LOAN SERVICING. Matrix Financial and Matrix Bank each
has its own mortgage servicing portfolio, but the Company conducts its
servicing activities exclusively through Matrix Financial. Matrix Bank's
mortgage servicing rights are subserviced under a contract with Matrix
Financial. At June 30, 1997, Matrix Financial serviced approximately $3.1
billion of mortgage loans, including $458.6 million for Matrix Bank and $106.9
million subserviced for non-affiliates of the Company.
Servicing mortgage loans involves a contractual right to receive a fee for
processing and administering loan payments. This processing involves
collecting monthly mortgage payments on behalf of investors, reporting
information to those investors on a monthly basis and maintaining custodial
escrow accounts for the payment of principal and interest to investors and
property taxes and insurance premiums on behalf of borrowers. These payments
are held in custodial escrow accounts at Matrix Bank, where the money can be
invested by the Company in interest-earning assets at returns that
historically have been greater than could be realized by the Company using the
custodial escrow deposits as compensating balances to reduce the effective
borrowing cost on existing warehouse credit facilities.
As compensation for its mortgage servicing activities, the Company receives
servicing fees, usually ranging from 0.25% to 0.75% per annum of the loan
balances serviced, plus any late charges collected from delinquent borrowers
and other fees incidental to the services provided. At December 31, 1996, the
Company's weighted average servicing fee was 0.40%. In the event of a default
by the borrower, the Company receives no servicing fees until the default is
cured.
Servicing is provided on mortgage loans on a recourse or nonrecourse basis.
The Company's policy is to accept only a limited number of servicing assets on
a recourse basis. As of December 31, 1995 and 1996, on the basis of
outstanding principal balances only 0.7% and 0.4%, respectively, of the
mortgage servicing contracts owned by the Company involved recourse servicing.
To the extent that servicing is done on a recourse basis, the Company is
exposed to credit risk with respect to the underlying loan in the event of a
repurchase. Additionally, many of the nonrecourse mortgage servicing contracts
owned by the Company require the Company to advance all or part of the
scheduled payments to the owner of the mortgage loan in the event of a default
by the borrower. Many owners of mortgage loans also require the servicer to
advance insurance premiums and tax payments on schedule even though sufficient
escrow funds may not be available. The Company, therefore, must bear the
funding costs associated with making such advances. If the delinquent loan
does not become current, these advances are typically recovered at the time of
the foreclosure sale. Foreclosure expenses are generally not fully
reimbursable by the FNMA, FHLMC or the GNMA, for whom the Company provides
significant amounts of mortgage loan servicing.
Mortgage servicing rights represent a contract right to service and not a
beneficial ownership interest in underlying mortgage loans. Failure to service
the loans in accordance with contract requirements may lead to the termination
of the servicing rights and the loss of future servicing fees. To date, there
have been no terminations of mortgage servicing rights by any mortgage loan
owners because of the Company's failure to service the loans in accordance
with its contractual obligations.
49
<PAGE>
In order to track information on its servicing portfolio, the Company
utilizes a data processing system provided by Alltel, one of the largest
mortgage banking service bureaus in the United States. Management believes
that this system gives the Company sufficient capacity to support anticipated
expansion of its residential mortgage loan servicing portfolio.
The following table sets forth certain information regarding the composition
of the Company's mortgage servicing portfolio (excluding loans subserviced for
others) as of the dates indicated:
<TABLE>
<CAPTION>
AS OF
-------------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 31, JUNE 30,
1994 1995 1996 1997
------------ ------------ ------------ ----------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
FHA--insured/VA guaranteed
residential................ $ 28,630 $ 37,135 $ 318,145 $ 718,531
Conventional loans.......... 980,003 1,544,808 2,171,016 2,248,202
Other loans................. 33,152 14,442 15,875 13,846
---------- ---------- ---------- ----------
Total mortgage servicing
portfolio................ $1,041,785 $1,596,385 $2,505,036 $2,980,579
========== ========== ========== ==========
Fixed rate loans............ $ 669,933 $1,073,803 $1,986,599 $2,418,843
Adjustable rate loans....... 371,852 522,582 518,437 561,736
---------- ---------- ---------- ----------
Total mortgage servicing
portfolio................ $1,041,785 $1,596,385 $2,505,036 $2,980,579
========== ========== ========== ==========
</TABLE>
50
<PAGE>
The following table shows the delinquency statistics for the mortgage loans
serviced by the Company (excluding loans subserviced for others) compared with
national average delinquency rates as of the dates presented:
<TABLE>
<CAPTION>
AS OF
--------------------------------------------------------------------
DECEMBER 31, 1994 DECEMBER 31, 1995
-------------------------------- -----------------------------------
NATIONAL NATIONAL
COMPANY AVERAGE(1) COMPANY AVERAGE(2)
--------------------- ---------- --------------------- -------------
PERCENTAGE PERCENTAGE
NUMBER OF SERVICING PERCENTAGE NUMBER OF SERVICING PERCENTAGE
OF LOANS PORTFOLIO(5) OF LOANS OF LOANS PORTFOLIO(5) OF LOANS
-------- ------------ ---------- -------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
Loans delinquent
for:
30-59 days...... 648 3.28% 2.76% 843 3.37% 3.07%
60-89 days...... 223 1.13 0.67 195 0.78 0.70
90 days and
over............ 287 1.46 0.74 166 0.67 0.71
----- ---- ---- ----- ---- ----
Total
delinquencies... 1,158 5.87% 4.17% 1,204 4.82% 4.48%
===== ==== ==== ===== ==== ====
Foreclosures.... 236 1.20% 0.86% 277 1.11% 0.87%
===== ==== ==== ===== ==== ====
</TABLE>
<TABLE>
<CAPTION>
AS OF
-----------------------------------------------------
DECEMBER 31, 1996 JUNE 30, 1997(4)
------------------------------- ---------------------
NATIONAL
COMPANY AVERAGE(3) COMPANY
-------------------- ---------- ---------------------
PERCENTAGE PERCENTAGE
NUMBER OF SERVICING PERCENTAGE NUMBER OF SERVICING
OF LOANS PORTFOLIO(5) OF LOANS OF LOANS PORTFOLIO(5)
-------- ------------ ---------- -------- ------------
<S> <C> <C> <C> <C> <C>
Loans delinquent
for:
30-59 days...... 2,607 5.45% 3.04% 3,152 5.43%
60-89 days...... 667 1.40 0.71 679 1.17
90 days and
over............ 684 1.43 0.62 761 1.31
----- ---- ---- ----- ----
Total
delinquencies... 3,958 8.28% 4.37% 4,592 7.91%
===== ==== ==== ===== ====
Foreclosures.... 264 0.55% 1.03% 519 0.89%
===== ==== ==== ===== ====
</TABLE>
- ----
(1) Source: Mortgage Bankers Association, "Delinquency Rates of 1- to 4-Unit
Residential Mortgage Loans" (Seasonally Adjusted) (March 7, 1995 report).
(2) Source: Mortgage Bankers Association, "Delinquency Rates of 1- to 4-Unit
Residential Mortgage Loans" (Seasonally Adjusted) (March 14, 1996
report).
(3) Source: Mortgage Bankers Association, "Delinquency Rates of 1- to 4-Unit
Residential Mortgage Loans" (Seasonally Adjusted) (March 6, 1997 report).
(4) Data regarding National Average for June 30, 1997 not available as of the
date hereof.
(5) Delinquencies and foreclosures generally exceed the national average due
to high rates of delinquencies and foreclosures on certain bulk loan and
bulk servicing portfolios acquired by the Company at a discount. In the
fourth quarter of 1996, the Company acquired a seasoned servicing
portfolio which had higher delinquencies primarily in the 30 day
category. The higher delinquencies were considered in the pricing of the
portfolio.
51
<PAGE>
During periods of declining interest rates, prepayments of mortgage loans
increase as homeowners seek to refinance at lower interest rates, resulting in
a decrease in the value of the servicing portfolio. Mortgage loans with higher
interest rates are more likely to result in prepayments. The following table
sets forth certain information regarding the number and aggregate principal
balance of the mortgage loans serviced by the Company, including both fixed
and adjustable rate loans (excluding loans subserviced for others), at various
mortgage interest rates:
<TABLE>
<CAPTION>
AS OF
-------------------------------------------------------------------
DECEMBER 31, 1994 DECEMBER 31, 1995
-------------------------------- ----------------------------------
PERCENTAGE PERCENTAGE
AGGREGATE OF AGGREGATE AGGREGATE OF AGGREGATE
NUMBER PRINCIPAL PRINCIPAL NUMBER PRINCIPAL PRINCIPAL
RATE OF LOANS BALANCE BALANCE OF LOANS BALANCE BALANCE
---- -------- ---------- ------------ -------- ---------- --------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Less than 7.00%... 2,113 $ 162,274 15.58% 2,781 $ 218,914 13.71%
7.00%-- 7.99%.... 3,798 204,024 19.58 7,386 576,255 36.10
8.00%-- 8.99%.... 4,894 261,630 25.11 7,160 442,634 27.73
9.00%-- 9.99%.... 4,314 200,025 19.20 4,460 191,549 12.00
10.00%--10.99%.... 2,179 142,504 13.68 2,005 125,544 7.86
11.00%--11.99%.... 756 33,772 3.24 519 24,220 1.52
12.00% and over... 1,667 37,556 3.61 647 17,269 1.08
------ ---------- ------ ------ ---------- ------
Total........... 19,721 $1,041,785 100.00% 24,958 $1,596,385 100.00%
====== ========== ====== ====== ========== ======
</TABLE>
<TABLE>
<CAPTION>
AS OF
------------------------------------------------------------------
DECEMBER 31, 1996 JUNE 30, 1997
-------------------------------- --------------------------------
PERCENTAGE PERCENTAGE
AGGREGATE OF AGGREGATE AGGREGATE OF AGGREGATE
NUMBER PRINCIPAL PRINCIPAL NUMBER PRINCIPAL PRINCIPAL
RATE OF LOANS BALANCE BALANCE OF LOANS BALANCE BALANCE
---- -------- ---------- ------------ -------- ---------- ------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Less than 7.00%... 3,545 $ 145,720 5.82% 2,985 $ 159,762 5.36%
7.00%-- 7.99%.... 12,269 726,800 29.01 11,989 724,652 24.31
8.00%-- 8.99%.... 14,011 838,215 33.46 18,667 1,043,687 35.02
9.00%-- 9.99%.... 9,567 413,598 16.51 15,106 652,578 21.89
10.00%--10.99%.... 6,322 301,837 12.05 9,246 397,373 13.33
11.00%--11.99%.... 1,144 45,111 1.80 31 2,527 0.09
12.00% and over... 924 33,755 1.35 -- -- --
------ ---------- ------ ------ ---------- ------
Total........... 47,782 $2,505,036 100.00% 58,024 $2,980,579 100.00%
====== ========== ====== ====== ========== ======
</TABLE>
52
<PAGE>
Loan administration fees decrease as the principal balance on the
outstanding loan decreases and as the remaining time to maturity of the loan
shortens. The following table sets forth certain information regarding the
remaining maturity of the mortgage loans serviced by the Company (excluding
loans subserviced for others) as of the dates shown:
<TABLE>
<CAPTION>
AS OF
------------------------------------------------------------------------------------
DECEMBER 31, 1994 DECEMBER 31, 1995
----------------------------------------- -----------------------------------------
PERCENTAGE PERCENTAGE
PERCENTAGE UNPAID UNPAID PERCENTAGE UNPAID UNPAID
NUMBER OF NUMBER PRINCIPAL PRINCIPAL NUMBER OF NUMBER PRINCIPAL PRINCIPAL
MATURITY OF LOANS OF LOANS AMOUNT AMOUNT OF LOANS OF LOANS AMOUNT AMOUNT
-------- -------- ---------- ---------- ---------- -------- ---------- ---------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1-- 5 years..... 2,116 10.73% $ 43,818 4.21% 3,077 12.33% $ 60,496 3.79%
6--10 years..... 5,538 28.08 125,648 12.06 4,898 19.62 118,928 7.45
11--15 years..... 4,131 20.95 155,598 14.94 5,263 21.09 302,332 18.94
16--20 years..... 1,529 7.75 92,028 8.83 2,608 10.45 168,166 10.53
21--25 years..... 3,989 20.23 322,703 30.98 4,880 19.55 472,613 29.61
More than 25
years............ 2,418 12.26 301,990 28.98 4,232 16.96 473,850 29.68
------ ------ ---------- ------ ------ ------ --------- ------
Total........... 19,721 100.00% $1,041,785 100.00% 24,958 100.00% $1,596,385 100.00%
====== ====== ========== ====== ====== ====== ========== ======
<CAPTION>
AS OF
------------------------------------------------------------------------------------
DECEMBER 31, 1996 JUNE 30, 1997
----------------------------------------- -----------------------------------------
PERCENTAGE PERCENTAGE
PERCENTAGE UNPAID UNPAID PERCENTAGE UNPAID UNPAID
NUMBER OF NUMBER PRINCIPAL PRINCIPAL NUMBER OF NUMBER PRINCIPAL PRINCIPAL
MATURITY OF LOANS OF LOANS AMOUNT AMOUNT OF LOANS OF LOANS AMOUNT AMOUNT
-------- -------- ---------- ---------- ---------- -------- ---------- ---------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1-- 5 years..... 5,020 10.51% $ 77,136 3.08% 7,714 13.29% $ 95,994 3.22%
6--10 years..... 8,784 18.39 184,629 7.37 11,711 20.18 271,376 9.11
11--15 years..... 6,418 13.43 340,282 13.58 14,589 25.14 621,569 20.85
16--20 years..... 14,066 29.44 566,862 22.63 8,608 14.84 502,519 16.86
21--25 years..... 7,006 14.66 545,336 21.77 6,166 10.63 536,792 18.01
More than 25
years............ 6,488 13.57 790,791 31.57 9,236 15.92 952,329 31.95
------ ------ ---------- ------ ------ ------ ---------- ------
Total........... 47,782 100.00% $2,505,036 100.00% 58,024 100.00% 2,980,579 100.00%
====== ====== ========== ====== ====== ====== ========== ======
</TABLE>
<PAGE>
The following table sets forth the geographic distribution of the mortgage
loans (including delinquencies) serviced by the Company (excluding loans
subserviced for others) by state:
<TABLE>
<CAPTION>
AS OF
---------------------------------------------------------------------------------
DECEMBER 31, 1994 DECEMBER 31, 1995
---------------------------------------- ----------------------------------------
PERCENTAGE PERCENTAGE PERCENTAGE PERCENTAGE
OF OF OF OF
NUMBER AGGREGATE AGGREGATE TOTAL NUMBER AGGREGATE AGGREGATE TOTAL
OF PRINCIPAL PRINCIPAL DELINQS. OF PRINCIPAL PRINCIPAL DELINQS.
MATURITY LOANS BALANCE BALANCE BY STATE(1) LOANS BALANCE BALANCE BY STATE(1)
-------- ------ ---------- ---------- ----------- ------ ---------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
CA(2)............ 2,822 $ 343,135 32.94% 29.24% 4,948 $ 533,590 33.42% 39.04%
TX(2)............ 945 25,721 2.47 6.64 4,291 265,242 16.62 7.31
NY............... 943 36,831 3.54 7.49 532 32,620 2.04 3.49
MD............... 1,828 104,384 10.02 4.80 1,628 93,495 5.86 4.65
AZ............... 4,132 145,980 14.01 7.49 3,787 139,038 8.71 7.89
MA............... 353 21,625 2.08 3.53 890 83,593 5.24 2.82
Other(3)......... 8,698 364,109 34.94 40.81 8,882 448,807 28.11 34.80
------ ---------- ------ ------ ------ ---------- ------ ------
Total........... 19,721 $1,041,785 100.00% 100.00% 24,958 $1,596,385 100.00% 100.00%
====== ========== ====== ====== ====== ========== ====== ======
<CAPTION>
AS OF
--------------------------------------------------------------------------------
DECEMBER 31, 1996 JUNE 30, 1997
--------------------------------------- ----------------------------------------
PERCENTAGE PERCENTAGE PERCENTAGE PERCENTAGE
OF OF OF OF
NUMBER AGGREGATE AGGREGATE TOTAL NUMBER AGGREGATE AGGREGATE TOTAL
OF PRINCIPAL PRINCIPAL DELINQS. OF PRINCIPAL PRINCIPAL DELINQS.
MATURITY LOANS BALANCE BALANCE BY STATE(1) LOANS BALANCE BALANCE BY STATE(1)
-------- ------ ---------- ---------- ----------- ------ --------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
CA(2)............ 6,971 $ 680,075 27.15% 14.60% 7,899 $ 770,594 25.85% 11.52%
TX(2)............ 12,257 410,892 16.40 37.34 15,333 538,120 18.05 32.01
NY............... 2,396 214,228 8.55 3.87 2,238 202,280 6.79 2.37
MD............... 2,415 133,298 5.32 2.17 2,745 151,357 5.08 2.70
AZ............... 3,265 128,251 5.12 4.17 3,292 128,219 4.30 2.77
MA............... 953 81,170 3.24 1.37 904 75,872 2.55 1.05
Other(3)......... 19,525 857,122 34.22 36.48 25,613 1,114,137 37.38 47.58
------ ---------- ------ ------ ------ --------- ------ ------
Total........... 47,782 $2,505,036 100.00% 100.00% 58,024 2,980,579 100.00% 100.00%
====== ========== ====== ====== ====== ========= ====== ======
</TABLE>
- ----
(1) In terms of number of loans outstanding.
(2) The concentration in California and Texas does not reflect a business
strategy of the Company but rather the pursuit of specific opportunities.
(3) No other state accounted for greater than 5.0%, based on aggregate
principal balances, of the Company's mortgage loan servicing portfolio as
of June 30, 1997.
54
<PAGE>
ACQUISITION OF SERVICING RIGHTS. The Company acquires substantially all of
its mortgage servicing rights in the secondary market. The secondary market
for purchasing and selling mortgage servicing rights is inefficient in several
respects, including the lack of a centralized exchange for conducting trading,
the lack of definitive market prices, and the lack of conformity in modeling
assumptions. The industry expertise of United Financial's and Matrix
Financial's employees allows the Company to capitalize upon these
inefficiencies when acquiring mortgage servicing rights. Prior to completing
any such acquisition, the Company analyzes a wide range of characteristics of
each portfolio considered for purchase. This analysis includes projecting
revenues and expenses and reviewing geographic distribution, interest rate
distribution, loan-to-value ratios, outstanding balances, delinquency history,
and other pertinent statistics. Due diligence is performed either by Matrix
Financial's employees or a designated independent contractor on a
representative sample of the mortgages involved. The purchase price is based
on the present value of the expected future cash flow, calculated by using a
discount rate and loan prepayment assumptions that management considers to be
appropriate to reflect the risk associated with the investment.
SERVICING SALES. The Company periodically sells its purchased mortgage
servicing portfolios and generally sells all of its originated mortgage loan
servicing rights. Such sales increase revenue, as reflected in loan
origination income and gain on sale of servicing, and generate cash at the
time of sale, but reduce future servicing fee income. Originated mortgage
servicing rights were sold on a bulk and flow basis on loans having an
aggregate principal amount of $303.3 million and $119.9 million during the
year ended December 31, 1996 and the six months ended June 30, 1997,
respectively. Periodically, the Company may also sell purchased mortgage
servicing rights to restructure its portfolio or generate revenues. Purchased
mortgage servicing rights were sold on loans having an aggregate principal
amount of $646.0 million and $988.5 million during the year ended December 31,
1996 and the six months ended June 30, 1997, for net gains of $3.2 million and
$2.4 million, respectively.
The Company anticipates that it will continue to adhere to its policy of
selling substantially all of its originated mortgage servicing rights. The
Company also may sell purchased mortgage servicing rights. Management intends
to base decisions regarding future mortgage servicing sales upon the Company's
cash requirements, purchasing opportunities, capital needs, earnings and the
market price for mortgage servicing rights. During a quarter in which a sale
occurs, reported income will tend to be greater than if such sale had not
occurred during that quarter. Prices obtained for mortgage servicing rights
vary depending on servicing fee rates, anticipated prepayment rates, average
loan balances, remaining time to maturity, servicing costs, custodial escrow
balances, delinquency and foreclosure experience, and purchasers' required
rates of return.
In the ordinary course of selling mortgage servicing rights, the Company, in
accordance with industry standards, makes certain representations and
warranties to purchasers of mortgage servicing rights. If a loan defaults when
there has been a breach of representations or warranties and the Company has
no third-party recourse, the Company may become liable for the unpaid
principal and interest on defaulted loans. In such a case, the Company may be
required to repurchase the mortgage loan and bear any subsequent loss on the
loan. In connection with any purchases by the Company of mortgage servicing
rights, the Company also is exposed to liability to the extent that an
originator or seller of the servicing rights is unable to honor its
representations and warranties. During 1996 and the first six months of 1997,
the Company recognized losses of $150,000 and $259,000, respectively, on loan
repurchases resulting from a particular servicing portfolio purchased by the
Company. The Company does not anticipate any additional material losses with
respect to this or any other servicing portfolio due to breaches of
representations and warranties; however, there can be no assurance that the
Company will not experience such losses.
PURCHASE AND SALE OF BULK LOAN PORTFOLIOS
LOAN PURCHASES. In addition to its traditional mortgage loan origination and
servicing-related activities, the Company makes bulk purchases of mortgage
loans through Matrix Bank. The Company believes that its structure provides
advantages over its competitors in the purchase of bulk mortgage loan
packages. United Financial, through its networking within the mortgage banking
industry, is able to refer to Matrix Bank mortgage
55
<PAGE>
banking companies that are interested in selling mortgage loan portfolios. The
direct contacts reduce the number of portfolios that must be purchased through
competitive bid situations, thereby reducing the cost associated with the
acquisition of bulk mortgage loan portfolios.
Because the Company services mortgage loans for more than 200 private
investors, including banks, savings associations, and insurance companies, it
is presented with opportunities to purchase the underlying mortgages. In many
cases, the mortgage loans increase in value solely due to the increased
liquidity provided by uniting ownership of the mortgage servicing rights with
the underlying mortgage loans. As servicer, Matrix Financial possesses
information about the quality and performance history related to each of these
loans, and, in many cases, the Company acts as custodian for the legal and
credit documents on the underlying loans. With such information available, the
Company is in a position to negotiate advantageous pricing on loans, which
provides the Company an opportunity to resell the mortgage loans at a higher
price (an "arbitrage" opportunity). Controlling ownership of the mortgage
servicing and the underlying mortgage loan provides the Company maximum
arbitrage opportunity in a sale. During the year ended December 31, 1996 and
first six months of 1997, the Company made bulk purchases of approximately
$159.0 million and $208.5 million in mortgage loans, respectively.
TYPES OF LOANS PURCHASED. The Company reviews many loan portfolios for
prospective acquisition. The Company primarily focuses on acquiring seasoned
first lien priority loans secured primarily by one-to-four single family
residential properties valued at less than $350,000. The purchased loan
portfolios typically include both fixed and adjustable rate mortgage loans.
Mortgage loan portfolios are purchased from various sellers who, in some
cases, have originated the loans; but in most cases such sellers have acquired
the loan portfolios in bulk purchases.
The Company considers several factors prior to the purchase. Among others,
the Company considers the product type, the current loan balance, the current
interest rate environment, the seasoning of the mortgage loans, payment
histories, geographic location of the underlying collateral, price, the
current liquidity of the Company, and the product mix in its existing mortgage
loan portfolio.
In many cases, the mortgage loan portfolios that the Company acquires are
purchased at a discount to par. Some of the loans in these portfolios are
considered performing loans that have had payment problems in the past or have
had document deficiencies. These types of portfolios afford the Company an
arbitrage opportunity if the purchase discount on such portfolios accurately
reflects the additional risks associated with purchasing these types of loans.
Loan document deficiencies are identified in the due diligence process and, to
the extent practical, are cured by the Company prior to reselling the loans.
The Company also analyzes the payment history on each mortgage loan portfolio.
Many prior problems may be a result of inefficient servicing or may be
attributable to several servicing transfers of the loans over a short period
of time. Because many considerations may impact pricing or yield, each loan
package evaluated is priced based on the specific underlying loan
characteristics. The Company purchased fewer loan portfolios at a discount in
1996 and the first six months of 1997, versus historical levels. The higher
prices paid in the first six months of 1997 and the years ended 1996 and 1995
resulted primarily from the Company acquiring loan portfolios believed to have
better payment histories and fewer document deficiencies on average.
DUE DILIGENCE. The Company performs comprehensive due diligence on each
mortgage loan portfolio that the Company desires to purchase on a bulk basis.
These procedures consist of analyzing a representative sample of the mortgage
loans in the portfolio and are typically performed by Company employees, but
occasionally are outsourced to third party contractors. The underwriter takes
into account many factors in analyzing the sample of mortgage loans in the
subject portfolio, including the general economic conditions in the geographic
area or areas in which the underlying residential properties are situated, the
loan-to-value ratios on the underlying loans, the payment histories of the
borrowers, and other pertinent statistics. In addition, the underwriter
attempts to verify that each sample loan conforms to the standards for loan
documentation set by FNMA and FHLMC and, in cases where a significant portion
of the sample loans contains non-conforming documentation, the Company
assesses the additional risk involved in purchasing such loans. Once the
underwriting and due diligence process
56
<PAGE>
is complete, the Company categorizes each loan pool into one of four
categories. This process helps the Company determine whether the mortgage loan
portfolio meets the Company's investment criteria and, if it does, the range
of pricing that the Company feels is appropriate.
LOAN SALES. Substantially all of the mortgage loans in the Company's loan
portfolio are classified as held for sale. The Company continually monitors
the secondary market for purchases and sales of mortgage loan portfolios and
typically undertakes a sale of a particular loan portfolio held by the Company
in an attempt to "match" an anticipated bulk purchase of a particular mortgage
loan portfolio or to generate current period earnings and cash flow. To the
extent that the Company is unsuccessful in matching its purchases and sales of
mortgage loans, the Company may have excess capital at Matrix Bank, resulting
in less than optimum leverage and capital ratios. During the year ended
December 31, 1996 and the first six months of 1997, the Company made bulk
sales of approximately $79.0 million and $38.4 million in loans, for gains on
sale of bulk mortgage loans of $3.4 million and $964,000, respectively.
RESIDENTIAL MORTGAGE LOAN ORIGINATION
WHOLESALE ORIGINATIONS. The Company originates residential mortgage loans
primarily on a wholesale basis through Matrix Financial. For the year ended
December 31, 1996 and the six months ended June 30, 1997, Matrix Financial
originated a total of $583.3 million and $192.7 million in wholesale
residential mortgage loans, respectively.
Matrix Financial's source of mortgage loan originations is its wholesale
division, which originates mortgage loans through approved independent
mortgage loan brokers that qualify to participate in Matrix Financial's
program through a formal application process that includes an analysis of the
broker's financial condition and sample loan files, as well as the broker's
reputation, general lending expertise and references. As of June 30, 1997,
Matrix Financial had approved relationships with approximately 500 mortgage
loan brokers. From Matrix Financial's offices in Atlanta, Denver, and Phoenix,
the sales staff solicit mortgage loan brokers throughout the Southeastern and
Rocky Mountain areas of the United States for loan packages that meet Matrix
Financial's criteria. Mortgage loans submitted by brokers are funded after
being underwritten by Matrix Financial.
Mortgage loan brokers act as intermediaries between borrowers and Matrix
Financial in arranging mortgage loans. Matrix Financial, as an approved FNMA,
FHLMC, and GNMA seller/servicer, provides such brokers access to the secondary
market for the sale of mortgage loans that they otherwise cannot access
because they do not meet the applicable seller/servicer net worth
requirements. Matrix Financial attracts and maintains relationships with
mortgage loan brokers by offering a variety of services and products.
By concentrating on wholesale mortgage banking services through independent
mortgage loan brokers, Matrix Financial is able to originate mortgage loans in
a cost-effective manner. Historically, retail mortgage loan origination has
involved higher fixed overhead costs such as offices, furniture, computer
equipment, and telephones, as well as additional personnel costs such as sales
representatives and loan processors. By limiting the number of offices and
personnel needed to generate business, Matrix Financial has transferred the
overhead burden of mortgage origination to the independent mortgage loan
brokers that originate the loans. As a result, Matrix Financial can match its
origination costs more directly to loan origination volume so that a
substantial portion of its costs are variable rather than fixed.
In June 1996, the Company implemented a program to supplement its product
offerings made through its wholesale loan origination networks by adding
products tailored to borrowers who are unable or unwilling to obtain mortgage
financing from conventional mortgage sources. The borrowers who need this type
of loan product often have impaired or unsubstantiated credit histories and/or
unverifiable income and require or seek a high degree of personalized services
and swift response to their loan applications. As a result, these borrowers
generally are not averse to paying higher interest rates that the Company will
charge for this loan product type as compared with the interest rates charged
by conventional lending sources. The Company has established
57
<PAGE>
classifications with respect to the credit profiles of these borrowers. The
classifications range from A-minus through D depending upon a number of
factors, including the borrowers's credit history and employment status
classifications with respect to the credit profiles of these borrowers. To
date, the operations of the B/C Lending Division have not been material to
those of the Company.
RETAIL ORIGINATIONS. On a limited basis, and primarily in order to serve the
communities in which it operates, Matrix Bank originates residential loans on
a retail basis through its branches in Las Cruces, New Mexico and Sun City,
Arizona. In early 1997, the Bank opened a lending branch in Evergreen,
Colorado, which is anticipated to increase the amount of Matrix Bank's retail
originations. This location will primarily originate residential construction
loans and some commercial loans primarily in the local market place. It is
anticipated that the construction loans will be converted to permanent
mortgage loans and funded through Matrix Bank. The retail loans originated by
Matrix Bank consist of a broad range of residential (both at fixed and at
adjustable rates) and on a more limited basis, consumer loan products,
commercial real estate loans and commercial business loans.
In addition, in May 1997, the Company started a national call center as a
division of Matrix Financial. The call center will solicit the customers of
the Company under various loan programs that will be sold to third party
investors.
QUALITY CONTROL. The Company has a loan quality control process designed to
ensure sound lending practices and compliance with FNMA, FHLMC, and applicable
private investor guidelines. Prior to funding any wholesale or retail loan,
the Company performs a pre-funding quality control audit that consists of the
verification of a borrower's credit and employment and utilizes a detailed
checklist. Subsequent to funding, the Company on a monthly basis selects 10%
of all closed loans for a detailed audit conducted by its own personnel or a
third-party service provider. The quality control process entails performing a
complete underwriting review and independent reverification of all employment
information, tax returns, source of down payment funds, bank accounts, and
credit. Furthermore, 10% of the audited loans are chosen for an independent
field review and standard factual credit report. All discovered deficiencies
in these audits are reported to senior management of the Company to determine
trends and additional training needs. All resolvable issues are addressed and
cured by the Company. Any loans that fail to meet applicable investment
criteria of an investor are reported to such investor, which could result in a
requirement by the investor for the Company to repurchase the loan. The
Company also performs a quality control audit on all early payment defaults,
first payment defaults, and 60-day delinquent loans; the findings are reported
to the appropriate investor and/or senior management.
SALE OF LOAN ORIGINATIONS. The Company generally sells the loans that it
originates. In the future, however, it is anticipated that Matrix Bank will
hold for investment certain mortgage loans that it has originated. Under
ongoing programs established with FNMA and FHLMC, conforming conventional
loans may be sold on a cash basis or pooled by the Company and exchanged for
securities guaranteed by FNMA or FHLMC. These securities are then sold by
Matrix Financial and Matrix Bank to national or regional broker/dealers.
Mortgage loans sold to FNMA or FHLMC are sold on a nonrecourse basis so that
foreclosure losses are generally borne by FNMA or FHLMC and not by the
Company.
The Company also sells nonconforming mortgage loans on a nonrecourse basis
to other secondary market investors. These loans are typically first lien
mortgage loans that do not meet all of the agencies' underwriting guidelines,
and are originated instead for other institutional investors with whom the
Company has previously negotiated purchase commitments, and for which the
Company occasionally pays a fee. This practice would also apply to the sale of
residential mortgage loans originated through the Company's B/C Lending
Division, and its national call center.
The Company sells mortgage loans on a servicing-retained or servicing-
released basis. Certain purchasers of mortgage loans require that the loan be
sold to them servicing released. In all other cases the decision is left to
the Company. Generally, the Company sells conforming loans on a servicing-
retained basis and nonconforming loans on a servicing-released basis. See "--
Residential Loan Servicing Activities."
58
<PAGE>
In connection with the Company's mortgage loan originations and sales, the
Company makes customary representations and warranties, similar in nature and
scope to those provided in connection with sales of mortgage servicing rights.
To date, they have not resulted in any significant repurchases of loans by the
Company or any pending or threatened claims by the purchasers against the
Company. However, there can be no assurance that losses will not occur in the
future due to the representations and warranties issued.
The sale of mortgage loans may generate a gain or loss for the Company.
Gains or losses result primarily from two factors. First, the Company may make
a loan to a borrower at a price that is higher or lower than it would receive
if it immediately sold the loan in the secondary market. These price
differences occur primarily as a result of competitive pricing conditions in
the primary loan origination market. Second, gains or losses may result from
the changes in interest rates that result in changes in the market value of
the mortgage loans from the time that the price commitment is given to the
borrower until the time that the mortgage loan is sold to the investor.
In order to hedge against the interest rate risk resulting from these timing
differences, the Company historically has committed to sell all closed
originated mortgage loans held for sale and a portion of the mortgage loans
that are not yet closed but for which the interest rate has been established
("pipeline loans"). The Company adjusts its net commitment position daily
either by entering into new commitments to sell or by buying back commitments
to sell depending upon its projection of the portion of the pipeline loans
that it expects to close. These projections are based on numerous factors,
including changes in interest rates and general economic trends. The accuracy
of the underlying assumptions bears directly upon the effectiveness of the
Company's use of forward commitments and subsequent profitability. At June 30,
1997, the Company had approximately $56.0 million in pipeline and funded loans
offset with mandatory forward commitments of approximately $36.1 million and
non-mandatory forward commitments of approximately $10.8 million. At December
31, 1996, the Company had approximately $62.6 million in pipeline and funded
loans offset with mandatory forward commitments of approximately $49.1 million
and non-mandatory forward commitments of approximately $8.1 million. The
inherent value of the forward commitments is considered in the determination
of the lower of cost or market in valuing the Company's pipeline and funded
loans at any given time. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Comparison of Results of
Operations for the Years Ended December 31, 1996 and 1995--Loan Origination."
REAL ESTATE MANAGEMENT AND DISPOSITION SERVICES
USS, which began operations in June 1995, provides real estate management
and disposition services to customers across the United States. In addition to
the unaffiliated clients currently served by USS, Matrix Financial uses USS
exclusively in handling the disposition of its foreclosed real estate. Having
USS provide this service as opposed to Matrix Financial transforms the
disposition process into a revenue generator for the Company, since USS
typically collects a fee of 1% of the value of the foreclosed real estate from
the real estate broker involved in the sale transaction. USS is able to
provide this disposition service on an outsourced basis and at no additional
cost to the mortgage loan servicer, since USS collects its fee from the real
estate broker. USS is able to pass the cost of the disposition on to the real
estate broker because of the volume it generates. In addition, USS provides
limited collateral valuation opinions to clients such as FHLMC who are
interested in assessing the value of the underlying collateral on non-
performing mortgage loans, as well as to clients such as Matrix Bank and other
third-party mortgage loan originators and buyers interested in evaluating
potential bulk purchase of mortgage loans. To date, the operations of USS have
not been material to those of the Company.
SAVINGS BANK ACTIVITIES
With branches in Las Cruces, New Mexico and Sun City, Arizona, Matrix Bank
serves its local communities by providing a broad range of personal and
business depository services, offering residential loans, and providing, on a
more limited basis, commercial real estate, commercial business loans, and
consumer loans. In January 1997, a loan production branch for Matrix Bank was
established in Evergreen, Colorado that will primarily originate residential
real estate construction loans and commercial loans. For a discussion of the
59
<PAGE>
depository services offered by Matrix Bank, see "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Liquidity and
Capital Resources." For a discussion of the historical loan portfolio of the
Company, including that of Matrix Bank, see "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Asset and Liability
Management--Lending Activities."
In May 1996, a subsidiary of Matrix Bank, Sterling Finance, purchased
substantially all of the assets of a Denver-based originator and Seller of
sub-prime automobile retail installment sales contracts. On December 31, 1996,
Matrix Bank sold the fixed assets of Sterling Finance to a third-party buyer
and ceased operations. In conjunction with contractual obligations associated
with selling loans into the secondary market, Matrix Bank has repurchased
approximately $4.0 million of installment loans and repossessed automobiles
that Sterling Finance sold to outside investors, including the repurchase of
approximately $1.5 million in loans (plus $108,000 of accrued interest) in the
second quarter of 1997. These assets will be disposed of or serviced under the
direction of Matrix Bank. See "Regulation and Supervision--Federal Savings
Bank Operations--Regulation of Sub-Prime Automobile Lending."
SELF-DIRECTED TRUST ACTIVITIES
Sterling Trust provides administration services for self-directed individual
retirement accounts, qualified business retirement plans, personal custodial
accounts, and a variety of corporate trust and escrow arrangements. Sterling
Trust actively markets its services on a nationwide basis to the financial
services industry, specifically broker/dealers, registered representatives,
insurance agents, tax professionals, financial planners and advisors, and
investment product sponsors. At June 30, 1997, Sterling Trust was
administering assets in excess of $1.3 billion. Historically, approximately 6%
to 8% of the assets under administration are maintained in money market
accounts. Sterling Trust retains no discretion with respect to the investment
of trust assets, and executes no investment transaction until so instructed by
the client or the client's designated representative. In February 1997,
Sterling Trust moved approximately $80.0 million of money market balances of
such trust assets from a third party institution to Matrix Bank.
COMPETITION
The industries in which the Company competes are highly competitive. The
Company competes for the acquisition of mortgage loan servicing rights and
bulk loan portfolios mainly with mortgage companies, savings associations,
commercial banks, and other institutional investors. The Company believes that
it has competed successfully for the acquisition of mortgage loan servicing
rights and bulk loan portfolios by relying on the advantages provided by its
unique corporate structure and the secondary marketing expertise of the
employees in each Subsidiary.
Competition in mortgage loan and mortgage servicing rights brokerage and
consulting arises mainly from other mortgage banking consulting firms,
national and regional investment banking companies, and accounting firms.
Management believes that the distinction among market participants is based
primarily on customer service. United Financial competes for its brokerage and
consulting activities by recruiting qualified and experienced sales people, by
developing innovative sales techniques, by providing financing opportunities
to its customers through its affiliation with Matrix Bank, and by seeking to
provide a higher level of service than is furnished by its competitors.
Competition in originating mortgage loans arises mainly from other mortgage
companies, savings associations, and commercial banks. The distinction among
market participants is based primarily on price and, to a lesser extent, the
quality of customer service and name recognition. Aggressive pricing policies
of the Company's competitors, especially during a declining period of mortgage
loan originations, could in the future result in a decrease in the Company's
mortgage loan origination volume and/or a decrease in the profitability of the
Company's loan originations, thereby reducing the Company's revenues and net
income. Many of the nation's largest mortgage companies, savings associations,
and commercial banks have a significant number of branch offices in areas in
which the Company operates. The Company competes for loans by offering
competitive
60
<PAGE>
interest rates and product types, and by seeking to provide a higher level of
personal service to mortgage brokers and borrowers than is furnished by
competitors. However, the Company does not have a significant market share of
the lending markets in which it conducts operations.
Management believes that Matrix Bank's most direct competition for deposits
comes from local financial institutions. The distinction among market
participants is based primarily on price and, to a lesser extent, the quality
of customer service and name recognition. Matrix Bank's cost of funds
fluctuates with general market interest rates. During certain interest rate
environments, additional significant competition for deposits may be expected
from corporate and governmental debt securities, as well as money market
mutual funds. Matrix Bank competes for conventional deposits by emphasizing
quality of service, extensive product lines, and competitive pricing.
Competition in brokering and consulting arises mainly from other mortgage
banking consulting firms and national and regional investment banking and
accounting firms. Management believes that the distinction among market
participants is based primarily on customer service. United Financial competes
for its brokering and consulting activities by recruiting qualified and
experienced sales people, by developing innovative sales techniques, by
providing financing opportunities to its customers through its affiliation
with Matrix Bank and by seeking to provide a higher level of service than is
furnished by its competitors.
The Company competes for the acquisition of mortgage loan servicing rights
and bulk loan portfolios mainly with mortgage companies, savings associates,
commercial banks and other institutional investors. The Company believes that
it has competed successfully for the acquisition of mortgage loan servicing
rights and bulk loan portfolios by relying on the advantages provided by its
unique corporate structure and the secondary marketing expertise of the
employees in each Subsidiary.
Sterling Trust faces considerable competition in all of the services and
products which it offers. The main competition comes from the other self-
directed trust companies. However, Sterling Trust also faces competition from
other trust companies and trust divisions of other financial institutions.
Sterling Trust's niche has been, and will continue to be providing high
quality customer service and servicing niche retirement products. In an effort
to increase market share, Sterling Trust will endeavor to provide superior
service, expand its marketing efforts, provide competitive pricing, and
continue to diversify its product mix.
EMPLOYEES
At June 30, 1997, the Company had 323 employees. Management believes that
its relations with its employees are good. Neither Matrix Capital nor any of
the Subsidiaries is a party to any collective bargaining agreement.
PROPERTIES
The executive and administrative offices of the Company, United Financial,
USS and UCM are located at 1380 Lawrence Street, Suite 1410, Denver, Colorado
80204. The lease on these premises extends through January 1999 and the
current annual rent is approximately $120,000. The Company also owns a
building in Phoenix that houses the majority of Matrix Financial's operations.
This building was purchased by the Company in 1994 and is subject to third-
party mortgage indebtedness. See Note 4 to the Consolidated Financial
Statements included elsewhere herein. The Company utilizes approximately
18,000 of the 30,000 square feet in this building, and the balance is leased
to an affiliated company at current market rates. The Company also leases two
smaller office facilities in Atlanta and Denver, where Matrix Financial
conducts its loan origination activities.
Matrix Bank owns an approximately 30,000 square foot building in Las Cruces,
New Mexico. Of this 30,000 square feet, approximately 9,200 square feet serve
as the headquarters for Matrix Bank. Substantially all of the remaining
footage is rented to unaffiliated third-party tenants at market rates. Matrix
Bank also owns a newly opened 1,800 square foot detached branch in Las Cruces
and an approximately 3,000 square foot branch
61
<PAGE>
in Sun City, Arizona. In January, 1997, Matrix Bank opened an approximately
1,500 square foot loan origination branch in Evergreen, Colorado. The lease on
the Evergreen property provides for a one-year term at an annual cost of
$24,000.
Sterling Trust occupies approximately 11,300 square feet in Waco, Texas,
under a lease agreement that is in place until June 30, 2001, at a monthly
rent payment of $13,553. The lease agreement provides for renewal options and
allocation of certain expenses the lessee would reimburse over a specified
amount during the life of the lease.
First Matrix is located in Arlington, Texas and operates in a 1,446 square
foot office suite. The current lease requires a monthly payment of $1,265 and
matures on April 30, 1999.
The Company believes that all of its present facilities are adequate for its
current needs and that additional space is available for future expansion upon
acceptable terms.
LEGAL PROCEEDINGS
United Financial is a defendant in a lawsuit entitled Douglas County Bank &
Trust Co. v. United Financial, Inc., that was commenced on or about May 23,
1997 in the United States District Court for the District of Nebraska. In the
action, the plaintiff-buyer alleges that United Financial, as broker for the
seller, made false representations regarding the GNMA certification of certain
mortgage pools the servicing rights of which were offered for sale in a
written offering. The plaintiff further alleges that it relied on United
Financial's representations in purchasing the servicing rights from the
seller. The plaintiff seeks recovery of (i) the deposit paid to the seller in
connection with the purchase thereof in the amount of $147,000; (ii) $1.4
million that the plaintiff claims it paid GNMA to settle a dispute regarding
the certification of the mortgage pools; and (iii) approximately $1.4 million
in lost profits. The Company believes that it has defenses to this lawsuit;
however, no assurances can be given that an adverse judgment will not be
rendered or that such a judgment would not have a material adverse effect on
the Company's consolidated financial condition, results of operations, or cash
flows.
Matrix Bank is a defendant in a lawsuit entitled HLC, Inc. v. Matrix Capital
Bank, that was commenced on or about June 9, 1997 in the United States
District Court for the Middle District of Tennessee. The plaintiff alleges
that Matrix Bank breached an agreement pursuant to which Matrix Bank would act
as an issuing bank in connection with a program allegedly developed by the
plaintiff relating to the issuance of credit cards. The plaintiff agreed to
perform, among other things, network marketing services in an attempt to
enroll network marketing companies in the program, who in turn would solicit
credit card applications from consumers. The plaintiff claims that Matrix Bank
failed to comply with its contractual obligations in performing certain
issuing and servicing functions in connection with the credit card accounts.
As a result, the plaintiff is seeking to recover damages for lost profits and
damage to its reputation in an amount in excess of $10 million. The Company
believes that it has defenses to this lawsuit; however, no assurances can be
given that an adverse judgment will not be rendered or that such a judgment
would not have a material adverse effect on the Company's consolidated
financial condition, results of operations, or cash flows.
The Company is involved from time to time in routine litigation incidental
to its business. However, other than described above, the Company believes
that it is not a party to any material pending litigation that, if decided
adversely to the Company, would have a significant adverse effect on the
Company's consolidated financial condition, results of operations or cash
flows.
62
<PAGE>
SUPERVISION AND REGULATION
Set forth below is a brief description of various laws and regulations
affecting the operations of Matrix Capital and its operating Subsidiaries. The
description of laws and regulations contained herein does not purport to be
complete and is qualified in its entirety by reference to applicable laws and
regulations. Any change in applicable laws, regulations or regulatory policies
may have a material effect on the business, operations, and prospects of the
Company.
MATRIX CAPITAL
Matrix Capital is a unitary thrift holding company within the meaning of the
Home Owners' Loan Act of 1933, as amended ("HOLA"). As such, Matrix Capital
has registered with the OTS and is subject to OTS regulation, examination,
supervision, and reporting requirements. In addition, the OTS has enforcement
authority over Matrix Capital and its non-savings institution subsidiaries.
Among other things, this authority permits the OTS to restrict or prohibit
activities that are determined to be a serious risk to Matrix Bank. In
addition, Matrix Bank must notify the OTS at least 30 days before making any
distribution to Matrix Capital.
The HOLA prohibits a thrift holding company, directly or indirectly through
one or more subsidiaries, from (i) acquiring another savings institution or
holding company thereof, without prior written approval of the OTS, (ii)
acquiring or retaining, with certain exceptions, more than 5% of a
nonsubsidiary savings institution, a nonsubsidiary holding company, or a
nonsubsidiary company engaged in activities other than those permitted by the
HOLA, or (iii) acquiring or retaining control of a savings institution that is
not federally insured. In evaluating applications by holding companies to
acquire savings institutions, the OTS must consider the financial and
managerial resources and future prospects of the company and institution
involved, the effect of the acquisition on the risk to the insurance funds,
the convenience and needs of the community, and competitive factors.
As a unitary thrift holding company, Matrix Capital generally is not
restricted under existing laws as to the types of business activities in which
it may engage, provided that Matrix Bank continues to be a "qualified thrift
lender" under HOLA ("QTL"). Upon any nonsupervisory acquisition by Matrix
Capital of another savings association or savings bank that meets the QTL test
and is deemed to be a savings institution by OTS, Matrix Capital would become
a multiple thrift holding company (if the acquired institution is held as a
separate subsidiary) and would be subject to extensive limitations on the
types of business activities in which it could engage. HOLA limits the
activities of a multiple thrift holding company and its uninsured institution
subsidiaries primarily to activities permissible for bank holding companies
under Section 4(c)(8) of the Bank Holding Company Act of 1956, as amended (the
"BHC Act"), subject to the prior approval of the OTS, and activities
authorized by OTS regulation.
Legislation has been proposed that would impose limits on the nonbanking
activities of companies that acquire savings associations. It is anticipated
that Matrix Capital's holding company status would be "grandfathered" under
such legislation, but there can be no assurance that Matrix Capital would be
exempt from such limits. Furthermore, any available grandfathering might not
continue to be available to Matrix Capital as a result of a possible merger of
the federal banking agencies. Several proposals have been introduced in
Congress over the past several years with increasing frequency and interest in
such a merger. If the OTS and Office of the Comptroller of the Currency were
merged, as one proposal would require, the federal thrift charter would
actually be eliminated. If adopted, such a proposal would require that Matrix
Bank become a national bank and would subject it to regulation as such. One
effect of such a requirement would be that Matrix Capital could not engage in
activities not permitted for national banks. In addition, the ability to
branch interstate would become subject to the restrictions of the Riegle-Neal
Interstate Banking and Branching Efficiency Act of 1994 ("Riegle Act").
Accordingly, any out-of-state branches of Matrix Bank in existence upon the
effectiveness of such a proposal that are not permissible under the Riegle Act
and, if not grandfathered, could be required to be divested. There are also
some benefits to such a charter conversion. For example, Matrix Bank would
not, under regulations currently applicable to national banks, be subject to
the QTL test described below.
63
<PAGE>
Federal law generally provides that no company may acquire control of a
federally-insured savings institution without obtaining the approval of the
OTS. Such acquisitions of control may be disapproved if it is determined,
among other things, that the acquisition would substantially lessen
competition or the financial and managerial resources and further prospects of
the acquiror and savings institution involved or that the acquisition would be
detrimental to the institution or present enhanced insurance risk to the SAIF
or Bank Insurance Fund ("BIF").
MORTGAGE BANKING OPERATIONS
The rules and regulations applicable to the Company's mortgage banking
operations establish underwriting guidelines that, among other things, include
anti-discrimination provisions, require provisions for inspections,
appraisals, and credit reports on prospective borrowers, and fix maximum loan
amounts. Moreover, lenders, such as the Company, are required annually to
submit to the HUD, FNMA, and FHLMC audited financial statements, and each such
regulatory entity maintains its own financial guidelines for determining net
worth and eligibility requirements. The Company's affairs are also subject to
examination by HUD, FNMA, and FHLMC at any time to assure compliance with the
applicable regulations, policies and procedures. Mortgage loan origination
activities are subject to, among others, the Equal Credit Opportunity Act,
Federal Truth-in-Lending Act, and the Real Estate Settlement Procedures Act of
1974, as amended, and the regulations promulgated thereunder that prohibit
discrimination and require the disclosure of certain basic information to
mortgagors concerning credit terms and settlement costs.
Additionally, there are various state and local laws and regulations
affecting the Company's operations. The Company is licensed in those states in
which it does business requiring such a license where the failure to be
licensed would have a material adverse effect on the Company, its business, or
its assets. Conventional mortgage operations also may be subject to state
usury statutes.
FEDERAL SAVINGS BANK OPERATIONS
BUSINESS ACTIVITIES. The activities of savings associations are governed by
HOLA and, in certain respects, the Federal Deposit Insurance Act of 1933, as
amended ("FDI Act"). The HOLA and the FDI Act were amended by the Financial
Institutions Reform, Recovery and Enforcement Act of 1989, as amended
("FIRREA") and the Federal Deposit Insurance Corporation Act of 1991
("FDICIA"). FIRREA was enacted to resolve issues relating to problem
institutions, including thrifts, establish a new thrift insurance fund,
reorganize the regulatory structure applicable to savings associations, and
impose bank-like standards on savings associations. FDICIA, among other
things, requires that federal banking agencies intervene promptly when a
depository institution experiences financial difficulties, mandates the
establishment of a risk-based deposit insurance assessment system, and
requires imposition of numerous additional safety and soundness operational
standards and restrictions. Both FIRREA and FDICIA contain provisions
affecting numerous aspects of the operations and regulations of federally-
insured savings associations and empower the OTS and the FDIC, among other
agencies, to promulgate regulations implementing their provisions.
Provisions of the federal banking statutes, as amended by FIRREA and FDICIA,
among other matters (i) restrict the use of brokered deposits by troubled
savings associations that are not well capitalized, (ii) prohibit the
acquisition of any corporate debt security that is not rated in one of the
four highest rating categories, (iii) subject to OTS waiver, restrict the
aggregate amount of loans secured by non-residential real estate property to
400% of Tier 1 capital, (iv) permit savings and loan holding companies to
acquire up to 5% of the voting shares of non-subsidiary savings associations
or savings and loan holding companies without prior approval, (v) permit bank
holding companies to acquire healthy savings associations, (vi) require the
federal banking agencies to establish by regulation standards for extensions
of credit secured by real estate, and (vii) restrict transactions between a
savings association and its affiliates.
LOANS TO ONE BORROWER. Under the HOLA, savings associations are generally
subject to the national bank limits on loans to one borrower. Generally, a
savings institution may not make a loan or extend credit to a single
64
<PAGE>
or related group of borrowers in excess of 15% of the institution's unimpaired
capital and surplus. An additional amount may be lent, equal to 10% of
unimpaired capital and surplus, if such loan is fully secured by readily
marketable collateral, which is defined to include certain securities and
bullion, but generally does not include real estate.
QTL TEST. The HOLA requires savings associations to meet a QTL test. Under
recent legislation and application regulations, any savings institution is a
QTL if (i) it qualifies as a domestic building and loan association under
Section 7701(a)(19) of the Internal Revenue Code (which generally requires
that at least 60% of the institution's assets constitute loans secured by
residential real estate or deposits, educational loans, cash or certain
governmental obligations) or (ii) at least 65% of its "portfolio assets"
(total assets less (a) specified liquid assets up to 20% of total assets, (b)
intangibles, including goodwill, and (c) the value of property used to conduct
business) consist of certain "qualified thrift investments" (primarily
residential mortgages and related investments, including certain mortgage-
backed and related securities) on a monthly basis in nine out of every 12
months.
A savings association that fails the QTL test for four or more months out of
the prior 12-month period must either convert to a bank charter or operate
under certain restrictions. If the savings association does not convert to a
bank charter, generally it will be prohibited from: (i) making any new
investment or engaging in any new activity not permissible for a national
bank; (ii) paying dividends not permissible under national bank statutes and
regulations; (iii) obtaining any new advances from any FHLB; and (iv)
establishing any new branch office in a location not permissible for a
national bank with its head office located in the association's home state.
Any bank chartered as a result of failure of the QTL, test must pay exit and
entrance fees as a consequence of leaving the SAIF and entering the BIF as
further described below. In addition, beginning three years after the
association fails the QTL test, the association will be prohibited from
engaging in any activity or retaining any investment not permissible for a
national bank and will have to repay any outstanding advances from FHLB as
promptly as possible consistent with safety and soundness. One year from the
date the association fails the QTL test, any holding company that controls the
association must register as and be deemed to be a bank holding company,
subject to the restrictions and limitations of the BHC Act, and to the
regulations of the Federal Reserve. As of June 30, 1997, Matrix Bank
maintained approximately 96% of its portfolio assets in qualified thrift
investments and, therefore, met the QTL test. Consequently, Matrix Capital is
able to retain its savings and loan holding company status.
LIMITATION ON CAPITAL DISTRIBUTIONS. OTS regulations impose limitations upon
all capital distributions by savings associations, such as cash dividends,
payments to repurchase or otherwise acquire its shares, payments to
shareholders of another institution in a cash-out merger and other
distributions charged against capital. The rule establishes three tiers of
associations that are based primarily on an institution's capital level. An
institution that has capital which is equal to or exceeds all fully phased-in
capital requirements before and after a proposed capital distribution ("Tier 1
Institution") and has not been advised by the OTS that it is in need of more
than normal supervision, could, after prior notice but without the approval of
the OTS, make capital distributions during a calendar year equal to the
greater of: (i) 100% of its net income to date during the calendar year plus
the amount that would reduce by one-half its "surplus capital ratio" (the
excess capital over its fully phased-in capital requirements) at the beginning
of the calendar year or (ii) 75% of its net income for the previous four
quarters. Any additional capital distributions would require prior regulatory
approval. If Matrix Bank's capital falls below its fully phased-in requirement
or the OTS notifies it that it is in need of more than normal supervision,
Matrix Bank's ability to make capital distributions could be restricted. In
addition, the OTS could prohibit a proposed capital distribution by any
institution, that would otherwise be permitted by the regulation, if the OTS
determines that such distribution would constitute an unsafe or unsound
practice. At June 30, 1997, Matrix Bank was a Tier 1 Institution.
LIQUIDITY. Matrix Bank must maintain an average daily balance of liquid
assets and short-term liquid assets equal to a monthly average of not less
than specified percentages of its net withdrawable deposit accounts plus
short-term borrowings. This liquidity requirement may be changed from time to
time by the OTS. Monetary
65
<PAGE>
penalties may be imposed for failure to meet these liquidity requirements.
Since its acquisition by Matrix Capital, Matrix Bank has never failed to meet
its liquidity requirements.
ASSESSMENTS. Savings associations must pay assessments to the OTS to fund
the operations of the OTS. The general assessment, currently assessed on a
semi-annual basis, is computed upon the savings institution's total assets,
including consolidated subsidiaries, as reported in the association's latest
quarterly thrift financial report. The assessments paid by Matrix Bank for the
years ended December 31, 1995 and 1996 and for the six months ended June 30,
1997 totaled $155,000, $635,000, and $22,000, respectively.
BRANCHING. In April 1992, the OTS amended its rule on branching by federally
chartered savings associations to permit nationwide branching to the extent
allowed by federal statute. This permits federal savings associations with
interstate networks to diversify their loan portfolios and lines of business.
The OTS authority preempts any state law purporting to regulate branching by
federal savings associations.
COMMUNITY REINVESTMENT. Under the Community Reinvestment Act ("CRA"), as
implemented by OTS regulations, a savings institution has a continuing and
affirmative obligation consistent with its safe and sound operation to help
meet the credit needs of its entire community, including low and moderate
income neighborhoods. The CRA does not establish specific lending requirements
or programs for financial associations nor does it limit an institution's
discretion to develop the types of products and services that it believes are
best suited to its particular community. The CRA requires the OTS, in
connection with its examination of a savings institution, to assess the
institution's records of meeting the credit needs of its community and to take
such record into account in evaluating certain applications by such
institution. The CRA also requires all associations to publicly disclose their
CRA rating. Matrix Bank received a CRA rating of "satisfactory" in its most
recent examination.
INSURANCE OF ACCOUNTS AND REGULATION BY THE FDIC. Matrix Bank is a member of
the SAIF, which is administered by the FDIC. Savings deposits are insured up
to $100,000 per insured member (as defined by law and regulation) by the FDIC.
Such insurance is backed by the full faith and credit of the United States. As
insurer, the FDIC imposes deposit insurance assessments and is authorized to
conduct examinations of, and to require reporting by, the FDIC-insured
institutions. It also may prohibit any FDIC-insured institution from engaging
in any activity the FDIC determines by regulation or order to pose a serious
risk to the FDIC. The FDIC also may initiate enforcement actions against
savings associations and may terminate the deposit insurance if it determines
that the institution has engaged or is engaging in unsafe or unsound
practices, or is in an unsafe or unsound condition.
FDICIA required the FDIC to implement a risk-based deposit insurance
assessment system. Pursuant to this requirement, the FDIC has adopted a risk-
based assessment system under which all SAIF-insured depository associations
are placed into one of nine categories and assessed insurance assessments
based upon their level of capital and supervisory evaluation. Under this
system, associations classified as well capitalized and considered healthy pay
the lowest assessment while associations that are less than adequately
capitalized and considered of substantial supervisory concern pay the highest
assessment. In addition, under FDICIA, the FDIC may impose special assessments
on SAIF members to repay amounts borrowed from the United States Treasury or
for any other reason deemed necessary by the FDIC. The FDIC may increase
assessment rates, on a semiannual basis, if it determines that the reserve
ratio of the SAIF will be less than the designated reserve ratio of 1.25% of
SAIF insured deposits. In setting these increased assessments, the FDIC must
seek to restore the reserve ratio to that designated reserve level, or such
higher reserve ratio as established by the FDIC. Matrix Bank's current
assessment is .063% of deposits, which is the lowest rate.
By contrast, financial institutions that are members of the BIF, which has
higher reserves, experienced lower deposit insurance assessments. The
disparity in deposit insurance assessments between SAIF and BIF members was
exacerbated by the statutory requirement that both the SAIF and the BIF funds
be recapitalized to a 1.25% reserved deposits ratio and that a portion of most
thrift's deposit insurance assessments be used to service bonds issued by the
Financial Corporation ("FICO"). BIF reached the required reserve ratio in
1995. As a result,
66
<PAGE>
financial institutions that have deposits insured by the SAIF were subject to
a potential competitive disadvantage as compared to BIF members.
To address this rate disparity, on September 30, 1996, the President signed
legislation intended to enable SAIF to reach the designated reserve ratio. The
legislation provided for a one-time special assessment of .657% to be imposed
upon all SAIF deposits as of March 31, 1995. Based on the Company's SAIF
deposits as of March 31, 1995, the cost of the one-time special assessment was
approximately $450,000 (pre-tax). This amount was accrued in the third quarter
of 1996 and paid in the fourth quarter of 1996.
The legislation also provides for BIF members to service a growing portion
of the FICO bond payments. Until January 1, 2000, annual assessments of .013%
of BIF deposits and .064% of SAIF deposits will service the annual payments
due on the FICO bonds. Accordingly, Matrix Bank's portion of the payment on
the FICO bonds is .064% of the deposits. The legislation provides for
subsequent full pro rata sharing of FICO bond payments by BIF and SAIF
institutions. The legislation called for a merger of the SAIF and BIF as of
January 1, 1999, but only if the thrift charter has been eliminated.
The financing corporations created by FIRREA and the Competitive Equality
Banking Act of 1987 are also empowered to assess premiums on savings
associations to help fund the liquidation or sale of troubled associations.
Such premiums cannot, however, exceed the amount of SAIF assessments and are
paid in lieu thereof.
BROKERED DEPOSITS. Under the FDIC regulations governing brokered deposits,
well-capitalized associations are not subject to brokered deposit limitations,
while adequately capitalized associations are subject to certain brokered
deposit limitations and undercapitalized associations may not accept brokered
deposits. Matrix Bank is considered to be a well- capitalized association.
Although Matrix Bank does not currently accept brokered deposits, it may do so
in the future to allow for the desired growth of Matrix Bank. See "--Capital
Requirements."
FINANCIAL MANAGEMENT REQUIREMENTS. FDICIA also imposes new financial
reporting requirements on all depository associations with assets of more than
$500 million, the management of such associations, and the independent
auditors of such associations, and establishes rules for the composition,
duties, and authority of such associations' audit committees and boards of
directors.
TRANSACTIONS WITH RELATED PARTIES. Matrix Bank's authority to engage in
transactions with related parties or affiliates or to make loans to certain
insiders is limited by the Federal Reserve Act of 1913, as amended. In
addition, savings associations may not lend to any affiliate that is engaged
in activities that are not permissible for bank holding companies under the
BHC Act. Further, no savings institution may purchase the securities of any
affiliate other than a subsidiary.
ENFORCEMENT. Under the FDI Act, the OTS has primary enforcement
responsibility over savings associations such as Matrix Bank and has the
authority to bring enforcement action against all "institution-related
parties," including shareholders, attorneys, appraisers, and accountants who
knowingly or recklessly participate in wrongful action that caused or is
likely to cause more than a minimal financial loss to, or a significant
adverse effect on an insured depository institution. Civil penalties cover a
wide range of violations and actions and range up to $25,000 per day unless a
finding of reckless disregard is made, in which case fines of up to $1 million
per day are permitted. Criminal penalties for most financial institution
crimes include fines of up to $1 million and imprisonment for up to 30 years.
In addition, regulators have substantial discretion to impose enforcement
action on an institution that fails to comply with its regulatory
requirements, particularly with respect to the capital requirements. Possible
enforcement action ranges from the imposition of a capital plan and capital
directive to receivership, conservatorship or the termination of deposit
insurance. Under the FDI Act, the FDIC has the authority to recommend to the
Director of the OTS that enforcement action be taken with respect to a
particular savings institution. If action is not taken by the Director, the
FDIC has authority to take such action under certain circumstances. Matrix
Bank is not presently subject to any of the foregoing enforcement actions.
67
<PAGE>
STANDARDS FOR SAFETY AND SOUNDNESS. FDICIA requires each federal banking
agency to prescribe for all insured depository institutions and, to some
extent, their holding companies standards relating to internal controls,
information systems and audit systems, loan documentation, credit
underwriting, interest rate risk exposure, asset growth, and compensation,
fees and benefits, and such other operational and managerial standards as the
agency deems appropriate. In addition, the federal banking regulatory agencies
are required to prescribe by regulation: (i) maximum classified assets to
capital ratios; (ii) minimum earnings sufficient to absorb losses without
impairing capital; (iii) to the extent feasible, a minimum ratio of market
value to book value for publicly traded shares of depository institutions or
the depository institution holding companies; (iv) standards for extensions of
credit secured by real estate or made for the purpose of financing the
construction of improvements on real estate; and (v) such other standards
relating to asset quality, earnings, and valuation as the agency deems
appropriate. Finally, each federal banking agency is required to prescribe
standards for employment contracts and other compensation arrangements of
executive officers, employees, directors, and principal shareholders of
insured depository associations that would prohibit compensation, benefits and
arrangements that are excessive or that could lead to a material financial
loss for the institution. If an insured depository institution or its holding
company fails to meet any of the standards described above, it must submit to
the appropriate federal banking agency a plan specifying the steps that will
be taken to cure the deficiency. If an institution fails to submit an
acceptable plan or fails to implement the plan, the appropriate federal
banking agency will require the institution or holding company to correct the
deficiency and, until corrected, may impose restrictions on the institution or
the holding company, including any of the restrictions applicable under the
prompt corrective action provisions of FDICIA. See "--Prompt Corrective
Action."
CAPITAL REQUIREMENTS. FDICIA added a provision establishing "capital
categories" in order to facilitate prompt corrective action by the federal
banking regulators. The purpose of this amendment is to impose more scrutiny
and restrictions on institutions, and to prohibit savings institutions from
making capital distributions or paying certain management fees that would
leave the institution undercapitalized. FDICIA established five capital
categories for this purpose:
. An institution will be deemed to be well-capitalized if it (i) has a
total risk-based capital ratio of 10% or more, (ii) has a Tier 1 risk-
based capital ratio of 6% or more, and (iii) has a leverage ratio of 5%
or more.
. An institution will be deemed to be adequately capitalized if it (i) has
a total risk-based capital ratio of at least 8%, (ii) has a Tier 1 risk-
based capital ratio of at least 4%, and (iii) subject to certain
exceptions, has a leverage ratio of at least 4%.
. An institution will be deemed to be undercapitalized if it (i) has a
total risk-based capital ratio of less than 8%, (ii) has a Tier 1 risk-
based capital ratio that is less than 4%, or (iii) subject to certain
exceptions, has a leverage ratio of less than 4%.
. An institution will be deemed to be significantly undercapitalized if it
(i) has a total risk-based capital ratio of less than 6%, (ii) has a Tier
1 risk-based capital ratio of less than 3%, or (iii) has a leverage ratio
of less than 3%.
. An institution will be deemed to be critically undercapitalized if it has
a ratio of tangible equity to total assets of less than 2%.
The Congress of the United States adopted a bill that did not become law,
but that would require federal savings banks to convert to national banks. In
the event of such a conversion, subject to limited grandfathering, thrift
holding companies, such as Matrix Capital, would become regulated by the
Federal Reserve. The Federal Reserve requires bank holding companies to
maintain a leverage ratio of 5.0% with the aggregate amount of purchased
mortgage servicing rights not to exceed 50.0% of Tier 1 capital (the numerator
of the leverage ratio). Had Matrix Capital been subject to the Federal Reserve
Board's capital regulations, its consolidated leverage ratio would have been
approximately 4.7% at June 30, 1997 (assuming no other adjustments). There is
considerable uncertainty regarding whether such legislation will be adopted.
68
<PAGE>
PROMPT CORRECTIVE ACTION. FDICIA establishes a system of prompt corrective
action to resolve the problem of undercapitalized associations. Under that
system, the banking regulators must take certain supervisory actions against
undercapitalized associations, the severity of which depends upon the
institution's level of capitalization. Generally, subject to a narrow
exception, FDICIA requires the appropriate federal banking regulator to
appoint a receiver or conservator for an institution that is critically
undercapitalized. FDICIA authorizes the banking regulators to specify the
ratio of tangible capital to assets at which an institution becomes critically
undercapitalized and requires that ratio to be no less than 2% of assets.
A thrift institution may be reclassified to an even lower category than is
indicated by its current capital position if the OTS determines the
institution to be otherwise in an unsafe or unsound condition or to be engaged
in an unsafe or unsound practice. This could include a failure by the
institution to correct deficiencies following receipt of a less-than-
satisfactory rating on its most recent examination report. Among other things,
undercapitalized institutions are subject to growth limitations and are
required to submit capital restoration plans. If an institution fails to
submit an acceptable plan or fails in any material respect to implement an
approved plan, it is treated as significantly undercapitalized.
The OTS has adopted a rule that modifies the minimum core capital
requirement for some thrift institutions. The general minimum requirement of
Tier 1 capital at least equal to 3% of adjusted total assets is applicable
only to those institutions that receive a composite rating of one (the highest
rating) under the "MACRO" rating system for thrift institutions, and those
which are, in general, considered strong organizations having well-diversified
risks (including no undue interest rate risk exposure, excellent control
systems, good earnings, high asset quality and liquidity, and well- managed
on-and off-balance sheet assets). All other thrift institutions must maintain
core capital of 3% plus an additional 100 to 200 basis points as established
by the OTS on a case-by-case basis.
MATRIX BANK'S CAPITAL RATIOS. The following table indicates Matrix Bank's
regulatory capital ratios at June 30, 1997:
<TABLE>
<CAPTION>
AS OF
JUNE 30, 1997
--------------------------
RISK-
CORE CAPITAL BASED CAPITAL
------------ -------------
(DOLLARS IN THOUSANDS)
<S> <C> <C>
Shareholder's equity/GAAP
capital.................. $20,768 $20,768
Additional capital items:
General valuation allow-
ances.................. -- 1,339
------- -------
Regulatory capital as re-
ported to the OTS........ 20,768 22,107
Minimum capital require-
ment as reported to the
OTS...................... 11,559 17,181
------- -------
Regulatory capital--ex-
cess..................... $ 9,209 $ 4,926
======= =======
Capital ratios............ 5.39% 10.29%
Well-capitalized require-
ment..................... 5.00% 10.00%
</TABLE>
FEDERAL HOME LOAN BANK SYSTEM. Matrix Bank is a member of the FHLB system,
which consists of 12 regional FHLBs. The FHLB system provides a central credit
facility primarily for member associations and administers the home financing
credit function of savings associations. FHLB advances must be secured by
specified types of collateral and may only be obtained for the purpose of
providing funds for residential housing finance. The FHLB funds its operations
primarily from proceeds derived from the sale of consolidated obligations of
the FHLB system. Matrix Bank, as a member of the FHLB system, must acquire and
hold shares of capital stock in its regional FHLB in an amount at least equal
to 1% of the aggregate principal amount of its unpaid residential mortgage
loans and similar obligations at the beginning of each year, or 1/20 of its
advances (borrowings) from the FHLB, whichever is greater. Matrix Bank was in
compliance with this requirement with an investment in FHLB stock at June 30,
1997 of $4.8 million.
69
<PAGE>
The FHLBs must provide funds to service the FICO bonds and contribute funds
for affordable housing programs. These requirements have affected adversely
the level of FHLB dividends paid and could continue to do so. Such
requirements could also result in the FHLBs' imposing a higher rate of
interest on advances to their members and could have an adverse effect on the
value of FHLB stock in the future, with a corresponding reduction in Matrix
Bank's capital. For the years ended December 31, 1995 and 1996, and for the
six months ended June 30, 1997, dividends from the FHLB to Matrix Bank
amounted to $86,000, $153,000, and $88,000, respectively. If dividends were
reduced, Matrix Bank's income would likely also be reduced.
FEDERAL RESERVE SYSTEM. Federal Reserve regulations require savings
associations to maintain non-interest earning reserves against their
transaction accounts (primarily regular checking and NOW accounts). Matrix
Bank is in compliance with these regulations. The balances maintained to meet
the reserve requirements imposed by the Federal Reserve may be used to satisfy
liquidity requirements imposed by the OTS. Because required reserves must be
maintained in the form of vault cash, a noninterest-bearing account at a
Federal Reserve Bank or a pass-through account as defined by the Federal
Reserve, the effect of this reserve requirement is to reduce Matrix Bank's
interest-earning assets. FHLB system members are also authorized to borrow
from the Federal Reserve, but applicable regulations require associations to
exhaust all FHLB sources before borrowing from a Federal Reserve Bank.
REGULATION OF STERLING TRUST COMPANY
ACTIVITIES. Sterling Trust provides custodial services and directed
(nondiscretionary) trustee services. Sterling Trust was chartered under the
laws of the State of Texas, and as a Texas trust company is subject to
supervision, regulation, and examination by the Texas Department of Banking
(the "TDB"). Under applicable law, a Texas trust company, such as Sterling
Trust, is subject to virtually all provisions of the TBA as if the trust
company were a state chartered bank. The activities of a Texas trust company
are limited by applicable law generally to acting as a trustee, executor,
administrator, guardian or agent for the performance of any lawful act, and to
lend and accumulate money when authorized under applicable law. In addition, a
Texas trust company with capital of not less than $1 million, such as Sterling
Trust, has the power to (i) purchase, sell, discount and negotiate notes,
drafts, checks and other evidences of indebtedness, (ii) purchase and sell
securities, (iii) issue debentures, bonds and promissory notes and accept
bills and notes drawn on it (but may not have liabilities exceeding five times
its capital and surplus, or 10 times with the written consent of the Texas
Banking Commissioner), and (iv) exercise powers incidental to the enumerated
powers described in the TBA. A Texas trust company is generally prohibited
from accepting demand or time deposits.
LIMITATION ON CAPITAL DISTRIBUTIONS. The TBA prohibits a Texas trust company
from reducing its outstanding capital and surplus through dividend, redemption
or other capital distribution without the prior written approval of the Texas
Banking Commissioner (the "Commissioner"). The TBA does not prohibit the
declaration and payment of pro rata share dividends consistent with the Texas
Business Corporation Act.
INVESTMENTS. A Texas trust company is generally obligated to maintain an
amount equal to 40% of its capital and surplus in investments that are readily
marketable and can be converted into cash within four business days, including
(i) federally insured certificates of deposit, (ii) securities in which a
state bank can invest without limitation under applicable law, and (iii)
corporate debt or equity securities registered or approved for registration
and traded on a national securities exchange or authorized for quotation on an
automated quotation system sponsored by a registered securities association.
Subject to the requirements set forth in the preceding sentence, a Texas trust
company is permitted to invest its corporate assets in any investment
permitted by law, provided that without the prior written consent of the
Commissioner or otherwise provided by the TBA, a Texas trust company may not
invest an amount in excess of 15% of its capital and certified surplus in the
securities of a single issuer.
BRANCHING. The TBA permits a Texas trust company to establish and maintain
branch offices at any location on prior written approval of the Commissioner.
The TDB currently does not permit Texas trust companies to establish branches
outside the state of Texas.
70
<PAGE>
TRANSACTIONS WITH RELATED PARTIES. The TBA prohibits the sale or lease of an
asset of a Texas trust company, or the purchase or lease of an asset by a
Texas trust company, where the transaction involves an officer, director,
principal shareholder or affiliate, unless such transaction is approved by a
disinterested majority of the board of directors or the prior written approval
of the Commissioner.
ENFORCEMENT. Under applicable provisions of the TBA, the Commissioner has
the power to issue enforcement actions against a Texas trust company or any
officer, employee or director of a Texas trust company. In addition, in
certain circumstances, the Commissioner may remove a present or former
officer, director or employee of a Texas trust company from office or
employment, and may prohibit a shareholder or other persons participating in
the affairs of a Texas trust company from such participation. The Commissioner
has the authority to assess civil penalties of up to $500 per day for
violations of a cease and desist, removal or prohibition order. The
Commissioner also has the authority to assess civil money penalties of up to
$1,000 per occurrence for the violation of certain filing and audit
requirements to which Sterling Trust is subject. In addition, certain
violations of the TBA constitute felonies under Texas law.
CAPITAL REQUIREMENTS. Applicable law requires a Texas trust company to have
and maintain capital of at least $1 million. The Commissioner may require
additional capital of a Texas trust company if the Commissioner determines it
necessary to protect the safety and soundness of such company. Sterling Trust
is in compliance with all capital requirements under Texas law.
REGULATION OF SUB-PRIME AUTOMOBILE LENDING
On December 31, 1996, Matrix Bank sold the assets of its subsidiary engaged
in sub-prime automobile lending to a third-party buyer. However, during the
time that Matrix Bank owned operated such entity, it purchased approximately
$18.5 million automobile retail installment contracts and sold them into the
secondary market, subject to certain recourse provisions. In conjunction with
the contractual obligations associated with those sales, Matrix Bank had, as
of June 30, 1997, repurchased approximately $4.0 million of installment loans
and repossessed automobiles that Sterling Finance sold to outside investors
including the repurchase of approximately $1.5 million in loans (plus $108,000
of accrued interest) in the second quarter of 1997. The loans will be disposed
of or serviced under the direction of Matrix Bank. Matrix Bank bears the risk
of additional repurchases subject to certain terms and conditions of the
various sale agreements which are primarily restricted to fraud. The
automobile lending activities are subject to various federal and state laws
and regulations. Consumer lending laws generally require licensing of the
lender and purchasers of loans and adequate disclosure of loan terms and
impose limitations on the terms of consumer loans and on collection policies
and creditor remedies. Federal consumer credit statutes primarily require
disclosures of credit terms in consumer finance transactions. In general, the
Company's sub-prime automobile lending activities were conducted under
licenses issued by individual states and were also subject to the provisions
of the federal Consumer Credit Protection Act and its related regulations.
Due to the consumer-oriented nature of the industry and uncertainties with
respect to the application of various laws and regulations in certain
circumstances, industry participants are named from time to time as defendants
in litigation involving alleged violations of federal and state consumer
lending or other similar laws and regulations. A significant judgment against
the Company in connection with any litigation could have a material adverse
affect on the Company's financial condition and results of operations. In
addition, if it were determined that a material number of loans purchased by
the Company involved violations of applicable lending laws or fraudulent
actions by the automobile dealers, the Company's financial condition and
results of operations could be materially adversely affected.
FAS 122
In May 1995, the Financial Accounting Standards Board issued FAS 122, which
amended Statement of Financial Accounting Standards No. 65, Accounting for
Certain Mortgage Banking Activities ("FAS 65"). FAS 122 requires the
recognition of originated mortgage servicing rights, as well as purchased
mortgage servicing
71
<PAGE>
rights, as assets by allocating total costs incurred between the loan and the
servicing rights based on their relative fair values. Under FAS 65, the cost
of originated mortgage servicing rights was not recognized as an asset and was
charged to earnings when the related loan was sold. With respect to
acquisition of mortgage servicing rights through either the purchase or
origination of mortgage loans, FAS 122 has a different cost allocation
methodology than SFAS No. 65. In contrast to a cost allocation based on
estimated fair market value as set forth in FAS 122, the prior requirement was
to allocate the costs incurred in excess of the market value of the loans
without the servicing rights to purchased mortgage servicing rights. If it is
not practicable to estimate fair values of the mortgage servicing rights and
the mortgage loans (without the mortgage servicing rights), the entire cost of
purchasing or originating the loans should be allocated to the mortgage loans
and no cost should be allocated to the mortgage servicing rights. FAS 122 also
requires that all capitalized mortgage servicing rights be evaluated for
impairment based on the excess of the carrying amount of the mortgage
servicing rights over their value and it requires a holder of mortgage
servicing rights to stratify its mortgage servicing rights that are
capitalized after the adoption of FAS 122 based on one or more of the
predominant risk characteristics of the underlying loans. Impairment will be
recognized through a valuation allowance for each impaired stratum.
72
<PAGE>
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The following table sets forth certain information regarding the current
directors and executive officers of the Company.
<TABLE>
<CAPTION>
DIRECTOR'S TERM
NAME AGE PRINCIPAL POSITIONS EXPIRES
---- --- ----------------------------------- ---------------
<C> <C> <S> <C>
Guy Gibson.......... 33 Matrix Capital: President, Chief 1998
Executive Officer and Director
Matrix Financial: Chairman of the
Board
Richard V. Schmitz.. 35 Matrix Capital: Chairman of the 1999
Board
United Financial: Chairman of the
Board
D. Mark Spencer..... 37 Matrix Capital: Vice Chairman of 1999
the Board
Matrix Bank: Chairman of the Board
Thomas M. Piercy.... 33 Matrix Capital: Director 2000
United Financial: President
David W. Kloos...... 35 Matrix Capital: Senior Vice 1998
President, Chief Financial Officer
and Director
Matrix Bank: Executive Vice
President and
Chief Financial Officer
Gary Lenzo.......... 46 Matrix Bank: President and Chief --
Executive Officer
Thomas J. Osselaer.. 39 Matrix Financial: President and --
Chief Executive Officer
Thomas P. Cronin.... 51 Matrix Capital: Vice Chairman --
United Financial: Chief Executive
Officer
Paul E. Skretny..... 52 Sterling Trust: Chief Executive --
Officer
First Matrix: Chairman of the Board
Stephen Skiba....... 42 Matrix Capital: Director 2000
David A. Frank...... 49 Matrix Capital: Director 1998
Peter G. Weinstock.. 35 Matrix Capital: Advisory Director --
</TABLE>
GUY A. GIBSON has served as the Chief Executive Officer and a director of
Matrix Capital since its formation in June 1993. Mr. Gibson has served as
Chairman of the Board of Matrix Financial since August 1990 and as its
President since August 1994 to July 1997. Mr. Gibson was one of the original
founders of Matrix Financial. Prior to his tenure with the Company, Mr. Gibson
held the position of Account Executive with the investment banking firms of
PaineWebber from 1987 to 1989 and Lincoln Financial Group, a Denver-based
servicing brokerage firm, from 1989 to 1990.
RICHARD V. SCHMITZ has served as a director of Matrix Capital since its
formation in June 1993 and was elected Chairman of the Board of Matrix Capital
in February 1996. Mr. Schmitz was one of the original founders of United
Financial, held the position of Chief Executive Officer of United Financial
from 1990 until early 1997, and has been Chairman of the Board of United
Financial since that time.
D. MARK SPENCER served as Chairman of the Board of Matrix Capital from June
1993 until February 1996. Mr. Spencer has also served as an executive officer
of the Company since June 1993. Mr. Spencer has served as Chairman of the
Board of Matrix Bank since October 1993, and has served as director of Matrix
Financial since August 1990. From 1985 through July 1990, Mr. Spencer served
as Vice President of Secondary Marketing for Austin Federal Savings and Loan,
an Austin, Texas savings and loan association.
THOMAS M. PIERCY served as Senior Vice President of United Financial from
October 1990 to June 1996, when he was elected President of United Financial.
Mr. Piercy has served as a director of Matrix Capital since June 1993. From
1986 to 1990, Mr. Piercy served as Managing Director of Lincoln Financial
Group.
DAVID W. KLOOS has served as a Vice President and Chief Financial Officer of
Matrix Capital since June 1993, and he has served as a director of Matrix
Capital also since June 1993. Mr. Kloos was appointed as Senior Vice President
of Matrix Capital in September 1996. Mr. Kloos has served as Executive Vice
President and Chief
73
<PAGE>
Financial Officer of Matrix Bank since October 1993. From 1989 through 1993,
Mr. Kloos served as Senior Vice President and Chief Financial Officer of Argo
Federal Savings Bank, a Summit, Illinois federal savings bank. From 1985 to
1989, Mr. Kloos, a certified public accountant, was employed by the Chicago
office of KPMG Peat Marwick LLP.
GARY LENZO has served as President and Chief Executive Officer and a
director of Matrix Bank since October 1993. From 1987 to 1992, Mr. Lenzo
served as Vice President of Austin Savings Association and Great Western
Savings Bank, both Austin, Texas based savings associations. From 1984 to
1986, Mr. Lenzo served as Vice President of Unifirst American Mortgage
Corporation, an Austin, Texas mortgage company.
THOMAS J. OSSELAER has served as Executive Vice President and Chief
Financial Officer of Matrix Financial since July 1993, Chief Operating Officer
since August 1994, and was Vice President from March 1992 to July 1993. Mr.
Osselaer was appointed as President and Chief Executive Officer of Matrix
Financial in July 1997. From January 1990 to February 1992, Mr. Osselaer
served as Treasurer and Finance Division Manager for the receivership of
MeraBank Federal Savings Bank, a Resolution Trust Corporation controlled
savings bank in Phoenix, Arizona. From 1985 to 1990, Mr. Osselaer served as
Vice President, Assistant Treasurer and Investment Manager for MeraBank
Federal Savings Bank.
THOMAS P. CRONIN joined the Company effective March 1, 1997. Mr. Cronin
assumed the management position of Vice Chairman of the Company and Chief
Executive Officer of United Financial. Prior to joining the Company, Mr.
Cronin held various positions with MCA Financial Corporation, a Michigan-based
financial services company, and its wholly owned subsidiary, MCA Mortgage
Corporation. Mr. Cronin's most recent management position with MCA Financial
Corporation was Vice Chairman; however, Mr. Cronin continues to serve as a
director of MCA Financial Corporation. Mr. Cronin has over 30 years of
experience in the mortgage banking industry and currently is the Legislative
Vice Chairman and board member for the Mortgage Bankers Association of
America.
PAUL E. SKRETNY has served as Chief Executive Officer of Sterling Trust
since May 1993 and as Chairman of the Board of First Matrix since March 1994.
Prior to his association with Sterling Trust, Mr. Skretny was Senior Vice
President of APS Securities Corporation and Masterson, Moreland, Sauer,
Whisman Inc. from June 1988 to February 1993, providing investment services
and assistance to individual and institutional investors. From May 1975 to
April 1988, Mr. Skretny was employed by Jefferson Bancshares, Inc. and its
subsidiaries serving as President and Chief Executive Officer from 1984 to
1988. From June 1964 to 1975, he was employed by the Manufacturers & Traders
Trust Company and the Bank of Buffalo in various positions as Assistant
Manager, Operations Officer, Assistant Vice President and Vice President of
Branch Office Administration. Mr. Skretny holds professional certifications
and licenses as a fully registered general securities representative, general
securities principal and uniform securities agent.
STEPHEN G. SKIBA, a director of Matrix Capital since March 1996, is Senior
Vice President and Senior Analyst, focusing on banks and thrifts, for the ABN
Amro Chicago Corporation, an investment banking firm in Chicago, Illinois.
From November 1990 to June 1996, Mr. Skiba was Senior Vice President, Chief
Financial Officer and Treasurer of N.S. Bancorp, Inc. in Chicago, Illinois.
Prior to joining N.S. Bancorp, Inc., Mr. Skiba was an audit partner with the
Chicago office of KPMG Peat Marwick LLP, primarily responsible for financial
institutions and real estate audit engagements.
DAVID A. FRANK was elected director of Matrix Capital in September 1996. Mr.
Frank is President, Chief Executive Officer, and founder of America's Mortgage
Source, a mortgage company based in Marlton, New Jersey that is primarily
involved in the origination of residential mortgage loans and which was formed
in 1995. From 1994 to 1995, Mr. Frank served as President and Chief Executive
Officer of Chemical Residential Mortgage Corporation in Edison, New Jersey,
and as a director of Chemical Bank, N.A. Chemical Residential Mortgage
Corporation was the primary mortgage banking operation of Chemical Banking
Corporation. Prior to joining Chemical Residential Mortgage Corporation, Mr.
Frank served from 1989 to 1994 as President and Chief Operating Officer of
Margaretten Financial Corporation, a publicly traded national mortgage banking
company
74
<PAGE>
based in Perth Amboy, New Jersey. From 1977 to 1989, Mr. Frank held various
positions with Primerica Corporation/American Can Company (now known as
Travelers, Inc.), where he was primarily involved in mergers, acquisitions,
capital market activities and in restructuring a manufacturing-based concern
into a diversified financial services company.
PETER G. WEINSTOCK has served as an advisory director to Matrix Capital
since September 1996. In his capacity as advisory director, Mr. Weinstock is
invited to attend meetings of the Board of Directors and to participate in its
discussions. However, Mr. Weinstock is not entitled to vote in matters
submitted for approval and is not involved in the administration or management
of the Company. Mr. Weinstock is a member of the law firm of Jenkens &
Gilchrist, a Professional Corporation, where he has been employed for more
than five years. Jenkens & Gilchrist, a Professional Corporation, serves as
outside general counsel to the Company.
COMMITTEES OF THE BOARD OF DIRECTORS
The Board of Directors currently has two standing committees: the
Compensation Committee and the Audit Committee. The Compensation Committee and
the Audit Committee are each comprised of Mr. Skiba and Mr. Frank. The
Compensation Committee is responsible for recommending to the Board of
Directors the Company's executive compensation policies for senior officers
and administering the 1996 Stock Option Plan and the Purchase Plan. The
Compensation Committee held no meetings during 1996, although it did act on
several occasions during 1996 by unanimous consent. The Audit Committee is
responsible for recommending independent auditors, reviewing the audit plan,
the adequacy of internal controls, the audit report and management letter, and
performing such other duties as the Board of Directors may from time to time
prescribe. The Audit Committee held no meetings during 1996.
The Board of Directors does not have a standing Nominating Committee.
The Board of Directors held six meetings during 1996. During 1996, each
director attended all of the meetings of the Board of Directors during the
time that he served as director.
EMPLOYMENT AGREEMENTS
In January 1996, the Company entered into a five-year employment agreement
with Mr. Kloos. Under the terms of such agreement, Mr. Kloos is paid an annual
salary as agreed to by Mr. Kloos and Matrix Capital and, in addition, he is to
receive five annual installment payments of $25,000 each. This employment
agreement is terminable without advance notice by the Company for good cause,
which is generally defined to include a breach by Mr. Kloos of the employment
agreement, a breach by Mr. Kloos of his fiduciary duties owed to the Company,
and fraud, embezzlement, or theft from the Company by Mr. Kloos. In addition,
the employment agreement terminates upon the death or disability of Mr. Kloos
and Mr. Kloos may resign upon 30 days' notice to the Company.
The Company has also entered into an employment agreement with Mr. Lenzo.
Under the terms of such agreement, Mr. Lenzo is employed as the President and
Chief Executive Officer of Matrix Bank until January 1, 1999 at a base salary
of $110,000 per annum. In addition, Mr. Lenzo is eligible to participate in an
equitable manner in all discretionary bonuses authorized to be paid the
employees of Matrix Bank. The Company may, without notice, terminate this
employment agreement for just cause (which is generally defined to include
personal dishonesty, incompetence, willful misconduct, or a breach of
fiduciary duty) and, in such case, the Company shall not be obligated to pay
Mr. Lenzo his compensation accrued through the date of such termination. The
Company may also, upon 60-days' notice to Mr. Lenzo, terminate Mr. Lenzo's
employment agreement for any reason other than just cause and, in such a case,
the Company will be obligated to pay Mr. Lenzo his compensation through
January 1, 1999. In addition, the Regional Director of the OTS may terminate
Mr. Lenzo's employment agreement in certain instances, including if the FDIC
enters into an agreement to provide assistance to Matrix Bank under its
authority granted by the FDIC Act or if the Regional Director determines that
Matrix Bank is in an unsafe or unsound position. Mr. Lenzo is entitled to
certain change in control payments if, after a
75
<PAGE>
change in control of Matrix Bank or Matrix Capital, Mr. Lenzo's employment is
terminated prior to January 1, 1999. The amount of such change in control
payments, if required to be paid, would generally be the balance of Mr.
Lenzo's salary through January 1, 1999 plus an additional amount that is equal
to the amount of Mr. Lenzo's annual compensation paid to Mr. Lenzo by Matrix
Bank for the year prior to his termination. The payments to Mr. Lenzo upon a
change in control, however, may not exceed 2.99 times Mr. Lenzo's "base
amount" (as defined in Section 280G(b)(3) of the Code) without adverse tax
consequences.
In connection with the acquisition by the Company of Vintage, the parent
company of First Matrix and Sterling Trust, the Company entered into an
employment agreement with Mr. Skretny. This employment agreement provides for
a term of three years during which Mr. Skretny shall be employed as President
and Chief Executive Officer of Vintage, Sterling Trust, and Chairman of the
Board of First Matrix at an annual base salary, subject to periodic review by
the Board of Directors of the Company, of $135,500. Mr. Skretny is also
eligible for a performance bonus if the Board of Directors of the Company
determines in good faith that Mr. Skretny has met the performance standards
consistent with his position. Under the terms of his employment agreement, Mr.
Skretny was granted options to purchase 25,000 shares of Common Stock at
$14.25 per share. Such options will generally become exercisable in 20%
increments on the first through fifth anniversary dates of the date of grant
of such options. Mr. Skretny's employment agreement may be terminated by Mr.
Skretny or the Company upon 30 days' notice, but in the event of such
termination by the Company, the Company must pay Mr. Skretny a one-time
payment equal to the base salary that would be due Mr. Skretny for the
remainder of the three-year term. The Company may also terminate the
employment agreement for cause (which is generally defined to include
continued failure by Mr. Skretny to perform his assigned duties, a material
breach by Mr. Skretny of any of the terms of his employment agreement, or
intentional dishonest, fraudulent, or felonious acts committed by Mr.
Skretny).
COMPENSATION OF DIRECTORS
The Company pays each nonemployee director of the Company a $3,750 quarterly
retainer and a fee of $1,000 ($250 if such director's attendance is via
teleconference) for each meeting of the Board of Directors of the Company that
he attends. The Company also reimburses each director for ordinary and
necessary travel expenses related to such director's attendance at Board of
Directors and committee meetings. Nonemployee directors are also eligible for
stock option grants under the 1996 Stock Option Plan.
Each advisory director of the Company is paid a $2,500 quarterly retainer
and a fee of $1,000 ($250 if such advisory director's attendance is via
teleconference) for each meeting of the Board of Directors of Matrix Capital
that he attends. The Company also reimburses each advisory director for
ordinary and necessary travel expenses related to such advisory director's
attendance at Board of Directors meetings. Advisory directors are also
eligible for stock option grants under the 1996 Stock Option Plan.
76
<PAGE>
COMPENSATION OF EXECUTIVE OFFICERS
The Summary Compensation Table below provides certain summary information
concerning compensation paid or accrued during 1995 and 1996 by the Company to
or on behalf of the Chief Executive Officer and the four other highest paid
executive officers of the Company whose salary and bonus for 1996 was in
excess of $100,000:
<TABLE>
<CAPTION>
ANNUAL LONG-TERM
COMPENSATION(1) COMPENSATION
----------------------------- -----------------------
OTHER ANNUAL OPTIONS/ ALL OTHER
NAME AND PRINCIPAL POSITIONS YEAR SALARY BONUS COMPENSATION SARS COMPENSATION
- ---------------------------- ---- -------- ------- ------------ -------- ------------
<S> <C> <C> <C> <C> <C> <C>
Guy A. Gibson........... 1996 $250,000 $ -- $47,514(2) -- $ 8,375(3)(4)
President, Chief 1995 250,000 -- 46,552(2) -- 8,300(3)(4)
Executive Officer and
Director of Matrix
Capital; President and
Chairman of the Board
of Matrix Financial
Richard V. Schmitz...... 1996 250,000 -- -- -- 8,375(3)(4)
Chairman of the Board of 1995 250,000 100,000 -- -- 8,300(3)(4)
Matrix Capital; Chief
Executive Officer of
United Financial
D. Mark Spencer......... 1996 250,000 -- -- -- 8,375(3)(4)
Vice Chairman of the 1995 250,000 -- -- -- 8,300(3)(4)
Board of Matrix Capital
Thomas M. Piercy........ 1996 293,626 -- -- -- 2,375(4)
Director of Matrix 1995 271,372 -- -- -- 2,300(4)
Capital; President of
United Financial
David W. Kloos.......... 1996 100,000 30,000 -- 35,000(5) 84,772(3)(4)(6)
Senior Vice President, 1995 100,000 20,000 -- -- 109,300(3)(4)(7)
Chief Financial Officer
and Director of Matrix
Capital; Executive Vice
President and Chief
Financial Officer of
Matrix Bank
</TABLE>
- --------
(1) Annual compensation does not include the cost to the Company of benefits
certain executive officers receive in addition to salary and cash bonuses.
The aggregate amounts of such personal benefits, however, did not exceed
the lesser of either $50,000 or 10% of the total annual compensation of
such executive officer.
(2) Each amount specified represents payments made to Mr. Gibson during the
year shown in respect of Mr. Gibson's accrued tax liability during prior
periods in which the Company operated as an "S" corporation.
(3) Of this amount, $6,000 represents directors fees paid by Matrix Bank for
such person's service on that entity's board of directors for each of 1995
and 1996.
(4) Of this amount, $2,300 and $2,375, respectively, represents the Company's
contribution to such person's account maintained under the 401(k) savings
plan during 1995 and 1996, respectively.
(5) The exercise price per share for these options is $10.00. These options
become exercisable ratably over five years, with the first 20% becoming
exercisable on October 18, 1997.
(6) Of this amount, $76,397 represents the amount paid to Mr. Kloos during
1996 to provide for the income taxes owed by Mr. Kloos in connection with
the $101,000 payment disclosed in footnote (7).
(7) Of this amount, $101,000 represents the estimated value of a stock bonus
of 138,938 shares awarded to Mr. Kloos on January 1, 1995 for services
rendered.
77
<PAGE>
GRANTS OF OPTIONS
The following table sets forth details regarding stock options granted
during 1996 to the persons named in the Summary Compensation table. In
addition, there are shown the "option spreads" that would exist for the
respective options granted based upon assumed rates of annual compound stock
appreciation of 5% and 10% from the date the options were granted over the
full option term.
<TABLE>
<CAPTION>
POTENTIAL REALIZABLE
VALUE AT ASSUMED
ANNUAL RATES OF STOCK
OPTION GRANTS IN LAST FISCAL YEAR PRICE APPRECIATION
INDIVIDUAL GRANTS FOR OPTION TERM(2)
------------------------------------------------- ---------------------
NUMBER OF PERCENT OF
SECURITIES TOTAL OPTIONS
UNDERLYING GRANTED TO
OPTIONS EMPLOYEES IN EXERCISE EXPIRATION
NAME GRANTED FISCAL YEAR OR BASE PRICE DATE 5% 10%
---- ---------- ------------- ------------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Guy A. Gibson........... -- -- -- -- $ -- $ --
Richard V. Schmitz...... -- -- -- -- -- --
D. Mark Spencer......... -- -- -- -- -- --
Thomas M. Piercy........ -- -- -- -- -- --
David W. Kloos(1)....... 35,000 30.5% $10.00 10/18/06 220,150 557,900
</TABLE>
- --------
(1) Options were granted under the 1996 Stock Option Plan. The exercise price
of each option is the fair market value of the Common Stock on the date of
grant. Options vest in one-fifth increments over a five-year term. The
options have a term of 10 years, unless they are exercised or expire upon
certain circumstances set forth in the Plan, including retirement,
termination in the event of a change in control, death or disability. See
footnote (4) to the Summary Compensation Table.
(2) These amounts represent certain assumed rates of appreciation only. Actual
gains, if any, on stock option exercises are dependent upon the future
performance of the Company's Common Stock, overall market conditions and
the executive's continued employment with the Company. The amounts
represented in this table may not be achieved.
EXERCISES OF OPTIONS
The following table sets forth information with respect to the persons named
in the Summary Compensation table concerning the exercise of options during
fiscal 1996, and unexercised options held as of December 31, 1996. No options
were exercised by the persons named in the Summary Compensation table during
1996.
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND
FISCAL YEAR END OPTION VALUES
<TABLE>
<CAPTION>
VALUE OF
NUMBER OF UNEXERCISED
NUMBER OF UNEXERCISED IN-THE-MONEY
SHARES OPTIONS OPTIONS
ACQUIRED AT FY-END: AT FY-END:
ON EXERCISABLE/ EXERCISABLE/
NAME EXERCISE VALUE REALIZED UNEXERCISABLE UNEXERCISABLE(1)
---- --------- -------------- ------------- ----------------
<S> <C> <C> <C> <C>
Guy A. Gibson........... -- -- --/-- $ --/--
Richard V. Schmitz...... -- -- --/-- --/--
D. Mark Spencer......... -- -- --/-- --/--
Thomas M. Piercy........ -- -- --/-- --/--
David W. Kloos.......... -- -- --/35,000 --/205,625
</TABLE>
- --------
(1) Values are stated based upon the closing price of $15.875 per share of the
Common Stock on the Nasdaq National Market on December 31, 1996, the last
trading day of the Company's fiscal year.
78
<PAGE>
401(K) SAVINGS PLAN
In February 1994, the Company established the Company's 401(k) savings plan,
which is intended to comply with Sections 401(a) and 401(k) of the Internal
Revenue Code of 1986, as amended, and the applicable provisions of the
Employee Retirement Income Security Act of 1974, as amended. Amounts
contributed to the plan are held under a trust intended to be exempt from
income tax pursuant to Section 501(a) of the Internal Revenue Code. All full
time employees of the Company that have completed at least six months of
service are eligible to participate in the plan. Participating employees will
be entitled to make pre-tax contributions to their accounts in amounts equal
to not less than 1% and not more than 15% of their compensation each year,
subject to certain maximum annual limits imposed by law (approximately $9,500
in 1997). The Company matches employee contributions in the amount of 25% of
their contributions. The Company also has the right to make certain additional
matching contributions. Matching contributions made by the Company vest in
participating employees over a six-year period after the date of contribution.
Distributions generally are payable in a lump-sum after retirement or death
and, in certain circumstances, upon termination of employment with the Company
for other reasons.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
During 1994, 1995, and most of 1996, the Company had no compensation
committee or other committee of the Board of Directors performing similar
functions. Decisions concerning executive compensation for fiscal 1996 were
made by the Board of Directors, including Messrs. Gibson, Kloos, Schmitz,
Piercy, and Spencer, each of whom is an executive officer of the Company and
participated in deliberations of the Board of Directors regarding executive
officer compensation. The Board of Directors of the Company has established a
Compensation Committee. See "--Committees of the Board of Directors."
During the last completed fiscal year, no executive officer of the Company
served as a member of the Compensation Committee (or other board committee
performing equivalent functions or, in the absence of any such committee, the
entire Board of Directors) of another entity, one of whose executive officers
served on the Compensation Committee or, during the period in 1996 in which
there was no Compensation Committee, the entire Board of Directors of the
Company.
During the last completed fiscal year, no executive officer of the Company
served as a director of another entity, one of whose executive officers served
on the Compensation Committee or, during the period in 1996 in which there was
no Compensation Committee, the entire Board of Directors of the Company.
During the last completed fiscal year, no executive officer of the Company
served as a member of the Compensation Committee or, during the period in 1996
in which there was no Compensation Committee, the entire Board of Directors of
another entity, one of whose executive officers served as a director of the
Company.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In October 1995, the Company loaned Matrix Diversified, Inc.
("Diversified"), a company in which Messrs. Gibson, Schmitz, Piercy, Spencer,
Kloos, and Osselaer, each of whom is an executive officer of the Company, and
Mr. Robert Fowls, an officer of United Financial, own all of the outstanding
capital stock, $750,000 in order to enable Diversified to purchase the assets
of an unaffiliated business. Such loan accrues interest at 13% per annum and
is secured by a secondary lien on the assets of Diversified. Principal and
interest on this loan is due and payable in one lump sum on October 1, 2000.
In addition, the Company leases approximately 7,400 square feet in its Phoenix
office building to a subsidiary of Diversified at a base rental of
approximately $8,500 per month. The lease expires in September 1997, but the
Company anticipates that it will be renewed for successive one-year terms.
On December 31, 1996, the Company renewed a loan originally made to Mr.
Spencer, Vice Chairman of the Board and a shareholder of the Company, in
December 1994 in the amount of approximately $80,000. The loan to Mr. Spencer
accrues interest at the prime rate, is unsecured, and the entire principal and
all accrued interest is due and payable in one lump sum on December 31, 1997.
The Company has the option of extending the maturity of such loan to Mr.
Spencer in annual increments.
79
<PAGE>
PRINCIPAL SHAREHOLDERS
The following table sets forth information regarding the beneficial
ownership of Common Stock as of August 15, 1997 by (i) each person known by
the Company to own beneficially five percent or more of the outstanding Common
Stock; (ii) each of the Company's directors and advisory directors; (iii) each
of the executive officers named in the Summary Compensation Table; and (iv)
all directors, advisory directors and executive officers of the Company as a
group. The address of each person listed below is 1380 Lawrence Street, Suite
1410, Denver, Colorado 80204.
<TABLE>
<CAPTION>
SHARES BENEFICIALLY
OWNED (1)
--------------------------------
NAME NUMBER PERCENT OF CLASS
- ---- --------- ----------------
<S> <C> <C>
Guy A. Gibson................................ 1,285,358 19.2%
Richard V. Schmitz........................... 1,285,358(3) 19.2
D. Mark Spencer.............................. 879,910(2)(3) 13.2
Thomas M. Piercy............................. 236,375 3.5
David W. Kloos............................... 139,938 2.1
Stephen Skiba................................ 12,500(4) *
David A. Frank............................... 7,500(4) *
Peter G. Weinstock........................... 5,500(4) *
All directors, advisory directors and execu-
tive officers as a group (13 persons)....... 3,979,473(4) 58.8
</TABLE>
- --------
* Less than 1%.
(1) Beneficial ownership is determined in accordance with the rules of the
Commission and generally includes voting or investment power with respect
to securities. Except as indicated in the footnotes to this table and
subject to applicable community property laws, the persons named in the
table have sole voting and investment power with respect to all shares of
Common Stock beneficially owned.
(2) On June 24, 1993, Mr. Gibson granted Mr. Spencer an option to purchase
133,983 of Mr. Gibson's shares of Common Stock at any time on or prior to
June 23, 1998, at an exercise price of $2.41 per share. The amount shown
in this table as beneficially owned by Mr. Spencer does not reflect these
133, 983 shares of Common Stock.
(3) On June 24, 1993, Mr. Schmitz granted Mr. Spencer an option to purchase
133,983 of Mr. Schmitz's shares of Common Stock, at any time prior to June
23, 1998, at an exercise price of $2.41 per share. The amount shown in
this table as beneficially owned by Mr. Spencer does not reflect these
133,983 shares of Common Stock.
(4) Includes options that are currently exercisable to purchase the number of
shares of Common Stock indicated for the following persons: Stephen Skiba
(2,500), David A. Frank (2,500), and Peter G. Weinstock (2,500).
80
<PAGE>
DESCRIPTION OF THE NOTES
GENERAL
The Notes will be issued pursuant to an Indenture dated as of the Issue Date
(the "Indenture"), between Matrix Capital and First Trust National Association
as trustee (the "Trustee"). The terms of the Notes include those stated in the
Indenture and those made part of the Indenture by reference to the Trust
Indenture Act of 1939, as amended (the "Trust Indenture Act"). The Notes are
subject to all such terms, and holders of the Notes are referred to the
Indenture and the Trust Indenture Act for a statement thereof. The following
summary of certain provisions of the Indenture does not purport to be complete
and is qualified in its entirety by reference to the Indenture, including the
definitions therein of certain terms used below. A copy of the form of
Indenture has been filed as an exhibit to the Registration Statement of which
this Prospectus is a part. The definitions of certain terms used in the
following summary are set forth below under "Certain Definitions." The term
"Matrix Capital" refers only to Matrix Capital Corporation and not to any of
its Subsidiaries.
The Notes will be general unsecured obligations of Matrix Capital and will
rank pari passu in right of payment with all current and future Senior
Indebtedness of Matrix Capital. However, the Notes will be effectively
subordinated to all existing and future secured Indebtedness of Matrix Capital
and the Subsidiaries, including the Permitted Secured Indebtedness, and
interests (including Indebtedness) of Securitization Trusts, which rank senior
in right of payment to Matrix Capital's right to receive excess cash flow of
such trusts. See "Risk Factors--Ranking of Notes."
The Notes are obligations exclusively of the Issuer. None of the
Subsidiaries have executed or entered into any guarantee, pledge or other
agreement whereby the assets of the Subsidiaries would be available to satisfy
the Issuer's obligations under the Notes. Since the operations of the Issuer
are conducted through its Subsidiaries, the Issuer's cash flow and the
consequent ability to service debt of the Issuer, including the Notes, are
dependent upon the earnings of its Subsidiaries and the distribution of those
earnings to, or upon loans or other payments of funds by those Subsidiaries
to, the Issuer. The payment of dividends and the making of loans and advances
to the Issuer by its Subsidiaries are subject to statutory and contractual
restrictions, are dependent upon the earnings of those Subsidiaries and are
subject to various business considerations. See "Risk Factors--Dependence on
Dividends and Interest Payments from the Subsidiaries." As of the Issue Date,
all of the Subsidiaries will be Restricted Subsidiaries. However, under
certain circumstances, Matrix Capital will be able to designate current or
future Subsidiaries as Unrestricted Subsidiaries. Unrestricted Subsidiaries
will not be subject to many of the restrictive covenants set forth in the
Indenture.
As of August 31, 1997, on a pro forma basis after giving effect to this
offering and the application of the proceeds thereof, Matrix Capital and the
Subsidiaries had approximately $44.6 million of secured Indebtedness
outstanding under credit facilities and an additional $71.4 million was
available for borrowing thereunder. Subject to certain restrictions described
herein, the Indenture will permit Matrix Capital and the Subsidiaries to incur
substantial additional Indebtedness.
Matrix Capital will issue the Notes in denominations of $1,000 and integral
multiples thereof. The Notes will be initially issued only in fully registered
book-entry form with The Depository Trust Company, as the book-entry
depositary (the "Depositary"). Except as described in this Prospectus or in
the Indenture, the Notes will not be issuable in definitive certificated form
to any person other than the Depositary or its nominees. Book-entry beneficial
owners of the Notes will not be entitled to have such book-entry beneficial
ownership registered in their names on the Security Register, will not receive
or be entitled to receive physical delivery of the Notes beneficially owned by
book-entry registration, and will not be deemed to be the registered holders
(the "Holders") of the Notes under the Indenture. Accordingly, such person
holding a book-entry beneficial interest in the Notes must rely upon the
procedures of the Depositary and, if such person is not a Participant (as
defined below) in the Depositary's book-entry system, on the procedures of the
Participant through which such person owns its interest, to exercise any
rights of a Holder of the Notes under the Indenture. See "--Book-Entry
System."
81
<PAGE>
PRINCIPAL, MATURITY AND INTEREST
The Notes will be limited in aggregate principal amount to $20.0 million and
will mature on September 30, 2004. Interest on the Notes will accrue at the
rate of 11.50% per annum and will be payable semi-annually in arrears on March
31 and September 30, commencing on March 31, 1998, to Holders of record on the
immediately preceding March 15 and September 15. Interest on the Notes will
accrue from the most recent date to which interest has been paid or, if no
interest has been paid, from the date of original issuance. Interest will be
computed on the basis of a 360-day year comprised of twelve 30-day months.
Principal, premium, if any, and interest on the Notes will be payable at the
office or agency of Matrix Capital maintained for such purpose within New York
or, at the option of Matrix Capital, payment of interest may be made by check
mailed to the Holders of the Notes at their respective addresses set forth in
the register of Holders of the Notes; provided that all payments of principal,
premium, if any, and interest with respect to the Notes the Holders of which
have given valid, timely and complete wire transfer instructions to Matrix
Capital and the Trustee will be required to be made by wire transfer of
immediately available funds to the accounts specified by the Holders thereof
in such instructions. Until otherwise designated by Matrix Capital, Matrix
Capital's office or agency in New York will be the office of the Trustee
maintained for such purpose. The Notes will be issued in denominations of
$1,000 and integral multiples thereof.
NO OPTIONAL REDEMPTION
Matrix Capital will have no right to redeem the Notes prior to maturity.
NO MANDATORY REDEMPTION
Except as otherwise described under "Change of Control," "Asset Sales" and
"Events of Default and Remedies" and as otherwise provided in the Indenture,
Matrix Capital shall have no obligation to redeem the Notes prior to maturity.
REPURCHASE AT THE OPTION OF HOLDERS
Change of Control
The Indenture will provide that, upon the occurrence of a Change of Control,
each Holder of the Notes will have the right to require Matrix Capital to
repurchase all (but not less than all) of such Holder's Notes pursuant to the
offer described below (the "Change of Control Offer") at an offer price in
cash equal to 101% of the aggregate principal amount thereof plus accrued and
unpaid interest thereon, if any, to the date of purchase (the "Change of
Control Payment"). Within ten days following any Change of Control, Matrix
Capital will mail a notice to each Holder describing the transaction or
transactions that constitute the Change of Control and offering to repurchase
the Notes on the date specified in such notice, which date shall be no earlier
than the earliest date permitted under Rule 14e-1 under the Exchange Act
("Rule 14e-1") and no later than 60 days from the date such notice is mailed
(the "Change of Control Payment Date"), pursuant to the procedures required by
the Indenture and described in such notice. Matrix Capital will comply with
the requirements of Rule 14e-1 and any other securities laws and regulations
thereunder to the extent such laws and regulations are applicable in
connection with the repurchase of the Notes as a result of a Change of
Control. To the extent that the provisions of any securities laws or
regulations conflict with the provisions of the covenant described hereunder,
Matrix Capital shall comply with the applicable securities laws and
regulations and shall not be deemed to have breached its obligations under the
covenant described hereunder by virtue thereof.
Pursuant to the Indenture, on the Change of Control Payment Date, Matrix
Capital will, to the extent lawful, (1) accept for payment all the Notes
properly tendered pursuant to the Change of Control Offer, (2) deposit with
the Paying Agent an amount equal to the Change of Control Payment in respect
of all the Notes so tendered and (3) deliver or cause to be delivered to the
Trustee the Notes so accepted together with an Officers' Certificate stating
the aggregate principal amount of the Notes being purchased by Matrix Capital.
The Paying Agent is required to promptly mail to each Holder of the Notes so
tendered the Change of Control Payment for such Notes.
82
<PAGE>
The Change of Control provisions described above will be applicable whether
or not the covenant described below under "--Certain Covenants--Merger,
Consolidation or Sale of Assets" is applicable. Except as described above with
respect to a Change of Control, the Indenture does not contain provisions that
permit the Holders of the Notes to require that Matrix Capital repurchase or
redeem the Notes in the event of a takeover, recapitalization or similar
transaction.
Certain of the Company's credit facilities contain, and future Indebtedness
of Matrix Capital or the Subsidiaries may contain, prohibitions of certain
events that could constitute a Change of Control. In addition, the financial
effect on Matrix Capital of the exercise by the Holders of the Notes of their
right to require Matrix Capital to repurchase the Notes could cause a default
under outstanding Indebtedness, even if the Change of Control itself does not.
In addition, Matrix Capital's ability to pay cash to the Holders of the Notes
upon a repurchase may be limited by Matrix Capital's then existing financial
resources.
Matrix Capital will not be required to make a Change of Control Offer upon a
Change of Control if a third party makes the Change of Control Offer in the
manner, at the times and otherwise in compliance with the requirements set
forth in the Indenture applicable to a Change of Control Offer and purchases
all the Notes validly tendered and not withdrawn under such Change of Control
Offer.
The definition of Change of Control includes a phrase relating to the sale,
lease, transfer, conveyance or other disposition of "all or substantially all"
of the assets of Matrix Capital and its Restricted Subsidiaries taken as a
whole. Although there is a developing body of case law interpreting the phrase
"substantially all," there is no precise established definition of the phrase
under applicable law. Accordingly, the ability of a Holder of the Notes to
require Matrix Capital to repurchase such Notes as a result of a sale, lease,
transfer, conveyance or other disposition of less than all of the assets of
Matrix Capital and its Restricted Subsidiaries, taken as a whole, to another
Person or group may be uncertain.
Asset Sales
The Indenture will provide that Matrix Capital will not, and will not permit
any of its Restricted Subsidiaries to, consummate an Asset Sale unless (i)
Matrix Capital (or the Restricted Subsidiary, as the case may be) receives
consideration at the time of such Asset Sale at least equal to the fair market
value (evidenced by an Officers' Certificate delivered to the Trustee and,
with respect to any Asset Sale involving consideration in excess of $2.5
million, a resolution of Matrix Capital's Board of Directors) of the assets or
Equity Interests issued or sold or otherwise disposed of and (ii) at least 85%
(or, in the case of the sale or other disposition of any Residual Receivables
(or interest therein), 50%) of the consideration therefor received by Matrix
Capital or such Restricted Subsidiary is in the form of Cash Equivalents;
provided that the amount of (x) any liabilities (as shown on Matrix Capital's
or such Restricted Subsidiary's most recent balance sheet) of Matrix Capital
or any Restricted Subsidiary (other than contingent liabilities and
liabilities that are by their terms subordinated to the Notes) that are
expressly assumed by the transferee of any such assets pursuant to a customary
novation agreement that releases Matrix Capital or such Restricted Subsidiary
from further liability and (y) any currencies, securities, notes or other
obligations received by Matrix Capital or any such Restricted Subsidiary from
such transferee that are converted by Matrix Capital or such Restricted
Subsidiary into Cash Equivalents within 30 days after receipt (to the extent
of the cash received), shall be deemed to be Cash Equivalents for purposes of
this provision.
The Indenture will permit Matrix Capital or the Restricted Subsidiary, as
the case may be, within 180 days after the receipt of any Net Proceeds from an
Asset Sale subject to this covenant, to apply an amount equal to 100% of such
Net Proceeds to (i) an Investment (other than in Receivables that, at the time
of purchase, are not Eligible Receivables), or (ii) the purchase of
Receivables that are, at the time of purchase, Eligible Receivables, or (iii)
the purchase of Servicing Rights which are eligible for collateral under any
Warehouse Facility, or (iv) the making of any capital expenditure, or (iv) the
acquisition of any other tangible assets, in each case, in or with respect to
a Permitted Business. Pending the final application of any such Net Proceeds,
Matrix Capital or such Restricted Subsidiary may temporarily reduce
outstanding Indebtedness or otherwise invest such Net Proceeds in any manner
not prohibited by the Indenture. Any Net Proceeds from Asset Sales not applied
or invested as provided in the preceding sentence of this paragraph will be
deemed to constitute "Excess
83
<PAGE>
Proceeds." When the aggregate amount of Excess Proceeds exceeds $5 million,
the Indenture will require Matrix Capital to make an offer to all Holders of
the Notes (an "Asset Sale Offer") to purchase the maximum principal amount of
the Notes that may be purchased out of the Excess Proceeds, at an offer price
in cash in an amount equal to 100% of the principal amount thereof plus
accrued and unpaid interest thereon to the date of purchase, in accordance
with the procedures set forth in the Indenture.
Notwithstanding the foregoing, the Indenture will further provide that
Matrix Capital will not, and will not permit any of its Restricted
Subsidiaries to, directly or indirectly, sell or otherwise convey or dispose
of any Residual Receivables or interest therein for consideration of which
less than 85% is in the form of Cash Equivalents, unless: (i) from and after
the Issue Date, upon the creation of any Senior Residual Receivables by Matrix
Capital or any Restricted Subsidiary, Matrix Capital shall designate, by an
Officers' Certificate delivered to the Trustee, Senior Residual Receivables
with an aggregate book value equal to 25% of the book value of the Senior
Residual Receivables so created as Retained Residual Receivables ("Retained
Residual Receivables") and no such designation shall have been revoked except
as provided below; (ii) none of the Residual Receivables sold, conveyed or
otherwise disposed of constitute Retained Residual Receivables unless after
giving effect to such sale, conveyance or other disposition the aggregate
amount of Senior Residual Receivables of Matrix Capital and its Restricted
Subsidiaries which are unencumbered by any Lien (of which no more than 25% of
the aggregate book value thereof shall constitute Retained Residual
Receivables) would be greater than or equal to 250% of all Senior Indebtedness
of Matrix Capital and its Restricted Subsidiaries; and (iii) after giving
effect to any such sale, conveyance or other disposition of Residual
Receivables the aggregate amount of Senior Residual Receivables of Matrix
Capital and its Restricted Subsidiaries which are unencumbered by any Lien (of
which not more than 25% of the aggregate book value thereof shall constitute
Retained Residual Receivables) would be greater than or equal to 150% of all
Senior Indebtedness of Matrix Capital and its Restricted Subsidiaries. The
Indenture will provide that from time to time Matrix Capital may revoke the
designation of any Senior Residual Receivable as a Retained Residual
Receivable if Matrix Capital simultaneously designates as Retained Residual
Receivables (in addition to any other such designation otherwise required by
the Indenture) Senior Residual Receivables (not subject to any Lien) with an
aggregate book value equal to or greater than that of the Senior Residual
Receivables as to which such designation has been revoked. Any determination
of the amount of Residual Receivables shall be based on the consolidated
balance sheet of Matrix Capital and its Restricted Subsidiaries for the most
recently ended fiscal quarter for which financial statements are available,
after giving pro forma effect to the Asset Sale for which such determination
is being made and to any other sale of or Lien on or reduction of Residual
Receivables since the date of such balance sheet.
To the extent that the aggregate amount of the Notes tendered pursuant to an
Asset Sale Offer is less than the Excess Proceeds, Matrix Capital or the
Restricted Subsidiary, as the case may be, may use any remaining Excess
Proceeds for general corporate purposes. If the aggregate principal amount of
the Notes surrendered by Holders thereof exceeds the amount of Excess
Proceeds, the Trustee is required to select the Notes to be purchased on a pro
rata basis. Upon completion of such Asset Sale Offer, the amount of Excess
Proceeds shall be reset at zero.
Under the Indenture, the Asset Sale Offer is required to remain open for the
minimum period of time required by Rule 14e-1 and no longer (the "Asset Sale
Offer Period"). Under the Indenture, no later than five Business Days after
termination of the Asset Sale Offer Period (the "Asset Sale Purchase Date"),
Matrix Capital is required to purchase the principal amount of the Notes
required to be purchased pursuant to this covenant (the "Asset Sale Offer
Amount") or, if less than the Asset Sale Offer Amount has been tendered, all
the Notes tendered in response to the Asset Sale Offer.
If the Asset Sale Purchase Date is on or after an interest payment record
date and on or before the related interest payment date, any accrued and
unpaid interest will be paid to the Person in whose name a Note is registered
at the close of business on such record date, and no additional interest will
be payable to Holders who tender the Notes pursuant to the Asset Sale Offer.
84
<PAGE>
Under the Indenture, on or before the Asset Sale Purchase Date, Matrix
Capital is required, to the extent lawful, to accept for payment, on a pro
rata basis, to the extent necessary, the Asset Sale Offer Amount of the Notes
or portions thereof tendered pursuant to the Asset Sale Offer, or if less than
the Asset Sale Offer Amount has been tendered, all such Notes tendered, and to
deliver to the Trustee an Officers' Certificate stating that such Notes or
portions thereof were accepted for payment by Matrix Capital in accordance
with the terms of this covenant. Matrix Capital, the depositary or the Paying
Agent, as the case may be, is required, not later than five days after the
Asset Sale Purchase Date, to mail or deliver to each tendering Holder an
amount equal to the purchase price of the Notes tendered by such Holder and
accepted by Matrix Capital for purchase, and Matrix Capital is required to
issue a new Note, and the Trustee, upon delivery of an Officers' Certificate
from Matrix Capital, is required to authenticate and mail or deliver such new
Note to such Holder, in a principal amount equal to any unpurchased portion of
any Note surrendered. Any Note not so accepted is required to be promptly
mailed or delivered by Matrix Capital to the Holder thereof. Matrix Capital
will publicly announce the results of the Asset Sale Offer on the Asset Sale
Purchase Date.
Matrix Capital will comply, to the extent applicable, with the requirements
of Rule 14e-1 and any other securities laws or regulations in connection with
the repurchase of any Notes pursuant to the covenant described hereunder. To
the extent that the provisions of any securities laws or regulations conflict
with the provisions of the covenant described hereunder, Matrix Capital shall
comply with the applicable securities laws and regulations and shall not be
deemed to have breached its obligations under the covenant described hereunder
by virtue thereof.
CERTAIN COVENANTS
Restricted Payments
The Indenture will provide that Matrix Capital will not, and will not permit
any of its Restricted Subsidiaries to, directly or indirectly: (i) declare or
pay any dividend or make any other payment or distribution on account of
Matrix Capital's or any of its Restricted Subsidiaries' Equity Interests
(including, without limitation, any payment in connection with any merger or
consolidation involving Matrix Capital) other than dividends or other payments
or distributions payable in Equity Interests (other than Disqualified Stock)
of Matrix Capital or dividends or other payments or distributions payable to
Matrix Capital or any Wholly-Owned Restricted Subsidiary of Matrix Capital;
(ii) purchase, redeem or otherwise acquire or retire for value (including,
without limitation, any payment in connection with any merger or consolidation
involving Matrix Capital) any Equity Interests of Matrix Capital (other than
any such Equity Interests owned by any Wholly-Owned Restricted Subsidiary of
Matrix Capital) or any direct or indirect parent of Matrix Capital; (iii) make
any principal payment on or with respect to, purchase, redeem, defease or
otherwise acquire or retire for value any Indebtedness that is subordinated to
the Notes (other than intercompany Indebtedness payable to Matrix Capital or a
Restricted Subsidiary by any Restricted Subsidiary), except at its stated
maturity and except for up to $2.9 million of any such Indebtedness
represented by the Senior Subordinated Notes that is outstanding on the Issue
Date; or (iv) make any Restricted Investment (all such payments and other
actions set forth in clauses (i) through (iv) above being collectively
referred to as "Restricted Payments"), unless, at the time of and after giving
effect to such Restricted Payment:
(a) no Default or Event of Default shall have occurred and be continuing or
would occur as a consequence thereof;
(b) Matrix Capital would, at the time of such Restricted Payment and after
giving pro forma effect thereto, have been permitted to incur at least $1.00
of additional Indebtedness pursuant to the Consolidated Leverage Ratio test
set forth in the first paragraph of the covenant described below under "--
Incurrence of Indebtedness and Issuance of Preferred Stock"; and
(c) such Restricted Payment, together with the aggregate amount of all other
Restricted Payments made by Matrix Capital and its Restricted Subsidiaries
after the Issue Date (excluding Restricted Payments permitted
85
<PAGE>
by clauses (ii) and (iii) of the next succeeding paragraph), is less than the
sum of (i) 25% of the aggregate cumulative Consolidated Net Income of Matrix
Capital for the period (taken as one accounting period) from and after the
last day of the first fiscal quarter ending immediately following the Issue
Date to the end of Matrix Capital's most recently ended fiscal quarter for
which internal financial statements are available at the time of such
Restricted Payment (or, if such Consolidated Net Income for such period is a
deficit, less 100% of such deficit); plus (ii) 100% of the aggregate net cash
proceeds received by Matrix Capital from the issue or sale since the Issue
Date of Equity Interests of Matrix Capital (other than Disqualified Stock) or
of Disqualified Stock or Indebtedness represented by securities of Matrix
Capital that have been converted into such Equity Interests (other than Equity
Interests or Disqualified Stock or convertible debt securities) sold to a
Subsidiary of Matrix Capital and other than Disqualified Stock or other
Indebtedness represented by securities that have been converted into
Disqualified Stock); plus (iii) to the extent that any Restricted Investment
that was made after the Issue Date is sold for cash or otherwise liquidated or
repaid for cash, the lesser of (A) the cash return of capital with respect to
such Restricted Investment (less the cost of disposition, if any) and (B) the
initial amount of such Restricted Investment.
The foregoing provisions will not prohibit the following Restricted
Payments: (i) the payment of any dividend within 60 days after the date of
declaration thereof, if at said date of declaration such payment would have
complied with the provisions of the Indenture; (ii) the purchase, redemption
or other acquisition or retirement for value of any Equity Interests of Matrix
Capital in exchange for, or out of the proceeds of, the substantially
concurrent sale (other than to a Subsidiary of Matrix Capital) of other Equity
Interests of Matrix Capital (other than any Disqualified Stock); provided,
that the amount of any such net cash proceeds that are utilized for such
redemption, repurchase, retirement or other acquisition shall be excluded from
clause (c)(ii) of the preceding paragraph; (iii) the payment of principal on,
or purchase, redemption, defeasance or other acquisition or retirement for
value of Indebtedness with the net cash proceeds from an incurrence of
Permitted Refinancing Indebtedness or the substantially concurrent sale (other
than to a Subsidiary of Matrix Capital) of Equity Interests of Matrix Capital
(other than Disqualified Stock); provided, that the amount of any such net
cash proceeds from any such sale of Equity Interests that are utilized for
such redemption, repurchase, retirement or other acquisition shall be excluded
from clause (c)(ii) of the preceding paragraph; (iv) payments in an amount not
to exceed $350,000 in the aggregate during any fiscal year of Matrix Capital
(plus any such amount not utilized in the preceding fiscal year) in connection
with the repurchase, redemption or other acquisition or retirement for value
of any Equity Interests of Matrix Capital held by an employee or director of
Matrix Capital or any of its Subsidiaries, related to compensation or
severance arrangements; (v) advances to a Securitization Trust required to be
made by Matrix Capital or any Restricted Subsidiary (in its capacity or the
holder of the residual interest in such trust) if such advances rank senior in
right of payment to all other interests in, and indebtedness of, such trust;
and (vi) the making and consummation of any offer to repurchase any
Indebtedness upon the occurrence of a change of control under and as defined
in the documents governing such Indebtedness; provided, that in connection
with Indebtedness incurred after the Issue Date, the definition of "change of
control" is the same in all material respects as the definition of "Change of
Control" set forth in the Indenture and payments pursuant thereto are not
required to be made prior to the date on which the Change of Control Payment
is required to be made under the Indenture and, with respect to any
Indebtedness subordinated in right of payment to the Notes, no sooner than 30
days after the date such Change of Control Offer is required to be made.
The Board of Directors may designate any Restricted Subsidiary to be an
Unrestricted Subsidiary if such designation would not cause a Default. For
purposes of making such determination, all outstanding Investments by Matrix
Capital and its Restricted Subsidiaries (except to the extent repaid in cash)
in the Subsidiary so designated will be deemed to be Restricted Payments at
the time of such designation and will reduce the amount available for
Restricted Payments under the first paragraph of this covenant. All such
outstanding Investments will be deemed to constitute Investments in an amount
equal to the fair market value of such Investments at the time of such
designation. Such designation will only be permitted if such Restricted
Payment would be permitted at such time and if such Restricted Subsidiary
otherwise meets the definition of an Unrestricted Subsidiary.
86
<PAGE>
The amount of all Restricted Payments other than cash shall be the fair
market value (evidenced by an Officers' Certificate on the date of the
Restricted Payment) of the asset(s) or securities proposed to be transferred
or issued by Matrix Capital or such Restricted Subsidiary, as the case may be,
pursuant to the Restricted Payment. The fair market value of any non-cash
Restricted Payment in excess of $350,000 shall be determined by the Board of
Directors whose resolution with respect thereto shall be delivered to the
Trustee, such determination to be based upon an opinion or appraisal issued by
an accounting, appraisal or investment banking firm of national standing if
such fair market value exceeds $3.5 million. Not later than the date of making
any Restricted Payment, Matrix Capital shall deliver to the Trustee an
Officers' Certificate stating that such Restricted Payment is permitted and
setting forth the basis upon which the calculations required by the covenant
"Restricted Payments" were computed.
Incurrence of Indebtedness and Issuance of Preferred Stock
The Indenture will provide that Matrix Capital will not, and will not permit
any of its Restricted Subsidiaries to, directly or indirectly, create, incur,
issue, assume, guaranty or otherwise become directly or indirectly liable,
contingently or otherwise, with respect to (collectively, "incur") any
Indebtedness (including Acquired Debt) or issue Disqualified Stock, and that
Matrix Capital will not permit any of its Restricted Subsidiaries to issue any
shares of preferred stock except for preferred stock issued to and held by
Matrix Capital or any Wholly-Owned Restricted Subsidiary of Matrix Capital,
provided that any subsequent issuance or transfer of Capital Stock that
results in such Wholly-Owned Restricted Subsidiary ceasing to be a Wholly-
Owned Restricted Subsidiary of Matrix Capital or any subsequent transfer of
such preferred stock (other than to Matrix Capital or any of its Wholly-Owned
Restricted Subsidiaries) will be deemed, in each case, to constitute the
issuance of such preferred stock by the issuer thereof; provided, however,
that Matrix Capital or any Subsidiary may incur Indebtedness (including
Acquired Debt and/or Senior Indebtedness) or issue Disqualified Stock and any
Subsidiary may issue preferred stock if, on the date of such incurrence or
issuance and after giving effect thereto, the Consolidated Leverage Ratio does
not exceed 2.0 to 1.0.
The foregoing provisions will not apply to:
(1) the incurrence by Matrix Capital or any Restricted Subsidiary of
Indebtedness represented by Capital Lease Obligations, mortgage financings or
purchase money obligations, in each case incurred for the purpose of financing
all or any part of the purchase price or cost of (A) assets (other than
Receivables or Servicing Rights) to be used in a Permitted Business; or (B)
construction or improvement of property used in the business of Matrix Capital
or such Restricted Subsidiary, in an aggregate principal amount not to exceed
in the aggregate as of any date an amount equal to 15% of Consolidated
Tangible Equity Capital as of such date.
(2) the existence of Warehouse Facilities, regardless of amount, and the
incurrence of Permitted Warehouse Debt by Matrix Capital or any of its
Restricted Subsidiaries; provided, however, that to the extent any such
Indebtedness of Matrix Capital or a Restricted Subsidiary of Matrix Capital
ceases to constitute Permitted Warehouse Debt, to such extent such
Indebtedness shall be deemed to be incurred by Matrix Capital or such
Restricted Subsidiary of Matrix Capital, as the case may be, at such time;
(3) the incurrence by Matrix Capital or any of its Restricted Subsidiaries
of intercompany Indebtedness owing to Matrix Capital or any of its Restricted
Subsidiaries; provided, however, that (i)(A) any subsequent issuance or
transfer of any Capital Stock which results in any such Indebtedness being
held by a Person other than a Restricted Subsidiary of Matrix Capital and (B)
any sale or transfer of any such Indebtedness to a Person that is not either
Matrix Capital or a Restricted Subsidiary of Matrix Capital, shall be deemed,
in each case, to constitute the incurrence of such Indebtedness by Matrix
Capital or such Restricted Subsidiary, as the case may be, and (ii) any
Indebtedness of Matrix Capital to any Restricted Subsidiary is permitted by
the covenant described above under "--Restricted Payments;"
(4) the incurrence by Matrix Capital of Indebtedness represented by the
Notes;
(5) Indebtedness of Matrix Capital and its Restricted Subsidiaries
outstanding on the Issue Date;
87
<PAGE>
(6) the incurrence by Matrix Capital or any of its Restricted Subsidiaries
of Permitted Refinancing Indebtedness with respect to Indebtedness that was
permitted by the Indenture to be incurred or that was outstanding at the Issue
Date;
(7) the incurrence by Matrix Capital or any of its Restricted Subsidiaries
of Hedging Obligations directly related to (i) Indebtedness of Matrix Capital
or a Restricted Subsidiary of Matrix Capital that was permitted by the
Indenture to be incurred, (ii) Receivables held by Matrix Capital or a
Restricted Subsidiary pending sale, (iii) Servicing Rights and Receivables of
Matrix Capital or a Restricted Subsidiary that have been sold pursuant to a
Warehouse Facility; or (iv) Receivables that Matrix Capital or a Restricted
Subsidiary reasonably expects to purchase or commit to purchase, finance or
accept as collateral; provided, however, that, in the case of each of the
foregoing clauses (i) through (iv), such Hedging Obligations are eligible to
receive hedge accounting treatment in accordance with GAAP as applied by
Matrix Capital and its Restricted Subsidiaries on the Issue Date;
(8) the incurrence of Acquired Debt by Matrix Capital or any Subsidiary in a
principal amount not to exceed $5.0 million in the aggregate since the Issue
Date (reduced by the amount of Acquired Debt repaid with Net Proceeds of Asset
Sales of the Restricted Subsidiary acquired subject to such Acquired Debt)
that is without recourse to Matrix Capital or any of its Restricted
Subsidiaries or any of their respective assets (other than the Subsidiary
acquired subject to such Acquired Debt), and is not guaranteed by any such
Person;
(9) the Guarantee by Matrix Capital or any Subsidiary of the Indebtedness of
Matrix Capital or another Subsidiary that was permitted to be incurred by
another provision of this covenant;
(10) the incurrence by Matrix Capital and the Subsidiaries of Indebtedness
in an aggregate principal amount at any time outstanding not to exceed $5
million; and
(11) (A) the incurrence by an Unrestricted Subsidiary of Matrix Capital of
Non-Recourse Debt (including, without limitation, Non-Recourse Debt that would
constitute Permitted Warehouse Debt if incurred by a Restricted Subsidiary of
Matrix Capital); provided, however, that if any such Indebtedness ceases to be
Non-Recourse Debt of the Unrestricted Subsidiary, such event shall be deemed
to constitute an incurrence of Indebtedness by a Restricted Subsidiary and (B)
the issuance by an Unrestricted Subsidiary of Matrix Capital of preferred
stock.
The Indenture will also provide that Matrix Capital will not, and will not
permit any Restricted Subsidiary to, incur any Indebtedness that is
contractually subordinated to any Indebtedness of Matrix Capital or any such
Subsidiary unless such Indebtedness is also contractually subordinated to the
Notes on substantially identical terms; provided, however, that no
Indebtedness shall be deemed to be contractually subordinated to any other
Indebtedness solely by virtue of being unsecured or of limited recourse.
For purposes of determining compliance with this covenant, in the event that
an item of Indebtedness meets the criteria of more than one of the categories
of Indebtedness described in clauses (1) through (11) above or is entitled to
be incurred pursuant to the first paragraph of this covenant, Matrix Capital
shall, in its sole discretion, classify such item of Indebtedness in any
manner that complies with this covenant and such item of Indebtedness will be
treated as having been incurred pursuant to only one of such clauses or
pursuant to the first paragraph hereof.
Liens
The Indenture will provide that Matrix Capital will not, and will not permit
any of its Restricted Subsidiaries to, directly or indirectly, create, incur,
assume or suffer to exist any Lien on any asset now owned or hereafter
acquired, or any income or profits therefrom or assign or convey any right to
receive income therefrom, except Permitted Liens.
88
<PAGE>
Dividend and Other Payment Restrictions Affecting Restricted Subsidiaries
The Indenture will provide that Matrix Capital will not, and will not permit
any of its Restricted Subsidiaries to, directly or indirectly, create or
otherwise cause or suffer to exist or become effective any encumbrance or
restriction on the ability of any Restricted Subsidiary to (i)(A) pay
dividends or make any other distributions to Matrix Capital or any of its
Restricted Subsidiaries (1) on its Capital Stock or (2) with respect to any
other interest or participation in, or measured by, its profits, or (B) pay
any Indebtedness owed to Matrix Capital or any of its Restricted Subsidiaries,
(ii) make loans or advances to Matrix Capital or any of its Restricted
Subsidiaries or (iii) transfer any of its properties or assets to Matrix
Capital or any of its Restricted Subsidiaries, except for such encumbrances or
restrictions existing under or by reason of (a) agreements relating to
Indebtedness as in effect as of the Issue Date, and any amendments,
modifications, restatements, renewals, increases, supplements, refundings,
additions (including additional Warehouse Facilities), replacements or
refinancings thereof, provided that such amendments, modifications,
restatements, renewals, increases, supplements, refundings, additions,
replacements or refinancings are not materially more restrictive with respect
to such dividend and other payment restrictions than those contained in the
agreements relating to Indebtedness as in effect on the Issue Date, (b)
applicable law, (c) any instrument governing Acquired Debt or Capital Stock of
a Person acquired by Matrix Capital or any of its Restricted Subsidiaries as
in effect at the time of such acquisition (except to the extent such Acquired
Debt was incurred or such Capital Stock was issued or its terms amended in
connection with or in contemplation of such acquisition), which encumbrance or
restriction is not applicable to any Person, or the property or assets of any
Person, other than the Person or the property or assets of the Person, so
acquired, provided that such Person is not taken into account in determining
on a pro forma basis whether such acquisition subject to such Acquired Debt
was permitted by the terms of the Indenture, (d) customary non-assignment
provisions in leases entered into in the ordinary course of business and
consistent with past practices, (e) purchase money obligations for property or
assets acquired in the ordinary course of business that impose restrictions of
the nature described in clause (iii) above on the property or assets so
acquired, and (f) Permitted Refinancing Indebtedness; provided that the
restrictions contained in the agreements governing such Permitted Refinancing
Indebtedness are not materially more restrictive than those contained in the
agreements governing the Indebtedness being refinanced.
Merger, Consolidation or Sale of Assets
The Indenture will provide that Matrix Capital may not consolidate or merge
with or into (whether or not Matrix Capital is the surviving corporation), or
sell, assign, transfer, lease, convey or otherwise dispose of all or
substantially all of its properties or assets in one or more related
transactions to, another Person unless (i) Matrix Capital is the surviving
corporation or the Person formed by or surviving any such consolidation or
merger (if other than Matrix Capital) or to which such sale, assignment,
transfer, lease, conveyance or other disposition shall have been made is a
corporation organized or existing under the laws of the United States, any
state thereof or the District of Columbia; (ii) the Person formed by or
surviving any such consolidation or merger (if other than Matrix Capital) or
the Person to which such sale, assignment, transfer, lease, conveyance or
other disposition shall have been made assumes all the obligations of Matrix
Capital under the Notes and the Indenture pursuant to a supplemental indenture
in a form reasonably satisfactory to the Trustee; (iii) immediately after such
transaction no Default or Event of Default exists; and (iv), except in the
case of a merger of Matrix Capital with or into a Wholly-Owned Subsidiary of
Matrix Capital, Matrix Capital or the Person formed by or surviving any such
consolidation or merger (if other than Matrix Capital), or to which such sale,
assignment, transfer, lease, conveyance or other disposition shall have been
made (A) will have Consolidated Net Worth immediately after the transaction
equal to or greater than the Consolidated Net Worth of Matrix Capital
immediately preceding the transaction and (B) will, at the time of such
transaction and after giving pro forma effect thereto, be permitted to incur
at least $1.00 of additional Indebtedness pursuant to the Consolidated
Leverage Ratio test in the first paragraph of the covenant described above
under "--Incurrence of Indebtedness and Issuance of Preferred Stock."
89
<PAGE>
Transactions with Affiliates
The Indenture will provide that Matrix Capital will not, and will not permit
any of its Restricted Subsidiaries to, sell, lease, transfer or otherwise
dispose of any of its properties or assets to, or purchase any property or
assets from, or enter into or make or amend any transaction, contract,
agreement, understanding, loan, advance or guarantee with, or for the benefit
of, any Affiliate (each of the foregoing actions, considered separately, an
"Affiliate Transaction"), unless (i) such Affiliate Transaction is on terms
that are no less favorable to Matrix Capital or the relevant Restricted
Subsidiary than those that would have been obtained in a comparable
transaction by Matrix Capital or such Restricted Subsidiary with an unrelated
Person and (ii) Matrix Capital delivers to the Trustee (a) with respect to any
Affiliate Transaction or series of related Affiliate Transactions involving
aggregate consideration in excess of $350,000, a resolution of the Board of
Directors set forth in an Officers' Certificate certifying that such Affiliate
Transaction complies with clause (i) above and that such Affiliate Transaction
has been approved by a majority of the disinterested members of the Board of
Directors and (b) with respect to any Affiliate Transaction or series of
related Affiliate Transactions involving aggregate consideration in excess of
$1.5 million, an opinion as to the fairness to Matrix Capital or such
Restricted Subsidiary of such Affiliate Transaction from a financial point of
view issued by an accounting, appraisal or investment banking firm of national
standing; provided that Affiliate Transactions shall not include (A) any
employment agreement, stock option, employee benefit, indemnification,
compensation (including the payment of reasonable fees to Directors of Matrix
Capital or its Restricted Subsidiaries who are not employees of Matrix Capital
or its Restricted Subsidiaries), business expense reimbursement or other
employment-related agreement, arrangement or plan entered into by Matrix
Capital or any of its Restricted Subsidiaries in the ordinary course of
business of Matrix Capital or such Restricted Subsidiary, (B) transactions
between or among Matrix Capital and/or its Restricted Subsidiaries not
otherwise prohibited by the Indenture, (C) loans or advances to employees in
the ordinary course of business of Matrix Capital or its Restricted
Subsidiaries, but in any event with respect to Restricted Subsidiaries other
than Subsidiary Bank not to exceed $500,000 in aggregate principal amount
outstanding at any one time, and in the case of Subsidiary Bank not to exceed
applicable individual and aggregate legal limits, and (D) Restricted Payments
other than Restricted Investments that are permitted by the provisions of the
Indenture described above under the caption "--Restricted Payments". The
foregoing provisions shall not apply to any transaction or agreement which
would constitute an Affiliate Transaction which is outstanding on the Issue
Date and is described in Matrix Capital's reports or proxy statements filed
with the Commission under "Certain Relationships and Related Transactions" or
equivalent headings.
Maintenance of Regulatory Capital Requirements.
Matrix Capital will not permit Subsidiary Bank to be classified as other
than "well capitalized" as defined by 12 C.F.R. Section 565.4 (or its
equivalent as such regulation may be amended from time to time).
Maintenance of Minimum Consolidated Tangible Equity Capital.
Matrix Capital will not at any time permit Consolidated Tangible Equity
Capital to be less than $35 million.
Business Activities
Matrix Capital will not, and will not permit any Restricted Subsidiary to,
engage in any business other than Permitted Businesses.
Payments for Consent
The Indenture will provide that neither Matrix Capital nor any of its
Subsidiaries will, directly or indirectly, pay or cause to be paid any
consideration, whether by way of interest, fee or otherwise, to any Holder of
any of the Notes for or as an inducement to any consent, waiver or amendment
of any of the terms or provisions of the Indenture or the Notes unless such
consideration is offered to be paid or is paid to all Holders of Notes that
consent, waive or agree to amend in the time frame set forth in the
solicitation documents relating to such consent, waiver or agreement.
90
<PAGE>
Reports
The Indenture will provide that, whether or not required by the rules and
regulations of the Commission, so long as any of the Notes are outstanding,
Matrix Capital will furnish to the Holders of the Notes (i) all quarterly and
annual financial information that would be required to be contained in a
filing with the Commission on Forms 10-Q and 10-K if Matrix Capital were
required to file such Forms, including a "Management's Discussion and Analysis
of Financial Condition and Results of Operations" that describes the financial
condition and results of operations of Matrix Capital and its consolidated
Subsidiaries (showing in reasonable detail, either on the face of the
financial statements or in the notes thereto and in Management's Discussion
and Analysis of Financial Condition and Results of Operations, the financial
condition and results of operations of Matrix Capital and its Restricted
Subsidiaries separately from the financial condition and results of operations
of the Unrestricted Subsidiaries of Matrix Capital that are Significant
Subsidiaries, individually or in the aggregate) and, with respect to the
annual information only, a report thereon by Matrix Capital's certified
independent accountants, (ii) all current reports that would be required to be
filed with the Commission on Form 8-K if Matrix Capital were required to file
such reports and (iii) if Matrix Capital or any Subsidiary affects a
Securitization, all periodic master servicing reports for each Securitization
Trust related to any such Securitization.
EVENTS OF DEFAULT AND REMEDIES
The Indenture will provide that each of the following constitutes an Event
of Default: (i) default for 30 days in the payment when due of interest on the
Notes; (ii) default in payment when due of the principal of or premium, if
any, on the Notes; (iii) failure by Matrix Capital to comply with the
provisions described above under "Change of Control," "Asset Sales,"
"Restricted Payments," "Incurrence of Indebtedness and Issuance of Preferred
Stock," "Merger, Consolidation or Sale of Assets," "Maintenance of Regulatory
Capital Requirements," "Maintenance of Minimum Consolidated Tangible Equity
Capital" or "Liens" and other provisions provided for in the Indenture; (iv)
failure by Matrix Capital for 60 days after notice to comply with any of its
other agreements in the Indenture or the Notes; (v) default under any
mortgage, indenture or instrument under which there may be issued or by which
there may be secured or evidenced any Indebtedness for money borrowed by
Matrix Capital or any of its Subsidiaries (or the payment of which is
guaranteed by Matrix Capital or any of its Subsidiaries) whether such
Indebtedness or guarantee now exists, or is created after the date of the
Indenture, which default (a) is caused by a failure to pay principal of or
premium, if any, or interest on such Indebtedness prior to the expiration of
the grace period provided in such Indebtedness on the date of such default (a
"Payment Default") or (b) results in the acceleration of such Indebtedness
prior to its express maturity and, in each case, the principal amount of any
such Indebtedness, together with the principal amount of any other such
Indebtedness under which there has been a Payment Default or the maturity of
which has been so accelerated, aggregates $1.5 million or more; (vi) failure
by Matrix Capital, the Subsidiary Bank or any of its other Subsidiaries to pay
final judgments aggregating in excess of $1.5 million, which judgments are not
paid, discharged or stayed for a period of 60 days; and (vii) certain events
of bankruptcy or insolvency with respect to Matrix Capital or any of its
Subsidiaries.
If any Event of Default occurs and is continuing, the Trustee or the Holders
of at least 25% in principal amount of the then outstanding Notes may declare
all the Notes to be due and payable immediately. Notwithstanding the
foregoing, in the case of an Event of Default arising from certain events of
bankruptcy or insolvency, with respect to Matrix Capital or any Subsidiary,
all outstanding Notes will become due and payable without further action or
notice. Holders of the Notes may not enforce the Indenture or the Notes except
as provided in the Indenture. Subject to certain limitations, Holders of a
majority in principal amount of the then outstanding Notes may direct the
Trustee in its exercise of any trust or power. The Trustee may withhold from
Holders of the Notes notice of any continuing Default or Event of Default
(except a Default or Event of Default relating to the payment of principal or
interest) if it determines that withholding notice is in their interest.
The Holders of a majority in aggregate principal amount of the Notes then
outstanding by notice to the Trustee may on behalf of the Holders of all of
the Notes waive any existing Default or Event of Default and its consequences
under the Indenture except a continuing Default or Event of Default in the
payment of premium, if any, or interest on, or the principal of, the Notes.
91
<PAGE>
Matrix Capital is required to deliver to the Trustee annually a statement
regarding compliance with the Indenture, and Matrix Capital is required, upon
becoming aware of any Default or Event of Default, to deliver to the Trustee a
statement specifying such Default or Event of Default. The "Events of Default
and Remedies" provisions described above shall apply to the Notes in lieu of
those described in the accompanying Prospectus.
NO PERSONAL LIABILITY OF DIRECTORS, OFFICERS, EMPLOYEES AND SHAREHOLDERS
No director, officer, employee, incorporator or shareholder of Matrix
Capital as such, shall have any liability for any obligations of Matrix
Capital under the Notes, the Indenture or for any claim based on, in respect
of, or by reason of, such obligations or their creation. Each Holder of the
Notes by accepting a Note waives and releases all such liability. The waiver
and release are part of the consideration for issuance of the Notes. Such
waiver may not be effective to waive liabilities under the federal securities
laws and it is the view of the Commission that such a waiver is against public
policy.
BOOK-ENTRY SYSTEM
Upon issuance of the Notes to the Depositary, the Depositary will credit on
its book-entry registration and transfer system to the accounts of
institutions that have accounts with the Depositary or the Depositary's
nominee (the "Participants") the aggregate principal amounts of such Notes
beneficially owned by such Participants. The accounts to be credited initially
shall be designated by the Underwriters. Beneficial ownership of the Notes
issued to the Depositary will be limited to the Participants or persons
holding interests throughthe Participants. The Participants' beneficial
ownership of the Notes will be shown on, and the transfer of such ownership
interest will be effected only through, records maintained by the Depositary
or its nominee. Beneficial ownership of the Notes by persons who hold through
the Participants will be shown on, and the transfer of such ownership interest
will be effected only through, records maintained by such Participant. The
laws of some jurisdictions require that certain purchasers of securities take
physical delivery of such securities in definitive form. Such laws and limits
may impair a Holder's ability to transfer beneficial ownership in the Notes.
Except as set forth below, book-entry beneficial owners of the Notes will
not be entitled to have such book- entry beneficial ownership registered in
their names on the Security Register, will not receive or be entitled to
receive physical delivery of the Notes beneficially owned by book-entry
registration, and will not be deemed to be the registered holders of the Notes
under the Indenture.
Accordingly, such person holding a book-entry beneficial interest in the
Notes must rely upon the procedures of the Depositary and, if such person is
not a Participant, on the procedures of the Participant through which such
person owns its interest, to exercise any rights of a Holder of the Notes
under the Indenture. The Indenture provides that the Depositary may grant
proxies or otherwise authorize Participants to take any action which a
registered holder of a Note under the Indenture is entitled to take. Matrix
Capital understands that under existing industry practice, in the event that
Matrix Capital requests any action of registered holders of the Notes under
the Indenture or a book-entry beneficial owner of such Notes desires to take
any action which a registered holder of a Note under the Indenture would be
entitled to take, the Depositary would authorize the Participants to take any
such action and the Participants would authorize the book-entry beneficial
owners holding the Notes through such Participants to take such action or
would otherwise act upon the instructions of the book- entry beneficial owners
holding the Notes through them.
The total amount of any principal and/or interest due to book-entry
beneficial owners with regard to the Notes an any Interest Payment Date,
redemption date or upon maturity will be made available by Matrix Capital to
the Paying Agent on such date. As soon as practicable thereafter, the Paying
Agent will make such payments available to the Depositary in accordance with
arrangements between the Paying Agent and the Depositary. Matrix Capital
expects that the Depositary upon receipt of any payment of interest or
principal in respect of the Notes will credit immediately the Participants'
book-entry accounts in amounts proportionate to their respective book- entry
beneficial interests in the Notes as reflected on the records of the
Depositary. Matrix Capital also expects that payments by the Participants to
the book-entry owners of beneficial interests in the Notes will be
92
<PAGE>
governed by standing instructions and customary practices, as is the case with
any securities held for the accounts of customers in bearer form or registered
in "street name." Neither Matrix Capital, the Paying Agent, the Trustee nor
any agent of Matrix Capital, Paying Agent or Trustee will have any
responsibility or liability for any aspect of such payments to the book-entry
accounts by the Depositary or the Participants or for maintaining, supervising
or reviewing any records relating to book-entry beneficial interests in the
Notes.
Pursuant to the policies of the Depositary, the Notes held by the Depositary
may not be transferred except as a whole by the Depositary to a nominee of
such Depositary or by a nominee of such Depositary to such Depositary or
another nominee of such Depositary or by the Depositary or such nominee to a
successor depositary or its nominees. Book-entry beneficial interests in the
Notes are exchangeable for Notes in denominations of $1,000 and integral
multiples thereof and fully registered in such names as the Depositary directs
if., (i) the Depositary holding the Notes notifies Matrix Capital that the
Depositary is unwilling, unable or ineligible to continue as Depositary for
the Notes and a successor depositary is not appointed by Matrix Capital within
60 days; (ii) Matrix Capital executes and delivers to the Trustee a Company
Order that such book-entry beneficial interests in the Notes be exchangeable
for fully registered Notes; or (iii) an Event of Default occurs and shall be
continuing as to the Notes. Subject to the foregoing, the book-entry
beneficial interests in the Notes shall not otherwise be exchangeable for
fully registered Notes.
LEGAL DEFEASANCE AND COVENANT DEFEASANCE
Matrix Capital may, at its option and at any time, elect to have all of its
obligations discharged with respect to the outstanding Notes ("Legal
Defeasance") except for (i) the rights of Holders of outstanding Notes to
receive payments in respect of the principal of, premium, if any, and interest
on such Notes when such payments are due from the trust referred to below,
(ii) Matrix Capital's obligations with respect to the Notes concerning issuing
temporary Notes, registration of the Notes, mutilated, destroyed, lost or
stolen Notes and the maintenance of an office or agency for payment and money
for security payments held in trust, (iii) the rights, powers, trusts, duties
and immunities of the Trustee, and Matrix Capital's obligations in connection
therewith and (iv) the Legal Defeasance provisions of the Indenture. In
addition, Matrix Capital may, at its option and at any time, elect to have the
obligations of Matrix Capital released with respect to certain covenants that
are described in the Indenture ("Covenant Defeasance") and thereafter any
omission to comply with such obligations shall not constitute a Default or
Event of Default with respect to the Notes. In the event Covenant Defeasance
occurs, certain events (not including non-payment, bankruptcy, receivership,
rehabilitation and insolvency events) described under "Events of Default and
Remedies" will no longer constitute an Event of Default with respect to the
Notes.
In order to exercise either Legal Defeasance or Covenant Defeasance, (i)
Matrix Capital must irrevocably deposit with the Trustee, in trust, for the
benefit of the Holders of the Notes, cash in U.S. dollars, non-callable
Government Securities, or a combination thereof, in such amounts as will be
sufficient, in the opinion of a nationally recognized firm of independent
public accountants, to pay the principal of, premium, if any, and interest on
the outstanding Notes on the stated maturity or on the applicable redemption
date, as the case may be, and Matrix Capital must specify whether the Notes
are being defeased to maturity or to a particular redemption date; (ii) in the
case of Legal Defeasance, Matrix Capital shall have delivered to the Trustee
an opinion of counsel in the United States reasonably acceptable to the
Trustee confirming that (A) Matrix Capital has received from, or there has
been published by, the Internal Revenue Service a ruling (B) since the date of
the Indenture, there has been a change in the applicable federal income tax
law, in either case to the effect that, and based thereon such opinion of
counsel shall confirm that, the Holders of the outstanding Notes will not
recognize income, gain or loss for federal income tax purposes as a result of
such Legal Defeasance and will be subject to federal income tax on the same
amounts, in the same manner and at the same times as would have been the case
if such Legal Defeasance had not occurred; (iii) in the case of the Covenant
Defeasance, Matrix Capital shall have delivered to the Trustee an opinion of
counsel in the United States reasonably acceptable to the Trustee confirming
that the Holders of the outstanding Notes will not recognize income, gain or
loss for federal income tax purposes as a result of such Covenant Defeasance
and will be subject to federal income tax on the same amounts, in the same
manner and at the same times as would have been the case if such Covenant
93
<PAGE>
Defeasance had not occurred; (iv) no Default or Event of Default shall have
occurred and be continuing on the date of such deposit (other than a Default
or Event of Default resulting from the borrowing of funds to be applied to
such deposit) or insofar as Events of Default from bankruptcy or insolvency
events are concerned, at any time in the period ending on the 91st day after
the date of deposit; (v) such Legal Defeasance or Covenant Defeasance will not
result in a breach or violation of, or constitute a default under any material
agreement or instrument (other than the Indenture) to which Matrix Capital or
any of its Subsidiaries is a party or by which Matrix Capital or any of its
Subsidiaries is bound; (vi) Matrix Capital must have delivered to the Trustee
an opinion of counsel to the effect that after the 91st day following the
deposit, the trust funds will not be subject to the effect of any applicable
bankruptcy, insolvency, reorganization or similar laws affecting creditors'
rights generally; (vii) Matrix Capital must deliver to the Trustee an
Officers' Certificate stating that the deposit was not made by Matrix Capital
with the intent of preferring the Holders of the Notes over the other
creditors of Matrix Capital with the intent of defeating, hindering, delaying
or defrauding creditors of Matrix Capital or others; and (viii) Matrix Capital
must deliver to the Trustee an Officers' Certificate and an opinion of
counsel, each stating that it has complied with all conditions precedent
provided for relating to the Legal Defeasance or the Covenant Defeasance.
TRANSFER AND EXCHANGE
A Holder may transfer or exchange the Notes in accordance with the
Indenture. The Registrar and the Trustee may require a Holder, among other
things, to furnish appropriate endorsements and transfer documents and Matrix
Capital is not required to transfer or exchange any Note selected for
redemption. Also, Matrix Capital is not required to transfer or exchange any
Note for a period of 15 days before a selection of the Notes to be redeemed.
The registered Holder of a Note will be treated as the owner of it for all
purposes.
AMENDMENT, SUPPLEMENT AND WAIVER
Except as provided in the next two succeeding paragraphs, the Indenture or
the Notes may be amended or supplemented with the consent of the Holders of at
least a majority in principal amount of the Notes then outstanding (including,
without limitation, consents obtained in connection with a purchase of, or
tender offer or exchange offer for, the Notes), and any existing default or
compliance with any provision of the Indenture or the Notes may be waived with
the consent of the Holders of a majority in principal amount of the then
outstanding Notes (including consents obtained in connection with a tender
offer or exchange offer for the Notes).
Without the consent of each Holder affected, an amendment or waiver may not
(with respect to any Notes held by a non-consenting Holder): (i) reduce the
principal amount of the Notes whose Holders must consent to an amendment,
supplement or waiver, (ii) reduce the principal of or change the fixed
maturity of any Note or alter the provisions with respect to the redemption of
the Notes (other than provisions relating to the covenants described above
under "Repurchase at the Option of Holders"), (iii) reduce the rate of or
change the time for payment of interest on any Note, (iv) waive a Default or
Event of Default in the payment of principal of or premium, if any, or
interest on the Notes (except a rescission of acceleration of the Notes by the
Holders of at least a majority in aggregate principal amount of the Notes and
a waiver of the payment default that resulted from such acceleration), (v)
make any Note payable in money other than that stated in the Notes, (vi) make
any change in the provisions of the Indenture relating to waivers of past
Defaults or the rights of Holders of the Notes to receive payments of
principal of or premium, if any, or interest on the Notes, (vii) waive a
redemption payment with respect to any Note (other than a payment required by
one of the covenants described above under "--Repurchase at the Option of
Holders") or (viii) make any change in the foregoing amendment and waiver
provisions.
Notwithstanding the foregoing, without the consent of any Holder of the
Notes, Matrix Capital and the Trustee may amend or supplement the Indenture or
the Notes to cure any ambiguity, defect or inconsistency, to provide for
uncertificated Notes in addition to or in place of certificated Notes
(provided that the uncertificated Notes are issued in registered form for
purposes of Section 163(f) of the Code, or in a manner such that the
uncertificated Notes are described in Section 163(f)(2)(B) of the Code), to
provide for the assumption of Matrix Capital's obligations to Holders of the
Notes in the case of a merger or consolidation, to make any change that
94
<PAGE>
would provide any additional rights or benefits to the Holders of the Notes or
that does not adversely affect the legal rights under the Indenture of any
such Holder, or to comply with requirements of the Commission in order to
effect or maintain the qualification of the Indenture under the Trust
Indenture Act.
CERTAIN DEFINITIONS
Set forth below are certain defined terms used in the Indenture. Reference
is made to the Indenture for a full disclosure of all such terms, as well as
any other capitalized terms used herein for which no definition is provided.
"Acquired Debt" means, with respect to any specified Person, (i)
Indebtedness of any other Person existing at the time such other Person is
merged with or into or became a Subsidiary of such specified Person,
including, without limitation, Indebtedness incurred in connection with, or in
contemplation of, such other Person merging with or into or becoming a
Subsidiary of such specified Person, and (ii) Indebtedness secured by a Lien
encumbering any asset acquired by such specified Person.
"Affiliate" of any specified Person means any other Person directly or
indirectly controlling or controlled by or under direct or indirect common
control with such specified Person. For purposes of this definition, "control"
(including, with correlative meanings, the terms "controlling," "controlled
by" and "under common control with"), as used with respect to any Person,
shall mean the possession, directly or indirectly, of the power to direct or
cause the direction of the management or policies of such Person, whether
through the ownership of voting securities, by agreement or otherwise;
provided, that beneficial ownership of 10% or more of the voting securities of
a Person shall be deemed to be control.
"Asset Sale" means (i) the sale, lease, conveyance or other disposition of
any assets (including, without limitation, by way of a sale and leaseback and
the sale or other disposition of any Residual Receivables) other than sales of
Receivables (including by means of Securitizations) Servicing Rights or
Warehouse Facilities and sales of foreclosed assets, in each case in the
ordinary course of business (provided that the sale, lease, conveyance or
other disposition of all or substantially all of the assets of Matrix Capital
and its Restricted Subsidiaries taken as a whole or of the Subsidiary Bank
will be governed by the provisions of the Indenture described above under the
caption "Change of Control" and/or the provisions described above under
"Merger, Consolidation or Sale of Assets" and not by the provisions of the
Asset Sale covenant), and (ii) the issuance by Matrix Capital or any of its
Restricted Subsidiaries of Equity Interests, or the sale by Matrix Capital or
any Restricted Subsidiary of any Equity Interests, in each case, of their
Subsidiaries (other than directors qualifying shares), in the case of either
clause (i) or (ii), whether in a single transaction or a series of related
transactions (a) that have a fair market value in excess of $2.5 million or
(b) for net proceeds in excess of $2.5 million. Notwithstanding the foregoing,
the following will not be deemed to be Asset Sales: (i) an issuance of Equity
Interests by a Wholly-Owned Restricted Subsidiary to Matrix Capital or to
another Wholly-Owned Restricted Subsidiary; (ii) a Restricted Payment that is
permitted by the covenant described above under "Restricted Payments"; (iii) a
disposition by a Restricted Subsidiary to Matrix Capital or a Wholly-Owned
Restricted Subsidiary or by Matrix Capital to a Wholly-Owned Restricted
Subsidiary of Matrix Capital; and (iv) any sale or other disposition of all or
any portion of the residential real estate project located in the City of Ft.
Lupton, Colorado.
"Capital Lease Obligation" means, at the time any determination thereof is
to be made, the amount of the liability in respect of a capital lease that
would at such time be required to be capitalized on a balance sheet in
accordance with GAAP.
"Capital Stock" means (i) in the case of a corporation, corporate stock,
(ii) in the case of an association or business entity, any and all shares,
interests, participations, rights or other equivalents (however designated) of
corporate stock, (iii) in the case of a partnership or limited liability
company, partnership (whether general or limited) or membership interests and
(iv) any other interest or participation that confers on a Person the right to
receive a share of the profits and losses of, or distributions of assets of,
the issuing Person.
95
<PAGE>
"Cash Equivalents" means (i) United States dollars, (ii) securities issued
or directly and fully guaranteed or insured by the United States government or
any agency or instrumentality thereof having maturities of not more than one
year from the date of acquisition, (iii) certificates of deposit and
Eurodollar time deposits with maturities of one year or less from the date of
acquisition, bankers' acceptances with maturities not exceeding one year and
overnight bank deposits, in each case with any domestic commercial bank having
capital and surplus in excess of $500.0 million and a Keefe Bank Watch Rating
of "B" or better, (iv) repurchase obligations with a term of not more than
seven days for underlying securities of the types described in clauses (ii)
and (iii) above entered into with any financial institution meeting the
qualifications specified in clause (iii) above, (v) commercial paper having
one of the two highest ratings obtainable from Moody's or Standard & Poor's
and in each case maturing within nine months after the date of acquisition,
and (vi) money market funds, the portfolios of which are limited to
investments described in clauses (i) through (v) above.
"Change of Control" means the occurrence of any of the following: (i) the
sale, lease, transfer, conveyance or other disposition (other than by way of
merger or consolidation and excluding sales, leases, transfers, conveyances or
other dispositions pursuant to financing arrangements otherwise permitted by
the Indenture entered into in the ordinary course of business), in one or a
series of related transactions, of all or substantially all of the assets of
Matrix Capital and its Restricted Subsidiaries taken as a whole, or of
Subsidiary Bank, to any "person" (as such term is used in Section 13(d)(3) of
the Exchange Act), (ii) the adoption of a plan relating to the liquidation or
dissolution of Matrix Capital or of Subsidiary Bank, (iii) the consummation of
any transaction (including, without limitation, any merger or consolidation)
the result of which is that any "person" (as defined above) becomes the
"beneficial owner" (as such term is defined in Rule 13d-3 and Rule 13d-5 under
the Exchange Act), directly or indirectly, of more than 50% of the Voting
Stock of Matrix Capital or of Subsidiary Bank (measured by general voting
power rather than number of shares), (iv) the first day on which a majority of
the members of the Board of Directors of Matrix Capital are not Continuing
Directors or (v) Matrix Capital or Subsidiary Bank consolidates with, or
merges with or into, any Person, or any Person consolidates with, or merges
with or into, Matrix Capital or Subsidiary Bank, in any such event pursuant to
a transaction in which any of the outstanding Voting Stock of Matrix Capital
is converted into or exchanged for cash, securities or other property, other
than any such transaction where the Voting Stock of Matrix Capital or of
Subsidiary Bank outstanding immediately prior to such transaction is converted
into or exchanged for Voting Stock (other than Disqualified Stock) of the
surviving or transferee Person constituting a majority, and in the case of
Subsidiary Bank 80% or more, of the outstanding shares of such Voting Stock of
such surviving or transferee Person (immediately after giving effect to such
issuance). For purposes of this definition, any transfer of an equity interest
of an entity that was formed for the purpose of acquiring Voting Stock of
Matrix Capital will be deemed to be a transfer of such portion of such Voting
Stock as corresponds to the portion of the equity of such entity that has been
so transferred.
"Code" means the Internal Revenue Code of 1986, as amended.
"Consolidated Leverage Ratio" as of any date of determination means the
ratio of (i) the aggregate amount of all consolidated Indebtedness of Matrix
Capital and its Restricted Subsidiaries excluding (A) Permitted Warehouse
Debt, and (B) Hedging Obligations permitted to be incurred pursuant to clause
(7) of the covenant described under "--Incurrence of Indebtedness and Issuance
of Preferred Stock" to (ii) the Consolidated Net Worth of Matrix Capital.
"Consolidated Net Income" means, with respect to any Person for any period,
the aggregate of the Net Income of such Person and its Restricted Subsidiaries
(for such period, on a consolidated basis, determined in accordance with
GAAP); provided, that (i) the Net Income (but not loss) of any Person that is
not a Restricted Subsidiary or that is accounted for by the equity method of
accounting shall be included only to the extent of the amount of dividends or
distributions paid in cash to the referent Person or a Wholly-Owned Restricted
Subsidiary thereof, (ii) the Net Income of any Restricted Subsidiary shall be
excluded to the extent that the declaration or payment of dividends or similar
distributions by that Restricted Subsidiary of that Net Income is not at the
date of determination permitted without any prior governmental approval that
has not been obtained (except in the case of Subsidiary Bank prior
notification requirements to applicable regulatory authorities) or, directly
or
96
<PAGE>
indirectly, by operation of the terms of its charter or any agreement,
instrument, judgment, decree, order, statute, rule or governmental regulation
applicable to that Restricted Subsidiary or its stockholders, (iii) the Net
Income of any Person acquired in a pooling of interests transaction for any
period prior to the date of such acquisition shall be excluded, and (iv) the
cumulative effect of a change in accounting principles shall be excluded.
"Consolidated Net Worth" means, with respect to any Person as of any date,
the sum of (i) the consolidated equity of the common stockholders of such
Person and its consolidated Restricted Subsidiaries as of such date plus (ii)
the respective amounts reported on such Person's balance sheet as of such date
with respect to any series of preferred stock (other than Disqualified Stock)
that by its terms is not entitled to the payment of dividends unless such
dividends may be declared and paid only out of net earnings in respect of the
year of such declaration and payment, but only to the extent of any cash
received by such Person upon issuance of such preferred stock, less (x) all
write-ups (other than write-ups resulting from foreign currency translations
and write-ups of tangible assets of a going concern made within 12 months
after the acquisition of such business) subsequent to the date of the
Indenture in the book value of any asset owned by such Person or a
consolidated Restricted Subsidiary of such Person, (y) all Investments as of
such date in unconsolidated Restricted Subsidiaries and in Persons that are
not Restricted Subsidiaries and (z) all unamortized debt discount and expense
and unamortized deferred charges as of such date, all of the foregoing
determined in accordance with GAAP.
"Consolidated Tangible Equity Capital" means, with respect to any Person as
of any date, Consolidated Net Worth minus Goodwill (as such term is defined
according to GAAP).
"Continuing Director" means, as of any date of determination, any member of
the Board of Directors of Matrix Capital who (i) was a member of such Board of
Directors on the Issue Date or (ii) was nominated for election or elected to
such Board of Directors with the approval of a majority of the directors
constituting Continuing Directors who were members of such Board at the time
of such nomination or election.
"Credit Enhancement Agreements" means, collectively, any documents,
instruments or agreements entered into by Matrix Capital or, any of its
Restricted Subsidiaries with any Person exclusively for the purpose of
providing credit support for asset-backed securities issued in connection with
Securitizations.
"Default" means any event that is or with the passage of time or the giving
of notice or both would be an Event of Default.
"Disqualified Stock" means any Capital Stock that either (A) by its terms
(or by the terms of any security into which it is convertible or for which it
is exchangeable), or upon the happening of any event, (i) matures or is
mandatorily redeemable, in whole or in part, pursuant to a sinking fund
obligation or otherwise or, (ii) is convertible into or exchangeable for
Indebtedness or Disqualified Stock, in whole or in part, or (iii) is
redeemable, in whole or in part, at the option of the Holder thereof at any
time, in any such case, on or prior to the date that is 91 days after the date
on which the Notes mature, or (B) is designated by Matrix Capital (in a
resolution of the Board of Directors delivered to the Trustee) as Disqualified
Stock.
"Eligible Receivables" means, at the time of determination, Receivables
meeting the sale or loan eligibility criteria set forth in one or more of the
Warehouse Facilities to which Matrix Capital or any of its Restricted
Subsidiaries is a party at such time and Receivables which are eligible for
sale in a Securitization.
"Equity Interests" means Capital Stock and all warrants, options or other
rights to acquire such Capital Stock (but excluding any debt security that is
convertible into, or exchangeable for, such Capital Stock).
"Excess Spread" means, over the life of a pool of Receivables that have been
sold by Matrix Capital or a Restricted Subsidiary in a Securitization, the
rights, other than Servicing Rights, retained by Matrix Capital or such
Restricted Subsidiary at or subsequent to the closing of such Securitization
or sale with respect to such pool, to receive cash flows attributable to such
pool.
97
<PAGE>
"Fair market value" means, with respect to any asset or property, the price
which could be negotiated in an arm's-length, free market transaction, for
cash, between an informed and willing seller and an informed and willing and
able buyer, neither of whom is under undue pressure or compulsion to complete
the transaction.
"GAAP" means generally accepted accounting principles set forth in the
opinions and pronouncements of the Accounting Principles Board of the American
Institute of Certified Public Accountants and statements and pronouncements of
the Financial Accounting Standards Board or in such other statements by such
other entity as have been approved by a significant segment of the accounting
profession, which are in effect from time to time.
"Guarantee" means a guarantee (other than by endorsement of negotiable
instruments for collection in the ordinary course of business), direct or
indirect, in any manner (including, without limitation, letters of credit and
reimbursement agreements in respect thereof), of all or any part of any
Indebtedness. Notwithstanding the foregoing, the term "Guarantee" does not
include obligations pursuant to representations, warranties, covenants and
indemnities in connection with a Warehouse Facility.
"Hedging Obligations" means, with respect to any Person, the obligations of
such Person under (i) interest rate or currency swap agreements, cap
agreements, collar agreements and related agreements and (ii) other agreements
or arrangements designed to protect such Person against fluctuations in value
of assets owned, financed or sold, or of liabilities incurred or assumed, or
of pre-funding arrangements, in any case in the ordinary course of business of
such Person and not for speculative purposes.
"Indebtedness" means, with respect to any Person, any indebtedness of such
Person, whether or not contingent, in respect of (i) borrowed money or
evidenced by bonds, notes, debentures or similar instruments or letters of
credit (or reimbursement agreements in respect thereof) or banker's
acceptances or representing Capital Lease Obligations or the unpaid deferred
balance of the purchase price of any property or representing any Hedging
Obligations, except any such balance that constitutes an accrued expense or
trade payable, if and to the extent any of the foregoing indebtedness (other
than letters of credit and Hedging Obligations) would appear as a liability
upon a balance sheet of such Person prepared in accordance with GAAP, (ii) all
indebtedness of others secured by a Lien on any asset of such Person (whether
or not such indebtedness is assumed by such Person), (iii) without
duplication, all Warehouse Debt, (iv) all obligations of such Person with
respect to the redemption, repayment or other repurchase of any Disqualified
Stock, and (v) to the extent not otherwise included, the Guarantee by such
Person of any indebtedness of any other Person to the extent of any Guarantee
of such indebtedness provided by such Person. Except in the case of Warehouse
Debt (the amount of which shall be determined in accordance with the
definition thereof) and except in the case of Hedging Obligations (the amount
of which shall be determined on a net basis after rights of set-off and
related positions), the amount of Indebtedness of any Person at any date shall
be the outstanding balance at such date of all unconditional obligations as
described above and the maximum liability, upon the occurrence of the
contingency giving rise to the obligation, of any contingent obligations at
such date. Notwithstanding the foregoing, the term "Indebtedness" does not
include: (a) obligations pursuant to representations, warranties, covenants
and indemnities in connection with a Securitization, Warehouse Facility or
other financing arrangement permitted by this Indenture entered into in the
ordinary course, (b) any deposits with Subsidiary Bank or Subsidiary Trust
Company or funds collected by either of them, (c) any banker's acceptance or
letter of credit issued by Subsidiary Bank, (d) any check, note, certificate
of deposit, money order, traveler's check, draft or bill of exchange issued,
accepted or endorsed by Subsidiary Bank or Subsidiary Trust Company, (e) any
discount with, borrowing from, or other obligation to any Federal Reserve
Bank, the Federal Deposit Insurance Corporation or any Federal Home Loan Bank
(or successor organization) which discount or borrowing is in the ordinary
course of Subsidiary Bank's banking business and not incurred in connection
with any unusual or extraordinary "rescue loan" or substantially similar
investment by such Federal Reserve Bank, the Federal Deposit Insurance
Corporation or the Federal Home Loan Bank (or successor organization), (f) any
agreement, made by Subsidiary Bank in the ordinary course of its banking
business, to purchase or repurchase securities, loans or federal funds, or to
participate in any such purchase or repurchase, (g) any transaction made by
Subsidiary Bank in the ordinary course of Subsidiary Bank's banking business
in the nature of any extension of credit, whether in the form of a commitment,
guarantee or otherwise, undertaken by it for the account of a third party with
the application by
98
<PAGE>
Subsidiary Bank of the same banking considerations and legal lending limits
that would be applicable if the transaction were a loan to such party, (h) any
transaction in which Subsidiary Bank or Subsidiary Trust Company in the
ordinary course of its banking, mortgage banking or trust business to its
customers solely in their capacities as such, (j) any other liability or
obligation of Subsidiary Bank or Subsidiary Trust Company incurred in the
ordinary course of its banking or trust business not involving any obligation
for borrowed money.
"Investments" means, with respect to any Person, all investments by such
Person in other Persons (including Affiliates) in the forms of direct or
indirect loans (including Guarantees of Indebtedness), advances or capital
contributions (excluding commission, travel and similar advances to officers
and employees made in the ordinary course of business), purchases or other
acquisitions for consideration of Cash Equivalents, Indebtedness, Equity
Interests or other securities, together with all items that are or would be
classified as investments on a balance sheet prepared in accordance with GAAP;
provided that an acquisition of Equity Interests or other securities by Matrix
Capital for consideration consisting of common equity securities of Matrix
Capital (other than Disqualified Stock) shall not be deemed to be an
Investment.
"Issue Date" means September 29, 1997.
"Lien" means, with respect to any asset, any mortgage, lien, pledge, charge,
security interest or encumbrance of any kind in respect of such asset, whether
or not filed, recorded or otherwise perfected under applicable law (including
any conditional sale or other title retention agreement, any lease in the
nature thereof, any option or other agreement to sell or give a security
interest in and any filing of or agreement to give any financing statement
under the Uniform Commercial Code (or equivalent statutes) of any
jurisdiction).
"Net Income" means, with respect to any Person, the net income (loss) of
such Person, determined in accordance with GAAP and before any reduction in
respect of preferred stock dividends, excluding, however, (i) any gain (but
not loss), together with any related provision for taxes on such gain (but not
loss), realized in connection with (a) any Asset Sale (including, without
limitation, dispositions pursuant to sale and leaseback transactions) or (b)
the disposition of any securities by such Person or any of its Restricted
Subsidiaries or the extinguishment of any Indebtedness of such Person or any
of its Restricted Subsidiaries and (ii) any extraordinary or nonrecurring gain
(but not loss), together with any related provision for taxes on such
extraordinary or nonrecurring gain (but not loss).
"Net Proceeds" means the aggregate Cash Equivalent proceeds received by
Matrix Capital or any of its Restricted Subsidiaries in respect of any Asset
Sale (including, without limitation, any Cash Equivalent received upon the
sale or other disposition of any non-cash consideration received in any Asset
Sale), net of the direct costs relating to such Asset Sale (including, without
limitation, legal, accounting and investment banking fees, and sales
commissions) and any relocation expenses incurred as a result thereof, taxes
paid or payable as a result thereof (after taking into account any available
tax credits or deductions and any tax sharing arrangements), amounts required
to be applied to the repayment of Indebtedness secured by a Lien on the asset
or assets that were the subject of such Asset Sale and any reserve for
adjustment in respect of the sale price of such asset or assets established in
accordance with GAAP.
"Non-Recourse Debt" means Indebtedness (i) as to which neither Matrix
Capital nor any of its Restricted Subsidiaries (a) provides credit support of
any kind (including any undertaking, agreement or instrument that would
constitute Indebtedness), or (b) is directly or indirectly liable (as a
guarantor or otherwise); and (ii) as to which the lenders have been notified
in writing that they will not have any recourse to the stock or assets of
Matrix Capital or any of its Restricted Subsidiaries.
"Permitted Businesses" means (a) any financial service business engaged in
by Matrix Capital or any Subsidiary as of the Issue Date and thereafter
(excluding the underwriting of securities) and (b) any activity related to the
residential real estate development project located in the City of Ft. Lupton,
Colorado as required to complete such project.
99
<PAGE>
"Permitted Investments" means (a) any Investment in Matrix Capital or in a
Restricted Subsidiary; (b) any Investment in Subsidiary Bank; (c) any
Investment in or related to the residential real estate development project
located in the City of Ft. Lupton, Colorado as required to complete such
project and any Refinancing of any related Indebtedness related to such
project; (d) any Investment in Cash Equivalents; (e) any Investment by Matrix
Capital or any Restricted Subsidiary in a Person if, as a result of such
Investment, (i) such Person becomes a Wholly-Owned Restricted Subsidiary that
is engaged in a Permitted Business or (ii) such Person is merged, consolidated
or amalgamated with or into, or transfers or conveys substantially all of its
assets to, or is liquidated into, Matrix Capital or a Wholly-Owned Restricted
Subsidiary and that is engaged in a Permitted Business; (f) any Restricted
Investment made as a result of the receipt of non-cash consideration from an
Asset Sale that was made pursuant to and in compliance with the covenant
described above under "Repurchase at the Option of Holders--Asset Sales;" (g)
any Investment in Receivables or Servicing Rights made in the ordinary course
of business; (h) any Investment in other assets which are to be used in a
Permitted Business in the ordinary course of such business; and (i) other
Investments in any Person (other than an Affiliate of Matrix Capital that is
not also a Subsidiary of Matrix Capital) that do not exceed as of any date in
the aggregate an amount equal to 10% of Consolidated Tangible Equity Capital
of as of such date.
"Permitted Liens" means (i) Liens on Receivables, Servicing Rights or other
assets (other than Residual Receivables) securing Warehouse Debt or Hedging
Obligations (or Guarantees of Warehouse Debt or Hedging Obligations); (ii)
Liens related to purchase money obligations incurred for the purpose of
financing a Permitted Investment; (iii) Liens on Servicing Rights, Residual
Receivables and on the Capital Stock of Restricted Subsidiaries of Matrix
Capital substantially all of the assets of which are Residual Receivables;
provided, however, that (x) all Retained Residual Receivables shall remain
unencumbered by any Lien unless after giving effect to such sale, conveyance
or other disposition the aggregate amount of Senior Residual Receivables of
Matrix Capital and its Restricted Subsidiaries which are unencumbered by any
Lien (of which no more than 25% of the aggregate book value thereof shall
constitute Retained Residual Receivables) would be greater than or equal to
250% of all Senior Indebtedness of Matrix Capital and its Restricted
Subsidiaries; and (y) after giving effect to the incurrence of such Lien the
aggregate amount of Senior Residual Receivables of Matrix Capital and its
Restricted Subsidiaries which are unencumbered by any Lien (of which not more
than 25% of the aggregate book value thereof shall constitute Retained
Residual Receivables) would be greater than or equal to 150% of all Senior
Indebtedness of Matrix Capital and its Restricted Subsidiaries; (iv) Liens in
favor of Matrix Capital or any Restricted Subsidiary; (v) Liens on property of
a Person existing at the time such Person is merged into or consolidated with
Matrix Capital or any Restricted Subsidiary of Matrix Capital; provided that
such Liens were in existence prior to the contemplation of such merger or
consolidation and do not extend to any assets other than those of the Person
merged into or consolidated with Matrix Capital or such Restricted Subsidiary;
(vi) Liens on property existing at the time of acquisition thereof by Matrix
Capital or any Restricted Subsidiary of Matrix Capital, provided that such
Liens were in existence prior to the contemplation of such acquisition; (vii)
Liens to secure the performance of statutory obligations, surety or appeal
bonds, performance bonds or other obligations of a like nature incurred in the
ordinary course of business; (viii) Liens to secure Indebtedness (including
Capital Lease Obligations) permitted by clause (1) of the second paragraph of
the covenant entitled "Incurrence of Indebtedness and Issuance of Preferred
Stock" covering only the assets acquired with such Indebtedness; (ix) Liens
existing on the Issue Date; (x) Liens for taxes, assessments or governmental
charges or claims that are not yet delinquent or that are being contested in
good faith by appropriate proceedings, provided that any reserve or other
appropriate provision as shall be required in conformity with GAAP shall have
been made therefor; (xi) Liens (including, without limitation, Liens on
Residual Receivables) in favor or a monoline insurance company or other
provider of credit enhancement pursuant to a Credit Enhancement Agreement;
(xii) Liens incurred in the ordinary course of business of Matrix Capital or
any Restricted Subsidiary of Matrix Capital with respect to obligations that
do not exceed $350,000 at any one time outstanding and that (a) are not
incurred in connection with the borrowing of money or the obtaining of
advances or credit (other than trade credit in the ordinary course of
business) and (b) do not in the aggregate materially detract from the value of
the property or materially impair the use thereof in the operation of business
by Matrix Capital or such Restricted Subsidiary; (xiii) Liens imposed by law,
including but not limited to carriers', warehousemen's and mechanics' Liens,
in each case for sums not yet due or being contested in good faith by
appropriate proceedings or, other Liens arising
100
<PAGE>
out of judgments or awards against Matrix Capital or any of its Restricted
Subsidiaries with respect to which Matrix Capital or such Restricted
Subsidiary shall then be proceeding with an appeal or other proceedings for
review; (xiv) survey exceptions, easements and other restrictions on the use
of property; (xv) Liens securing Indebtedness the proceeds of which were
utilized by Matrix Capital or a Restricted Subsidiary solely to fund any
advances to Securitization Trusts Permitted by clause (v) of the second full
paragraph under the caption "--Certain Covenants--Restricted Payments,"
provided that such Liens encumber no assets other than the contractual right
of Matrix Capital or such Restricted Subsidiary, as the case may be, to be
reimbursed in respect of any advances funded by such Indebtedness; (xvi) Liens
securing deposits or repurchase agreements of Subsidiary Bank; (xvii) Liens on
assets of Unrestricted Subsidiaries of Matrix Capital that secure Non-Recourse
Debt of Unrestricted Subsidiaries of Matrix Capital; and (xviii) Liens to
secure any Refinancing (or successive Refinancings), in whole or in part, of
any Indebtedness (or commitment for Indebtedness) existing on the Issue Date;
provided, however, that (x) any such new Lien shall be a Lien on the same
asset class or interest securing the original Lien and (y) the Indebtedness
secured by such Lien is not, solely by virtue of the Refinancing (unless
otherwise permitted by the Indenture), increased to an amount greater than the
greater of (A) the outstanding principal amount of the Indebtedness existing
on the Issue Date secured by such Lien, or (B) if such Lien secures
Indebtedness under a line of credit, the commitment amount of such line of
credit existing on the Issue Date. Any determination of Senior Residual
Receivable shall be based on the consolidated balance sheet of Matrix Capital
and its Restricted Subsidiaries for the most recently ended fiscal quarter for
which financial statements are available, after giving pro forma effect to the
Lien for which such determination is being made and to any other sale of or
Lien on or reduction of Residual Receivable since the date of such balance
sheet.
"Permitted Refinancing Indebtedness" means any Indebtedness or Disqualified
Stock of Matrix Capital or any of its Restricted Subsidiaries issued in
exchange for, or the net proceeds of which are used to extend, refinance,
renew, replace, defease or refund other Indebtedness or Disqualified Stock of
Matrix Capital or any of its Restricted Subsidiaries (other than Indebtedness
incurred pursuant to clauses (2), (3), (4), (9), (10) and (11) of the covenant
described under "Limitation on Incurrence of Indebtedness and Issuance of
Preferred Stock"; provided that: (i) the principal amount (or accreted value,
if applicable) or mandatory redemption amount of such Permitted Refinancing
Indebtedness does not exceed the principal amount of (or accreted value, if
applicable) or mandatory redemption amount, plus accrued interest or dividends
on, the Indebtedness or Disqualified Stock so extended, refinanced, renewed,
replaced, defeased or refunded (plus the amount of contractual prepayment
charges and reasonable expenses incurred in connection therewith); (ii) such
Permitted Refinancing Indebtedness has a final maturity or final redemption
date later than the final maturity or final redemption date of, and has a
Weighted Average Life to Maturity equal to or greater than the Weighted
Average Life to Maturity of, the Indebtedness or Disqualified Stock being
extended, refinanced, renewed, replaced, defeased or refunded; (iii) if the
Indebtedness or Disqualified Stock being extended, refinanced, renewed,
replaced, defeased or refunded is subordinated in right of payment to the
Notes, such Permitted Refinancing Indebtedness is subordinated in right of
payment to, the Notes on terms at least as favorable to the Holders of the
Notes as those contained in the documentation governing the Indebtedness or
Disqualified Stock being extended, refinanced, renewed, replaced, defeased or
refunded; and (iv) such Indebtedness is incurred or such Disqualified Stock is
issued either by Matrix Capital or by the Restricted Subsidiary who is the
obligor on the Indebtedness or Disqualified Stock being extended, refinanced,
renewed, replaced, defeased or refunded.
"Permitted Warehouse Debt" means Warehouse Debt of Matrix Capital or a
Restricted Subsidiary outstanding under one or more Warehouse Facilities
(excluding any Guarantees issued by Matrix Capital or a Restricted Subsidiary
in connection therewith); provided, however, that (i) the assets purchased
with proceeds of such Warehouse Debt are or, prior to any funding under the
Warehouse Facility with respect to such assets, were eligible to be recorded
as held for sale on the consolidated balance sheet of Matrix Capital and its
Restricted Subsidiaries in accordance with GAAP, (ii) such Warehouse Debt will
be deemed Permitted Warehouse Debt (a) in the case of a Purchase Facility,
only to the extent the holder of such Warehouse Debt has no contractual
recourse to Matrix Capital or any of its Restricted Subsidiaries to satisfy
claims in respect of such Warehouse Debt in excess of the realizable value of
the Eligible Receivables financed thereby, and (b) in the case of any other
Warehouse Facility, at the time such Warehouse Debt is incurred, only to the
extent of the lesser of (A)
101
<PAGE>
the amount advanced by the lender with respect to the Eligible Receivables
financed under such Warehouse Facility, and (B) 100% of the aggregate
principal amount of such Eligible Receivables and (iii) in the case of
Warehouse Debt that is not secured by a Lien on Eligible Receivables any such
Indebtedness incurred under such Warehouse Facility has not been outstanding
in excess of 364 days.
"Person" means any individual, corporation, partnership, joint venture,
association, joint stock company, limited liability company, trust,
unincorporated organization, government or any agency or political subdivision
thereof or any other entity.
"Purchase Facility" means any Warehouse Facility in the form of a purchase
and sale facility pursuant to which Matrix Capital or a Restricted Subsidiary
sells Receivables to a financial institution, commercial paper facility or
conduit and retains a right of first refusal or other repurchase arrangement
upon the subsequent resale of such Receivables by such financial institution,
commercial paper facility or conduit.
"Receivables" means residential mortgage, consumer and commercial mortgage
loans, leases and receivables purchased or originated by Matrix Capital or any
Restricted Subsidiary; provided, however, that for purposes of determining the
amount of a Receivable at any time, such amount shall be determined in
accordance with GAAP, consistently applied, as of the most recent practicable
date.
"Refinance" means, in respect of any Indebtedness, to extend, refinance,
renew, replace, defease, refund, repay, prepay, redeem, or retire, or to issue
other Indebtedness in exchange or replacement for, such Indebtedness.
"Refinanced" and "Refinancing" shall have correlative meanings.
"Residual Receivables" of Matrix Capital means at any time, the capitalized
asset value of Excess Spread of Matrix Capital and its Restricted Subsidiaries
(including, without limitation, subordinated, interest-only and residual
certificates of a Securitization Trust), with respect to any Receivable pool
of any Securitization Trust, calculated in accordance with GAPP.
"Restricted Investment" means an Investment other than a Permitted
Investment.
"Restricted Subsidiary" means any Subsidiary other than an Unrestricted
Subsidiary.
"Retained Residual Receivables" has the meaning specified under "--
Repurchase at Option of Holders-- Asset Sales."
"Securitization" means a public or private transfer of Receivables in the
ordinary course of business and by which Matrix Capital or a Restricted
Subsidiary directly or indirectly securitizes a pool of specialized
Receivables, including any such transaction involving the sale of specialized
Receivables to a Securitization Trust.
"Securitization Trust" means any Person that is not a Restricted Subsidiary
established exclusively for the purpose of issuing securities in connection
with any Securitization, the obligations of which are without recourse to
Matrix Capital or any of its Subsidiaries (other than obligations constituting
Indebtedness incurred in accordance with the first paragraph of the covenant
described under "Certain Covenants--Incurrence of Indebtedness and Issuance of
Preferred Stock").
"Senior Indebtedness" means all Indebtedness of any Person that is not
subordinated in right of payment to any other Indebtedness or other
obligations of such Person, including the Permitted Secured Indebtedness, but
excluding Permitted Warehouse Debt and Hedging Obligations permitted to be
incurred under the Indenture and, in the case of Indebtedness secured by
Senior Residual Receivables, the lesser of (x) the amount of such Indebtedness
and (y) the amount of the Senior Residual Receivables securing such
Indebtedness.
"Senior Residual Receivables" means Residual Receivables which have not been
created as the result of or in connection with the sale, securitization or
other disposition of other Residual Receivables.
102
<PAGE>
"Servicing Rights" means the contractual right to receive a fee for
processing and administering loan payments with respect to Receivables or
loans, leases or receivables originated by third parties or any interest in
such right.
"Subsidiary" means, with respect to any Person, (i) any corporation,
association or other business entity of which more than 50% of the total
voting power of shares of Capital Stock entitled (without regard to the
occurrence of any contingency) to vote in the election of directors, managers
or trustees thereof is at the time owned or controlled, directly or
indirectly, by such Person or one or more of the other Subsidiaries of that
Person (or a combination thereof) and (ii) any partnership or limited
liability company (a) the sole general partner or the managing general partner
or managing member of which is such Person or a Subsidiary of such Person or
(b) the only general partners or managing members of which are such Person or
one or more Subsidiaries of such Person (or any combination thereof).
"Subsidiary Bank" means Matrix Capital Bank, or its successor bank, and any
additional federally insured depository institution that may be acquired by
Matrix Capital in the future.
"Unrestricted Subsidiary" means any Subsidiary, other than Subsidiary Bank
and Matrix Financial, that is designated by the Board of Directors as an
Unrestricted Subsidiary pursuant to a Board Resolution; but only to the extent
that such Subsidiary: (a) is not party to any agreement, contract, arrangement
or understanding with Matrix Capital or any Restricted Subsidiary unless the
terms of any such agreement, contract, arrangement or understanding are no
less favorable to Matrix Capital or such Restricted Subsidiary that those that
might be obtained at the time from Persons who are not Affiliates of Matrix
Capital; (b) is a Person with respect to which neither Matrix Capital nor any
of its Restricted Subsidiaries has any direct or indirect obligation (other
than obligations constituting Indebtedness incurred in accordance with the
first paragraph of the covenant described under "Certain Covenants--Incurrence
of Indebtedness and Issuance of Preferred Stock") (x) to subscribe for
additional Equity Interests or (y) to maintain or preserve such Person's
financial condition or to cause such Person to achieve any specified levels of
operating results; and (c) has not guaranteed or otherwise directly or
indirectly provided credit support for any Indebtedness of Matrix Capital or
any of its Restricted Subsidiaries. Any such designation by the Board of
Directors shall be evidenced to the Trustee by filing with the Trustee a
certified copy of the Board Resolution giving effect to such designation and
an Officers' Certificate certifying that such designation complied with the
foregoing conditions and was permitted by the covenant described above under
the caption "Certain Covenants--Restricted Payments." If, at any time, any
Unrestricted Subsidiary would fail to meet the foregoing requirements as an
Unrestricted Subsidiary, it shall thereafter cease to be an Unrestricted
Subsidiary for purposes of the Indenture and any Indebtedness of such
Subsidiary shall be deemed to be incurred by a Restricted Subsidiary of Matrix
Capital as of such date (and, if such Indebtedness is not permitted to be
incurred as of such date under the covenant described under the caption
"Incurrence of Indebtedness and Issuance of Preferred Stock," Matrix Capital
shall be in default of such covenant). The Board of Directors of Matrix
Capital may at any time designate any Unrestricted Subsidiary to be a
Restricted Subsidiary, other than Subsidiary Bank and Matrix Financial;
provided that such designation shall be deemed to be an incurrence of
Indebtedness and issuance of preferred stock by a Restricted Subsidiary of
Matrix Capital of any outstanding Indebtedness of such Unrestricted Subsidiary
and such designation shall only be permitted if (i) such Indebtedness and
preferred stock is permitted under the covenant described under the caption
"Certain Covenants--Incurrence of Indebtedness and Issuance of Preferred
Stock," and (ii) no Default or Event of Default would exist following such
designation.
"Voting Stock" of any Person as of any date means the Capital Stock of such
Person that is at the time entitled to vote generally in the election of the
Board of Directors of such Person.
"Warehouse Debt" means Indebtedness of Matrix Capital or a Restricted
Subsidiary equal to the greater of (x) the consideration received by Matrix
Capital or its Restricted Subsidiaries under a Warehouse Facility and (y) in
the case of a Purchase Facility, the book value of the Eligible Receivables or
Servicing Rights financed under such Warehouse Facility, until such time as
such Eligible Receivables or Servicing Rights are (i)
103
<PAGE>
securitized, (ii) repurchased by Matrix Capital or its Restricted Subsidiaries
or (iii) sold by the counterparty under the Warehouse Facility to a Person who
is not an Affiliate of Matrix Capital, including any Guarantees issued by
Matrix Capital or a Restricted Subsidiary in connection therewith.
"Warehouse Facility" means any funding arrangement, including Purchase
Facilities, with a financial institution or other lender or purchaser or any
conduit or special purpose vehicle used in connection with such funding
arrangement, to the extent (and only to the extent) that Matrix Capital or any
of its Restricted Subsidiaries incurs Warehouse Debt thereunder exclusively to
finance or refinance the purchase or origination of Receivables or Servicing
Rights by Matrix Capital or a Restricted Subsidiary prior to securitization.
"Weighted Average Life to Maturity" means, when applied to any Indebtedness
or Disqualified Stock at any date, the number of years obtained by dividing
(i) the sum of the products obtained by multiplying (a) the amount of each
then remaining installment, sinking fund, serial maturity or other required
payments of principal, including payment at final maturity (or final
redemption, in the case of Disqualified Stock), in respect thereof, by (b) the
number of years (calculated to the nearest one-twelfth) that will elapse
between such date and the making of such payment, by (ii) the then outstanding
principal amount of such Indebtedness or mandatory redemption amount of
Disqualified Stock.
"Wholly-Owned Restricted Subsidiary" of any Person means a Restricted
Subsidiary of such Person all of the outstanding Capital Stock or other
ownership interests of which (other than directors' qualifying shares) shall
at the time be owned by such Person or by one or more Wholly-Owned Restricted
Subsidiaries of such Person.
104
<PAGE>
UNDERWRITING
Under the terms and subject to the conditions contained in the Purchase
Agreement (a copy of which is filed as an exhibit to the Registration
Statement of which this Prospectus is a part), the Underwriters named below
have severally agreed to purchase and the Company has agreed to sell to the
Underwriters $20,000,000 in aggregate principal amount of the Notes in the
dollar amount of the Notes set forth opposite their respective names:
<TABLE>
<CAPTION>
PRINCIPAL
UNDERWRITER AMOUNT
- ----------- -----------
<S> <C>
Keefe, Bruyette & Woods, Inc....................................... $10,000,000
Piper Jaffray Inc.................................................. 10,000,000
-----------
$20,000,000
===========
</TABLE>
The nature of the Underwriters' obligation is such that if any of the Notes
are purchased, all of them must be purchased. The Underwriters propose to
offer the Notes to the public at the Price to Public set forth on the cover
page of this Prospectus and to dealers at such price less a concession not in
excess of .27% of the principal amount of the Notes. The Underwriters may
allow and such dealers may re-allow a concession not in excess of .05% of the
principal amount of the Notes to certain other brokers and dealers. After the
offering, the Price to Public, concession and reallowance may be changed by
the Underwriters.
The Underwriting Agreement provides that the Company will indemnify the
Underwriters against certain civil liabilities, including liabilities under
the Securities Act or contribute to payments the Underwriters may be required
to make in respect thereof.
The Notes will not be listed on any securities exchange. The Company has
been advised by the Underwriters that the Underwriters currently intend to
make a market in the Notes, as permitted by applicable laws and regulations.
The Underwriters are not obligated, however, to make a market in the Notes and
any such market-making may be discontinued at any time at the sole discretion
of the Underwriters. Accordingly, no assurance can be given as to the
liquidity of, or trading markets for, the Notes.
In connection with this offering, certain Underwriters and selling group
members and their respective affiliates may engage in transactions that
stabilize, maintain or otherwise affect the market price of the Notes. Such
transactions may include stabilization transactions effected in accordance
with Rule 104 under Regulation M of the Securities Exchange Act of 1934 (the
"Exchange Act"), pursuant to which such person may bid for or purchase Notes
for the purpose of stabilizing its market price. The Underwriters also may
create a short position for the account of the Underwriters by selling more
Notes in connection with the offering than they are committed to purchase from
the Company, and in such case may purchase Notes in the open market following
completion of the offering to cover all or a portion of such short position.
In addition, the Underwriters may impose "penalty bids" under contractual
arrangements among the Underwriters whereby there may be reclaimed from an
Underwriter (or dealer participating in the offering) for the account of other
Underwriters, the selling concession with respect to the Notes that are
distributed in the offering but subsequently purchased for the account of the
Underwriters in the open market. Underwriters and prospective underwriters
intend to engage in passive market making in accordance with Rule 103 under
Regulation M of the Exchange Act, which, in general, permits entities which
are Nasdaq market makers to continue to maintain bids for the Notes so long as
certain price and daily quantity limits are observed. Any of the transactions
described in this paragraph may result in the maintenance of the price of the
Notes at a level above that which might otherwise prevail in the open market
in the absence of such transactions. None of the transactions described in
this paragraph is required, and, if they are undertaken, they may be
discontinued at any time.
The Underwriters and their respective affiliates may be customers of, engage
in transactions with, and perform services for the Company and its
subsidiaries in the ordinary course of business.
105
<PAGE>
LEGAL MATTERS
The validity of the Notes and certain matters related thereto will be passed
upon for the Company by Jenkens & Gilchrist, a Professional Corporation,
Dallas, Texas. Certain legal matters in connection with this offering will be
passed upon for the Underwriters by Manatt, Phelps & Phillips, LLP, Los
Angeles, California. Peter G. Weinstock, an advisory director of Matrix
Capital, is a member of Jenkens & Gilchrist, a Professional Corporation.
EXPERTS
The consolidated financial statements of the Company at December 31, 1996
and 1995 and for each of the three years in the period ended December 31,
1996, appearing in this Prospectus and Registration Statement have been
audited by Ernst & Young LLP, independent auditors, as set forth in their
report thereon appearing elsewhere herein, and are included in reliance upon
such report given upon the authority of such firm as experts in accounting and
auditing.
AVAILABLE INFORMATION
Matrix Capital has filed with the Commission a Registration Statement on
Form S-1 (together with all amendments and exhibits thereto the "Registration
Statement") under the Securities Act, with respect to the offering of the
securities offered hereby. This Prospectus does not contain all of the
information set forth in the Registration Statement, certain parts of which
are omitted in accordance with the rules and regulations of the Commission.
For further information with respect to the Company and the securities offered
hereby, reference is made to the Registration Statement and the exhibits and
the financial statements, notes and schedules filed as a part thereof or
incorporated by reference therein, which may be inspected at the public
reference facilities of the Commission, at the addresses set forth below.
Statements made in this Prospectus concerning the contents of any documents
referred to herein are not necessarily complete, and in each instance are
qualified in all respects by reference to the copy of such document filed as
an exhibit to the Registration Statement.
Matrix Capital is subject to the informational requirements of the Exchange
Act, and in accordance therewith files reports, proxy statements and other
information with the Commission. Reports, proxy statements, and other
information filed by Matrix Capital can be inspected and copies of such
material can be obtained at prescribed rates from the Public Reference Section
of the Commission, 450 Fifth Street, N.W., Room 1024, Judiciary Plaza,
Washington, D.C. 20549, and at the following Regional Offices of the
Commission: Chicago Regional Office, Citicorp Center, 500 West Madison Street,
Suite 1400, Chicago, Illinois 60661; and New York Regional Office, 7 World
Trade Center, Suite 1300, New York, New York 10048. The Commission also
maintains a Web site (http://www.sec.gov) at which reports, proxy and
information statements and other information regarding Matrix Capital may be
accessed. In addition, such reports, proxy statements and other information
can also be inspected at the offices of The Nasdaq Stock Market, 1735 K
Street, N.W., Washington, D.C. 20006.
106
<PAGE>
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Consolidated Financial Statements of Matrix Capital Corporation
Report of Independent Auditors........................................... F-2
Consolidated Balance Sheets--December 31, 1995 and 1996, and June 30,
1997 (unaudited)........................................................ F-3
Consolidated Statements of Income--for the years ended December 31, 1994,
1995 and 1996, and for the six months ended June 30, 1996 and June 30,
1997 (unaudited)........................................................ F-4
Consolidated Statements of Shareholders' Equity--for the years ended De-
cember 31, 1994, 1995 and 1996, and for the six months ended June 30,
1997 (unaudited)........................................................ F-5
Consolidated Statements of Cash Flows--for the years ended December 31,
1994, 1995 and 1996, and for the six months ended June 30, 1996 and 1997
(unaudited)............................................................. F-6
Notes to Consolidated Financial Statements--December 31, 1996 and June
30, 1997 (unaudited).................................................... F-7
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
SHAREHOLDERS AND BOARD OF DIRECTORS
MATRIX CAPITAL CORPORATION
We have audited the accompanying consolidated balance sheets of Matrix
Capital Corporation (Company) as of December 31, 1995 and 1996, and the
related consolidated statements of income, shareholders' equity, and cash
flows for each of the three years in the period ended December 31, 1996. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to
obtain reasonable assurance about whether the consolidated financial
statements are free of material misstatement. An audit includes examining, on
a test basis, evidence supporting the amounts and disclosures in the
consolidated financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as
well as evaluating the overall consolidated financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of the Company at December 31, 1995 and 1996, and the consolidated results of
its operations and its cash flows for each of the three years in the period
ended December 31, 1996 in conformity with generally accepted accounting
principles.
As discussed in Note 2 to the consolidated financial statements, in 1995 the
Company changed its method of accounting for mortgage servicing rights as a
result of adopting Statement of Financial Accounting Standards No. 122,
Accounting for Mortgage Servicing Rights.
/s/ ERNST & YOUNG LLP
Phoenix, Arizona
May 30, 1997
F-2
<PAGE>
MATRIX CAPITAL CORPORATION
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31
----------------- JUNE 30
1995 1996 1997
-------- -------- -----------
(UNAUDITED)
ASSETS
<S> <C> <C> <C>
Cash............................................. $ 1,929 $ 2,855 $ 10,564
Interest earning deposits........................ 6,061 9,754 11,766
Loans held for sale, net......................... 127,090 182,801 343,146
Loans held for investment, net................... 19,575 29,560 50,641
Mortgage servicing rights, net................... 13,817 23,680 30,811
Other receivables................................ 5,609 9,353 36,005
Federal Home Loan Bank of Dallas stock........... 1,954 2,871 4,807
Premises and equipment, net...................... 6,167 7,887 8,622
Deferred income tax benefit...................... -- 54 54
Other assets..................................... 4,111 5,744 6,147
-------- -------- --------
Total assets................................. $186,313 $274,559 $502,563
======== ======== ========
<CAPTION>
LIABILITIES AND SHAREHOLDERS' EQUITY
<S> <C> <C> <C>
Liabilities:
Deposits....................................... $ 48,877 $ 90,179 $202,598
Custodial escrow balances...................... 27,011 37,881 80,924
Drafts payable................................. 8,817 5,961 7,956
Payable for purchase of mortgage servicing
rights........................................ 1,312 8,044 4,652
Federal Home Loan Bank of Dallas borrowings.... 19,000 51,250 70,600
Borrowed money................................. 65,093 42,431 87,451
Other liabilities.............................. 4,491 5,502 12,464
Income taxes payable........................... 1,026 1,041 24
-------- -------- --------
Total liabilities............................ 175,627 242,289 466,669
Commitments and contingencies
Shareholders' equity:
Preferred stock, par value $.0001; authorized
5,000,000 shares; no shares outstanding
Common stock, par value $.0001; authorized
50,000,000 shares; issued and outstanding
4,668,531, 6,681,031 and 6,681,031 shares at
December 31, 1995 and 1996 and June 30, 1997,
respectively.................................. -- 1 1
Additional paid in capital..................... 3,769 21,983 21,983
Retained earnings.............................. 6,917 10,286 13,910
-------- -------- --------
Total shareholders' equity................... 10,686 32,270 35,894
-------- -------- --------
Total liabilities and shareholders' equity... $186,313 $274,559 $502,563
======== ======== ========
</TABLE>
See accompanying notes.
F-3
<PAGE>
MATRIX CAPITAL CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(DOLLARS IN THOUSANDS EXCEPT PER SHARE INFORMATION)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED DECEMBER 31 JUNE 30
----------------------------- -------------------
1994 1995 1996 1996 1997
--------- --------- --------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
INTEREST INCOME
Loans and mortgage backed
securities............... $ 6,681 $ 10,412 $ 16,084 $ 7,847 $ 12,563
Interest earning
deposits................. 349 374 465 217 559
--------- --------- --------- --------- ---------
Total interest income... 7,030 10,786 16,549 8,064 13,122
INTEREST EXPENSE
Savings and time
deposits................. 1,210 1,892 3,292 1,328 2,381
Demand and money market
deposits................. 271 292 468 233 1,456
FHLB borrowings........... 213 1,113 2,039 976 718
Borrowed money............ 1,332 3,897 4,691 2,862 2,796
--------- --------- --------- --------- ---------
Total interest expense.. 3,026 7,194 10,490 5,399 7,351
--------- --------- --------- --------- ---------
Net interest income before
provision for loan and
valuation losses........... 4,004 3,592 6,059 2,665 5,771
Provision for loan and
valuation losses........... 216 401 143 152 297
--------- --------- --------- --------- ---------
Net interest income......... 3,788 3,191 5,916 2,513 5,474
NONINTEREST INCOME
Loan administration....... 6,926 7,749 8,827 4,632 8,264
Brokerage................. 4,017 4,787 4,364 1,947 1,961
Trust services............ 2,488 2,869 3,061 1,616 1,768
Gain on sale of loans and
mortgage backed
securities............... 1,590 3,272 3,369 852 964
Gain on sale of mortgage
servicing rights......... 684 1,164 3,232 1,091 2,352
Loan origination.......... 1,294 2,069 1,561 194 1,509
Other..................... 940 1,744 2,173 933 1,537
--------- --------- --------- --------- ---------
Total noninterest
income................. 17,939 23,654 26,587 11,265 18,355
NONINTEREST EXPENSE
Compensation and employee
benefits................. 8,929 10,527 12,722 6,137 6,904
Amortization of mortgage
servicing rights......... 1,185 1,817 2,432 1,184 3,175
Occupancy and equipment... 1,434 1,451 1,776 902 977
Professional fees......... 638 783 666 240 418
Data processing........... 520 560 642 287 365
Losses related to recourse
sales.................... -- -- 787 -- 1,125
Federal Deposit Insurance
Corporation premiums..... 176 155 635 19 22
Other general and
administrative........... 3,711 5,160 6,995 2,517 4,944
--------- --------- --------- --------- ---------
Total noninterest
expense................ 16,593 20,453 26,655 11,286 17,930
--------- --------- --------- --------- ---------
Income before income
taxes.................... 5,134 6,392 5,848 2,492 5,899
Provision for income
taxes.................... 2,014 2,469 2,278 991 2,275
--------- --------- --------- --------- ---------
Net income................ $ 3,120 $ 3,923 $ 3,570 $ 1,501 $ 3,624
========= ========= ========= ========= =========
Net income per common and
common equivalent share.. $ .69 $ .83 $ .68 $ .31 $ .53
========= ========= ========= ========= =========
Weighted average common
and common equivalent
shares................... 4,529,593 4,707,221 5,077,040 4,707,221 6,776,895
========= ========= ========= ========= =========
</TABLE>
See accompanying notes.
F-4
<PAGE>
MATRIX CAPITAL CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL RETAINED
---------------- PAID IN EARNINGS
SHARES AMOUNT CAPITAL (DEFICIT) TOTAL
--------- ------ ---------- -------- -------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1993... 4,529,593 $-- $ 3,660 $ (126) $ 3,534
Capital contribution into
pooled company prior to merg-
er............................ -- -- 8 -- 8
Net income..................... -- -- -- 3,120 3,120
--------- --- ------- ------- -------
Balance at December 31, 1994... 4,529,593 -- 3,668 2,994 6,662
Issuance of stock for servic-
es............................ 138,938 -- 101 -- 101
Net income..................... -- -- -- 3,923 3,923
--------- --- ------- ------- -------
Balance at December 31, 1995... 4,668,531 -- 3,769 6,917 10,686
Issuance of stock, net of issu-
ance costs of $1,934.......... 2,012,500 1 18,190 -- 18,191
Cash dividends paid by pooled
company prior to merger....... -- -- -- (201) (201)
Capital contribution into
pooled company prior to merg-
er............................ -- -- 24 -- 24
Net income..................... -- -- -- 3,570 3,570
--------- --- ------- ------- -------
Balance at December 31, 1996... 6,681,031 1 21,983 10,286 32,270
Net income (unaudited)......... -- -- -- 3,624 3,624
--------- --- ------- ------- -------
Balance at June 30, 1997 (unau-
dited)........................ 6,681,031 $ 1 $21,983 $13,910 $35,894
========= === ======= ======= =======
</TABLE>
See accompanying notes.
F-5
<PAGE>
MATRIX CAPITAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED DECEMBER 31 JUNE 30
-------------------------- -----------------
1994 1995 1996 1996 1997
------- ------- -------- ------- --------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
OPERATING ACTIVITIES
Net income..................... $ 3,120 $ 3,923 $ 3,570 $ 1,501 $ 3,624
Adjustments to reconcile net
income to net cash used by op-
erating activities:
Depreciation and amortiza-
tion......................... 615 882 1,106 359 691
Provision for loan and valua-
tion losses.................. 216 401 143 152 297
Amortization of mortgage ser-
vicing rights................ 1,185 1,817 2,432 1,184 3,175
Noncash compensation expense.. -- 101 -- -- --
Accretion of premium on depos-
its.......................... (68) (28) (7) (7) --
Deferred income taxes......... 286 212 (54) -- --
Gain on sale of loans and
mortgage backed securities... (1,590) (3,272) (3,369) (852) (964)
Gain on sale of mortgage ser-
vicing rights................ (684) (1,164) (3,232) (1,091) (2,352)
Losses related to recourse
sales........................ -- -- 787 -- 1,125
Loans originated for sale, net
of loans sold................ (4,681) (38,591) 8,099 11,732 (10,973)
Loans purchased for sale...... (80,048) (91,774) (159,015) (65,262) (208,483)
Proceeds from sale of loans
purchased for sale........... 62,727 70,159 57,395 44,169 38,430
Gain on sale of premises and
equipment.................... -- -- (78) -- --
Originated mortgage servicing
rights, net.................. -- (885) (441) (462) (42)
Increase in due from broker... -- -- -- (21,153) --
Increase in other receivables
and other assets............. (2,288) (3,738) (796) (5,572) (11,666)
Increase (decrease) in other
liabilities and income taxes
payable...................... 942 (20) (2,320) (481) 5,945
------- ------- -------- ------- --------
Net cash used by operating ac-
tivities...................... (20,268) (61,977) (95,780) (35,783) (181,193)
INVESTING ACTIVITIES
Loans originated and purchased
for investment................ (423) (2,919) (15,048) (2,608) (28,194)
Principal repayments on loans.. 10,962 17,517 22,982 11,789 28,457
Purchase of Federal Home Loan
Bank of Dallas stock.......... (536) (814) (917) (703) (1,936)
Purchases of premises and
equipment..................... (1,957) (1,963) (2,695) (1,077) (1,273)
Purchase of land under develop-
ment.......................... -- -- (1,431) (1,292) --
Purchase of revenue anticipa-
tion warrants................. -- -- (818) -- --
Purchase of residential homes.. -- -- (1,003) -- --
Acquisition of mortgage servic-
ing rights.................... (3,920) (9,654) (10,410) (2,487) (29,100)
Proceeds from sale of mortgage
servicing rights.............. 677 1,769 8,410 5,071 3,128
Proceeds from sale of available
for sale securities........... -- -- 21,548 -- --
------- ------- -------- ------- --------
Net cash provided (used) by in-
vesting activities............ 4,803 3,936 20,618 8,693 (28,918)
FINANCING ACTIVITIES
Net (decrease) increase in de-
posits........................ (3,539) 6,995 41,309 24,639 112,419
Net (decrease) increase in cus-
todial escrow balances........ (7,107) 2,324 10,870 (322) 43,043
Increase in revolving lines and
repurchase agreements, net.... 20,409 39,384 17,151 1,991 35,326
Repayments of notes payable.... (605) (3,865) (13,923) (927) (5,434)
Proceeds from notes payable.... 2,893 12,933 6,924 3,494 34,558
Proceeds from senior subordi-
nated notes................... -- 2,910 -- -- --
Repayment of financing arrange-
ments......................... (639) (307) (564) (162) (80)
Dividends paid by pooled com-
pany prior to merger.......... -- -- (201) (66) --
Capital contribution into
pooled company prior to merg-
er............................ 8 -- 24 24 --
Proceeds from issuance of com-
mon stock..................... -- -- 18,191 -- --
------- ------- -------- ------- --------
Net cash provided by financing
activities.................... 11,420 60,374 79,781 28,671 219,832
------- ------- -------- ------- --------
(Decrease) increase in cash and
cash equivalents.............. (4,045) 2,333 4,619 1,581 9,721
Cash and cash equivalents at
beginning of period........... 9,702 5,657 7,990 7,989 2,609
------- ------- -------- ------- --------
Cash and cash equivalents at
end of period................. $ 5,657 $ 7,990 $ 12,609 $ 9,570 $ 22,330
======= ======= ======== ======= ========
SUPPLEMENTAL DISCLOSURE OF
NONCASH ACTIVITY
Payable for purchase of mort-
gage servicing rights......... $ 1,763 $ 1,312 $ 8,044 $ 297 $ 4,652
======= ======= ======== ======= ========
Drafts payable................. $ -- $ 8,817 $ 5,961 $10,775 $ 7,956
======= ======= ======== ======= ========
SUPPLEMENTAL DISCLOSURE OF CASH
FLOW INFORMATION
Cash paid for interest ex-
pense......................... $ 2,949 $ 6,489 $ 10,598 $ 5,392 $ 7,013
======= ======= ======== ======= ========
Cash paid for income taxes..... $ 1,702 $ 1,766 $ 2,298 $ 831 $ 3,292
======= ======= ======== ======= ========
</TABLE>
See accompanying notes.
F-6
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996 AND JUNE 30, 1997
(The information as of June 30, 1997 and for the six months
ended June 30, 1996 and 1997 is unaudited)
1. ORGANIZATION
On June 30, 1993, Matrix Capital Corporation (Company) was formed and
exchanged 1,000,000 shares of its common stock for 100 percent of the common
stock of United Financial, Inc. (United Financial), Matrix Financial Services
Corporation (Matrix Financial) and another company with minimal assets or
operations. The merger was accounted for as a pooling of interests and,
accordingly, the 1993 consolidated financial statements were restated to
include the accounts and operations of the companies prior to the merger.
On October 18, 1996, the Company completed its initial public offering by
selling 1,750,000 shares of common stock at a price of $10.00 per share. On
November 18, 1996, the underwriters exercised their option to purchase an
additional 262,500 shares of the Company's common stock (over-allotment) at
the initial public offering price of $10.00. The net proceeds received in the
offering were approximately $18.2 million.
On September 23, 1993 the Company acquired Dona Ana Savings Bank, FSB
(changed its name to Matrix Capital Bank, herein referred to as Matrix Bank),
a federally chartered savings and loan association. Upon the acquisition of
Matrix Bank, the Company became a unitary savings and loan holding company
which, through its subsidiaries, is engaged in a single industry segment, the
financial services industries.
The Company's mortgage banking business is conducted through Matrix
Financial, and was established with the primary objective of acquiring,
originating and servicing residential mortgage loan servicing rights.
Servicing mortgage loans involves the contractual right to receive a fee for
processing and administering mortgage loan payments. The Company acquires
servicing rights primarily in the secondary market and on a more limited basis
through Matrix Financial's wholesale loan origination offices in the Atlanta,
Denver, and Phoenix metropolitan areas.
In June 1996, Matrix Financial formed an operating subsidiary, Matrix
Funding Corp., which purchased 154 acres of land for $1.3 million in cash for
the purpose of developing residential and multi-family lots in Ft. Lupton,
Colorado.
Matrix Bank serves its local community by providing a full range of personal
and business depository services, offering residential and consumer loans, and
providing, on a limited basis, commercial real estate loans. Matrix Bank's
participation in the mortgage banking business includes the purchase of bulk
residential loan portfolios, with the intent of reselling the majority of the
loans, and extends to acquisitions of servicing portfolios, which are in turn
subserviced by Matrix Financial.
In May 1996, Matrix Bank formed an operating subsidiary, Sterling Finance
Co., Inc. (Sterling Finance), which acquired substantially all the assets of
an origination and seller of subprime automobile retail installment sales
contracts for approximately $47,000 in cash. The assets acquired (fixed assets
and prepaid expenses) were purchased at their estimated fair value and no
goodwill was recorded. On December 31, 1996, Matrix Bank sold the fixed assets
and the name of Sterling Finance to a third party buyer and ceased its
subprime auto lending operations.
United Financial provides brokerage and consulting services to financial
institutions and financial services companies in the mortgage banking
industry, primarily related to the brokerage and analysis of residential
mortgage loan servicing rights, corporate and mortgage loan servicing
portfolio valuations, and, to a lesser extent, consultation and brokerage
services in connection with mergers and acquisitions of mortgage banking
entities.
F-7
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
1. ORGANIZATION--(CONTINUED)
United Special Services, Inc. (USS), a wholly owned subsidiary of the
Company formed in June 1995, provides real estate management and disposition
services to financial services companies and financial institutions, including
Matrix Financial and Matrix Bank.
United Capital Markets (UCM), a wholly owned subsidiary of the Company
formed in December 1996, focuses on risk management services for institutional
clients with an initial focus on residential mortgage servicing rights.
On February 5, 1997, the Company completed the merger of The Vintage Group,
Inc. ("Vintage") with the issuance of 779,592 shares of the Company's common
stock, which was accounted for as a pooling of interests. Vintage's
subsidiaries, Sterling Trust Company ("Sterling Trust") and Vintage Financial
Services Corporation ("VFSC") are located in Waco, and Arlington, Texas,
respectively. Sterling Trust was incorporated in 1984 as a Texas independent,
nonbank trust company specializing in the administration of self-directed
qualified retirement plans, individual retirement accounts, custodial, and
directed trust accounts. As of June 30, 1997, Sterling Trust had in excess of
28,000 accounts with assets under administration of over $1.3 billion. VFSC,
whose name has been changed to First Matrix Investment Services Corp., is a
NASD broker/dealer that provides services to individuals and deferred
contribution plans.
2. SIGNIFICANT ACCOUNTING POLICIES
The accounting and reporting policies of the Company and its subsidiaries
conform to generally accepted accounting principles and to general practices
within the financial services industry.
The following is a description of the more significant policies which the
Company follows in preparing and presenting its consolidated financial
statements.
Basis of Presentation
The consolidated financial statements include the accounts of the Company
and its wholly owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated in consolidation.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the consolidated financial
statements and the accompanying notes. Actual results could differ from these
estimates.
Pooling of Interests Accounting
On February 5, 1997, the merger of The Vintage Group, Inc. was completed,
which was accounted for as a pooling of interests. The financial information
for all prior periods presented has been restated to present the combined
financial condition and results of operations of both companies as if the
merger of Vintage had been in effect for all periods presented.
Loans Held for Sale
Loans originated or purchased with the intent for sale in the secondary
market are carried at the lower of cost, net of discounts or premiums, or
estimated market value in the aggregate. Market value is determined using
forward sale commitments to permanent investors or 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. Discounts or
F-8
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
2. ACCOUNTING POLICIES--(CONTINUED)
premiums on loans held for sale are not accreted or amortized into income on
an interest method, however discounts and premiums related to payments of loan
principal are recorded in interest income. The loans are primarily secured by
one to four family residential real estate located throughout the United
States.
Gains and losses on loan sales are recognized at the time of sale. Gains and
losses are calculated based upon the total consideration received, after
provisions to cover estimated future servicing costs and recourse provisions.
Losses related to recourse provisions in excess of the amount originally
provided are accrued as a liability at the time such additional losses are
determined, and recorded as part of noninterest expense.
Loans Held for Investment
Loans held for investment are stated at unpaid principal balances (since it
is the Company's intention to hold the loans until maturity), less unearned
discounts and premiums, deferred loan fees, loans in process, and allowance
for loan losses. Premiums, discounts and net origination fees on loans are
amortized to interest income over the contractual life of the related loans
using the interest method.
Allowance for Loan Losses
In January 1995, the Company adopted Statement of Financial Accounting
Standards (Statement) No. 114, Accounting by Creditors for Impairment of a
Loan, amended in October 1994 by Statement No. 118, Accounting by Creditors
for Impairment of a Loan--Income Recognition and Disclosures, hereinafter
collectively referred to as Statement No. 114. Under Statement No. 114, a loan
is considered impaired when, based on current information and events, it is
probable that a creditor will be unable to collect all amounts due according
to the contractual terms of the loan. Statement No. 114 applies to all loans
except large groups of smaller-balance homogeneous loans, which are
collectively evaluated, loans measured at fair value or at the lower of cost
or fair value, leases and debt securities. The statement does not address the
overall adequacy of the allowance for loan losses.
Potential impaired loans of the Company, as defined by Statement No. 114,
include only commercial, real estate construction and commercial real estate
mortgage loans classified as nonperforming loans. Impairment allowances are
considered by the Company in determining the overall adequacy of the allowance
for loan losses. The adoption of Statement No. 114 resulted in no material
change in the allowance for loan losses. When a loan is identified as
"impaired," accrual of interest ceases. The Company had no impaired loans, as
defined by Statement No. 114, as of or for the years ended December 31, 1995
and 1996, respectively.
The Company evaluates its mortgage loans collectively due to their
homogeneous nature. The allowance for loan losses is calculated, in part,
based on historical loss experience. In addition, management takes into
consideration other factors such as any qualitative evaluations of individual
classified assets, geographic portfolio concentrations, new products or
markets, evaluations of the changes in the historical loss experience
component, and projections of this component into the current and future
periods based on current knowledge and conditions. After an allowance has been
established for the loan portfolio, management establishes an unallocated
portion of the allowance for loan losses, which is attributable to factors
that cannot be associated with a specific loan or loan portfolio. These
factors include general economic conditions, recognition of specific regional
geographic concerns, and trends in portfolio growth. Loan losses are charged
against the allowance when the probability of collection is considered remote.
In the opinion of management, the allowance, when taken as a whole, is
adequate to absorb reasonably foreseeable losses in the current loan
portfolio.
Loans are placed on nonaccrual status when full payment of principal or
interest is in doubt, or generally when they are past due ninety days as to
either principal or interest, unless the interest is guaranteed through
F-9
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
2. ACCOUNTING POLICIES--(CONTINUED)
recourse provisions. Previously accrued but unpaid interest is reversed and
charged against interest income, if not collectible, and future accruals are
discontinued. Interest payments received on nonaccrual loans are recorded as
interest income unless there is doubt as to the collectibility of the recorded
investment. In those cases, cash received is recorded as a reduction in
principal.
Premises and Equipment
Premises and equipment are carried at cost less accumulated depreciation.
Depreciation is computed using the straight line method over the estimated
lives of the assets, which range from three to seven years for office
furniture, equipment and software and 30 years for buildings.
Mortgage Servicing Rights (MSR)
On January 1, 1995, the Company adopted Statement No. 122, Accounting for
Mortgage Servicing Rights. Since Statement No. 122 prohibits retroactive
application, the historical accounting results for 1994 have not been
restated, and accordingly, the accounting results for 1995 and 1996 are not
directly comparable to the results for prior periods.
With the adoption of this statement, the Company recognizes originated
mortgage servicing rights (OMSRs) as an asset separate from the underlying
originated mortgage loan by allocating the total cost of originating a
mortgage loan between the loan and the servicing right based on their
respective fair values. Mortgage servicing rights are carried at the lower of
cost (allocated cost for OMSRs), less accumulated amortization, or fair value.
Mortgage servicing rights are amortized in proportion to and over the period
of the estimated future net servicing income.
The fair value of mortgage servicing rights is determined based on the
discounted future servicing income stratified based on one or more predominant
risk characteristics of the underlying loans. The Company stratifies its
mortgage servicing rights by product type and investor to reflect the
predominant risk characteristics. To determine the fair value of mortgage
servicing rights, the Company uses a valuation model that calculates the
present value of future cash flows to determine the fair value of the mortgage
servicing rights. In using this valuation method, the Company incorporates
assumptions that market participants would use in estimating future net
servicing income which includes estimates of the cost of servicing per loan,
the discount rate, float value, an inflation rate, ancillary income per loan,
prepayment speeds and default rates. As of December 31, 1996, no valuation
allowance was required and the fair value of the aggregate mortgage servicing
rights was approximately $29,900,000.
Gain on Sale of Servicing Rights
The Company complies with EITF Issue No. 95-5, Determination of What
Constitutes a Sale of Mortgage Loan Servicing Rights, such that the gain on
sale of servicing rights is recognized when substantially all the risks and
rewards inherent in owning the mortgage servicing rights have been transferred
to the buyer, and any protection provisions retained by the Company are minor
and can be reasonably estimated.
Drafts Payable
Drafts payable represent the in transit outstanding funding of a new loan by
the Company via a negotiable instrument, however, the instrument has not yet
been presented to the bank for payment. Presentation to the bank generally
occurs within one to three days.
F-10
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
2. ACCOUNTING POLICIES--(CONTINUED)
Loan Administration Income
Loan administration income represents service fees and other income earned
from servicing loans for various investors. Loan administration income
includes service fees that are based on a contractual percentage of the
outstanding principal balance plus late fees and other ancillary charges.
Income is recognized when the related payments are received.
Brokerage Income
Brokerage income represents fees earned related to brokerage and consulting
services. Brokerage income is recognized when earned.
Trust Services Income
Trust services income represents fees earned related to services provided
for self-directed IRA, pension, and escrow arrangements. Trust services income
is recognized when earned.
Loan Origination Income
Loan origination income for loans originated for sale, which includes all
mortgage origination fees, secondary marketing activity and servicing-released
premiums on mortgage loans sold, net of outside origination costs, is
recognized as income at the time the loan is sold.
Loan origination income for loans originated for investment, which includes
mortgage origination fees and certain direct costs associated with loan
originations, is deferred and amortized as a yield adjustment over the
contractual life of the related loan using the interest method, adjusted for
estimated prepayments.
Stock Based Compensation
The Company grants stock options for a fixed number of shares to employees
with an exercise price equal to the fair value of the shares at the date of
grant.
In October 1995, the Financial Accounting Standards Board (FASB) issued
Statement No. 123, Accounting for Stock-Based Compensation, which provides an
alternative to Accounting Principles Board (APB) Opinion No. 25, Accounting
for Stock Issued to Employees, in accounting for stock-based compensation
issued to employees. Statement No. 123 allows for a fair value based method of
accounting for employee stock options and similar equity instruments awarded
after December 31, 1995. The Company has elected to account for stock-based
compensation plans in accordance with APB Opinion No. 25 and to follow the pro
forma net income, pro forma earnings per share, and stock-based compensation
plan disclosure requirements set forth in Statement No. 123.
Foreclosed Real Estate
Real estate acquired through foreclosure, deed in lieu of foreclosure or in
judgment is carried at the lower of fair value, minus estimated costs to sell,
or the related loan balance 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. The net carrying value of foreclosed
real estate, which is classified in other assets, was $835,000, $788,000 and
$1,418,000 at December 31, 1995 and 1996 and June 30, 1997, respectively.
F-11
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
2. ACCOUNTING POLICIES--(CONTINUED)
Acquired Real Estate
Costs directly attributable to the acquisition, development, and
construction of land development are capitalized. Such costs include
preacquisition costs, direct project costs, and holding costs. The investment
in land development is carried at the lower of cost, which includes
capitalized costs, or net realizable value. Net unrealized losses, if any,
would be recognized in a valuation allowance. As of December 31, 1996 there
was no valuation allowance necessary for the land development.
Income Taxes
The Company and its subsidiaries file consolidated federal and state income
tax returns. The subsidiaries are charged for the taxes applicable to their
profits calculated on the basis of filing separate income tax returns. Matrix
Bank qualifies as a savings and loan association for income tax purposes.
The Company follows Statement No. 109, Accounting for Income Taxes, which
uses the liability method in accounting for income taxes. Under this method,
deferred tax assets and liabilities are determined based on differences
between financial reporting and tax basis of assets and liabilities and are
measured using the enacted tax rates and laws that will be in effect when the
differences are expected to reverse.
Fair Value of Financial Instruments
In 1995, the Company adopted Statement No. 107, Disclosures about Fair Value
of Financial Instruments, which requires disclosure of fair value information
about financial instruments, whether or not recognized in the balance sheet,
where it is practicable to estimate their value. In cases where quoted market
prices are not available, fair values are based on estimates using present
value or other valuation techniques. Those techniques are significantly
affected by the assumptions used, including the discount rate and estimates of
future cash flows. In that regard, the derived fair value estimates cannot be
substantiated by comparison to independent markets and, in many cases, could
not be realized in immediate settlement of the instruments. Statement No. 107
excludes certain financial instruments and all nonfinancial instruments from
its disclosure requirements. Accordingly, the aggregate fair value amounts
presented do not represent the underlying value of the Company. For additional
information refer to Note 14--Financial Instruments.
Cash and Cash Equivalents
Cash equivalents, for purposes of the statements of cash flows, consist of
cash and interest earning deposits with banks with original maturities when
purchased of three months or less.
Net Income Per Share
Net income per common and common equivalent share are computed based on net
income, adjusted for any preferred stock dividends declared, and the weighted
average number of common shares outstanding during each period and the
dilutive effect, if any, of stock options and warrants outstanding.
Interim Financial Statements
The accompanying consolidated balance sheet at June 30, 1997 and the
consolidated statements of operations, shareholders' equity and cash flows for
the six month periods June 30, 1996 and 1997 are unaudited and have been
prepared on the same basis as the audited consolidated financial statements
included herein. In the opinion of management, such unaudited consolidated
financial statements include all adjustments (all of
F-12
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
2. ACCOUNTING POLICIES--(CONTINUED)
which are of a normal recurring nature) necessary to present fairly the
consolidated financial position and the results of operations for the periods
presented. The results of operations for such interim periods are not
necessarily indicative of results for the full year.
Impact of Recently Issued Accounting Standards
In June 1996, the FASB issued Statement No. 125, Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities, which
supercedes Statement No. 122. This statement provides accounting and reporting
standards for transfers and servicing of financial assets and extinguishments
of liabilities and is effective for periods beginning after December 31, 1996.
Transactions covered by Statement No. 125 include securitizations, sales of
partial interests in financial assets, repurchase agreements, securities
lending, pledges of collateral, loan syndications and participations, sales of
receivables with recourse, servicing of mortgages and other loans, and in-
substance defeasances. The statement uses a "financial components" approach
that focuses on control to determine the proper accounting for financial asset
transfers. Under that approach, after financial assets are transferred, an
entity would recognize on the balance sheet all assets it controls and
liabilities it has incurred. It would remove from the balance sheet those
assets it no longer controls and liabilities it has satisfied.
If the entity has surrendered control over the transferred assets, the
transaction would be considered a sale. Control is considered surrendered only
if the assets are isolated from the transferor; the transferee has the right
to pledge or exchange the assets or is a qualifying special-purpose entity;
and the transferor does not maintain effective control over the assets through
an agreement to repurchase or redeem them. If those conditions do not exist,
the transfer would be accounted for as a secured borrowing.
The Company adopted Statement No. 125 in the first quarter of 1997 and the
effect of adoption was not material to its consolidated financial statements.
In February 1997, the FASB issued Statement No. 128, Earnings per Share
which specifies the computation, presentation and disclosure requirements for
earnings per common share (EPS). Statement No. 128 replaces the presentation
of primary and fully diluted EPS pursuant to APB Opinion No. 15, Earnings per
Share with the presentation of basic and diluted EPS. Basic EPS excludes
dilution and is computed by dividing net income available to common
stockholders by the weighted average number of common shares outstanding for
the period. Diluted EPS reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or
converted into common stock or resulted in the issuance of common stock that
then shared in the earnings of the entity. The Company is required to adopt
Statement No. 128 with its December 31, 1997 financial statements and restate
all prior-period EPS data. The Company will continue to account for EPS under
APB Opinion No. 15 until that time. Management does not expect the adoption of
Statement No. 128 will have a material impact.
Reclassifications
Certain amounts in the prior period financial statements have been
reclassified to conform to the current period presentation.
F-13
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
3. LOANS RECEIVABLE
Loans Held for Investment
Loans held for investment consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31
--------------- JUNE 30
1995 1996 1997
------- ------- -----------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C>
Residential loans................................... $ 9,349 $10,007 $15,811
Multi-family and commercial real estate............. 7,544 15,352 18,203
Construction loans.................................. 577 1,319 9,965
Consumer loans and other............................ 3,381 3,704 11,865
------- ------- -------
20,851 30,382 55,844
Less:
Loans in process.................................. 499 254 4,072
Purchase discounts, net........................... 414 239 241
Unearned discounts on consumer loans.............. 14 9 351
Allowance for loan losses......................... 227 270 502
Specific valuation allowance on purchased loans... 122 50 37
------- ------- -------
1,276 822 5,203
------- ------- -------
$19,575 $29,560 $50,641
======= ======= =======
</TABLE>
Activity in the allowance for loan losses is summarized as follows:
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED DECEMBER 31 JUNE 30
---------------------- -----------------
1994 1995 1996 1996 1997
------- ------- ------- -------- --------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Balance at beginning of period.... $ 196 $ 220 $ 227 $ 227 $ 270
Provision for loan losses......... 24 -- 34 36 220
Charge-offs....................... -- (42) (6) -- (1)
Recoveries........................ -- 49 15 -- 13
------- ------- ------- -------- --------
Balance at end of period.......... $ 220 $ 227 $ 270 $ 263 $ 502
======= ======= ======= ======== ========
</TABLE>
Nonaccrual loans in the loans held for investment portfolio totaled
approximately $440,000, $335,000 and $317,000 or 2.1 percent, 1.1 percent and
0.6 percent of the total loans held for investment portfolio at December 31,
1995 and 1996 and June 30, 1997, respectively.
Matrix Bank had commitments to extend credit on consumer and construction
loans of approximately $3,885,000 and $20,097,000 at December 31, 1996 and
June 30, 1997, respectively.
F-14
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
3. LOANS RECEIVABLE --(CONTINUED)
Loans Held for Sale
Loans held for sale consist of the following as of:
<TABLE>
<CAPTION>
DECEMBER 31
----------------- JUNE 30
1995 1996 1997
-------- -------- -----------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
First mortgage loans...................... $133,622 $185,080 $345,019
Automobile installment contracts.......... -- 1,315 1,906
-------- -------- --------
133,622 186,395 346,925
Less:
Purchase discounts, net................. 5,816 2,825 2,942
Valuation allowance..................... 716 769 837
-------- -------- --------
6,532 3,594 3,779
-------- -------- --------
$127,090 $182,801 $343,146
======== ======== ========
</TABLE>
Activity in the valuation allowance is summarized as follows:
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED DECEMBER 31 JUNE 30
------------------------- ------------------
1994 1995 1996 1996 1997
------- ------- ------- -------- --------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Balance at beginning of peri-
od............................ $ 342 $ 508 $ 716 $ 716 $ 769
Provision for valuation allow-
ance.......................... 192 401 109 116 77
Charge-offs.................... (26) (198) (64) (37) (9)
Recoveries..................... -- 5 8 -- --
------- ------- ------- -------- --------
Balance at end of period....... $ 508 $ 716 $ 769 $ 795 $ 837
======= ======= ======= ======== ========
</TABLE>
Nonaccrual loans related to the loans held for sale portfolio aggregated
approximately $5,098,000, $3,568,000 and $3,059,000 at December 31, 1995 and
1996 and June 30, 1997, respectively. Approximately $1,123,000, $722,000 and
$-0- at December 31, 1995 and 1996 and June 30, 1997, respectively, of the
nonaccrual loans related to a 90 percent senior participation interest
acquired by the Company in a $22,000,000 passthrough certificate secured by
single family residential real estate mortgages which was classified as loans
held for sale. Losses incurred related to loans underlying the passthrough
certificate were first charged to the subordinate participation interest. The
Company sold the loans related to this participation interest during the six
months ended June 30, 1997.
Interest income that would have been recorded for all nonaccrual loans was
approximately $140,000, $156,000, and $120,000 during the years ended December
31, 1994, 1995, and 1996, respectively, and $39,000 and $50,000 during the six
months ended June 30, 1996 and 1997, respectively.
During 1996, the Bank formed two mortgage backed securities with an unpaid
principal balance of approximately $21,000,000 from its loans held for sale
portfolio. During the year ended December 31, 1996, the Company recognized a
gross gain on the sale of mortgage backed securities of approximately $171,000
and the taxes related to this sale were approximately $68,000.
On December 31, 1996, Matrix Bank sold the fixed assets and the right to the
name of Sterling Finance to a third party buyer and ceased its subprime auto
lending operations. During the time that Matrix Bank owned
F-15
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
3. LOANS RECEIVABLE--(CONTINUED)
Sterling Finance, it purchased numerous automobile retail installment
contracts and sold approximately $18,500,000 of such contracts, subject to
certain recourse provisions. During 1996, Sterling Finance was required to
repurchase approximately $2,500,000 of automobile installment contracts and
repossessed automobiles pursuant to the recourse provisions and recorded a
loss of $787,000. In order to settle a dispute, in June 1997, the Company was
required to repurchase approximately $1,500,000 of additional automobile
installment contracts plus $108,000 of accrued interest. The dispute centered
on the timing of the delivery of titles to the underlying vehicles of the
purchaser. The Company recorded $1,125,000 in losses during the six months
ended June 30, 1997 for the anticipated losses related to the automobile
installment contracts repurchased in June 1997.
Included in loans held for sale at December 31, 1996 and June 30, 1997 is
approximately $1,220,000 and $1,770,000, net of discount, respectively, of
these automobile installment contracts. Matrix Bank had a recourse liability
recorded of approximately $600,000 and $895,000 at December 31, 1996 and June
30, 1997, respectively, for the potential loss exposure related to these
automobile installment contracts and repossessed automobiles.
Additionally, in other assets at December 31, 1996 and June 30, 1997 is
approximately $500,000 and $191,000, respectively, in repossessed automobiles
which represents the estimated fair value of the automobiles, less estimated
costs to sell.
4. PREMISES AND EQUIPMENT
Premises and equipment consist of the following:
<TABLE>
<CAPTION>
DECEMBER 31
------------- JUNE 30
1995 1996 1997
------ ------ -----------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C>
Land.............................................. $ 532 $ 692 $ 684
Buildings......................................... 3,761 4,257 4,280
Leasehold improvements............................ 136 431 481
Office furniture and equipment.................... 2,475 3,910 4,599
Other equipment................................... 960 975 1,252
------ ------ ------
7,864 10,265 11,296
Less: accumulated depreciation and amortization... 1,697 2,378 2,674
------ ------ ------
$6,167 $7,887 $8,622
====== ====== ======
</TABLE>
Included in occupancy and equipment expense is depreciation and amortization
expense of premises and equipment of approximately $598,000, $602,000, and
$828,000 for the years ended December 31, 1994, 1995 and 1996, respectively,
and $360,000 and $538,000 during the six months ended June 30, 1996 and 1997,
respectively.
F-16
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
5. MORTGAGE SERVICING RIGHTS
The activity in the MSRs is summarized as follows:
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED DECEMBER 31 JUNE 30
------------------------ ------------------
1994 1995 1996 1996 1997
------ ------- ------- -------- --------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Balance at beginning of year.... $1,818 $ 6,183 $13,817 $ 13,817 $ 23,680
Purchases....................... 5,550 9,203 17,142 1,472 25,708
Originated, net of OMSRs sold... -- 885 441 462 42
Amortization.................... (1,185) (1,817) (2,432) (1,184) (3,175)
Transfer of MSR to FHLMC (Note
12)............................ -- -- (110) -- --
Sales........................... -- (637) (5,178) (3,980) (15,444)
------ ------- ------- -------- --------
Balance at end of year.......... $6,183 $13,817 $23,680 $ 10,587 $ 30,811
====== ======= ======= ======== ========
</TABLE>
Accumulated amortization of mortgage servicing rights aggregated
approximately $9,495,000, $11,347,000, and $13,974,000 at December 31, 1995,
1996 and June 30, 1997, respectively.
The Company's servicing activity is diversified throughout 48 states with
concentrations at December 31, 1996 in California, New York and Texas of
approximately 27.2 percent, 8.6 percent and 16.4 percent, respectively, based
on aggregate outstanding unpaid principal balances of the mortgage loans
serviced. As of December 31, 1995 and 1996 and June 30, 1997, the Company
subserviced loans for others of approximately $85,000,000, $140,000,000 and
$107,000,000, respectively.
The Company's servicing portfolio (excluding subserviced loans) comprised
the following:
<TABLE>
<CAPTION>
DECEMBER 31
----------------------------------------- JUNE 30
1995 1996 1997
-------------------- -------------------- --------------------
PRINCPAL PRINCIPAL PRINCIPAL
NUMBER BALANCE NUMBER BALANCE NUMBER BALANCE
OF LOANS OUTSTANDING OF LOANS OUTSTANDING OF LOANS OUTSTANDING
-------- ----------- -------- ----------- -------- -----------
(UNAUDITED)
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
FHLMC................... 9,453 $ 671,966 12,107 $ 666,218 13,980 $ 790,810
FNMA.................... 7,820 483,947 13,426 764,632 13,105 742,194
GNMA.................... 271 12,883 9,379 278,700 17,089 650,181
Other VA, FHA, and con-
ventional loans........ 7,414 427,589 12,870 795,486 13,850 797,394
------ ---------- ------ ---------- ------ ----------
24,958 $1,596,385 47,782 $2,505,036 58,024 $2,980,579
====== ========== ====== ========== ====== ==========
</TABLE>
The Company's custodial escrow balances shown in the accompanying
consolidated balance sheets pertain to escrowed payments of taxes and
insurance and the float on principal and interest payments on loans serviced
on behalf of others and owned by the Company, aggregating approximately
$26,769,000, $27,381,000 and $72,219,000 at December 31, 1995, 1996 and June
30, 1997, respectively. The Company also has custodial accounts on deposit
from other mortgage companies aggregating approximately $242,000, $10,500,000
and $8,705,000 at December 31, 1995, 1996 and June 30, 1997, respectively. The
Companies custodial accounts are maintained at Matrix Bank in noninterest
bearing accounts. The balance of the custodial accounts fluctuate from month
to month based on the pass-through of the principal and interest payments to
the ultimate investors and the timing of the taxes and insurance payments.
F-17
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
5. MORTGAGE SERVICING RIGHTS--(CONTINUED)
The mortgage servicing portfolio includes recourse servicing equal to
approximately 0.7, 0.4 and 0.4 percent of the total owned at December 31, 1995
and 1996 and June 30, 1997, respectively. A reserve for losses is recorded, as
appropriate, for loans serviced for others, in which the investor has recourse
to the Company, which had a balance of approximately $49,000, $61,000 and
$281,000 at December 31, 1995 and 1996 and June 30, 1997, respectively.
Additionally, in certain circumstances the Company is required to make
advances for escrow and foreclosure costs for loans which it services. The
Company experienced losses for unrecoverable advances of approximately
$34,000, $144,000, and $28,000 for the years ended December 31, 1994, 1995 and
1996, respectively, and $8,000 and $38,000 for the six months ended June 30,
1996 and 1997, respectively.
6. DEPOSITS
Deposit account balances are summarized as follows:
<TABLE>
<CAPTION>
DECEMBER 31
--------------------------------------------------- JUNE 30
1995 1996 1997
------------------------- ------------------------- --------------------------
(DOLLARS IN THOUSANDS)
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
AMOUNT PERCENT RATE AMOUNT PERCENT RATE AMOUNT PERCENT RATE
------- ------- -------- ------- ------- -------- -------- ------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Passbook accounts....... $ 2,358 4.82% 3.40% $ 2,757 3.06% 3.45% $ 2,885 1.42% 3.92%
NOW accounts............ 3,832 7.84 1.49 4,732 5.25 1.66 19,494 9.62 3.14
Money market accounts... 6,167 12.62 4.38 9,455 10.48 4.43 96,648 47.71 3.68
------- ------ ---- ------- ------ ---- -------- ------ ----
12,357 25.28 3.18 16,944 18.79 3.59 119,027 58.75 3.45
Certificate accounts.... 36,513 74.72 5.97 73,235 81.21 5.85 83,571 41.25 5.88
------- ------ ---- ------- ------ ---- -------- ------ ----
48,870 100.00% 90,179 100.00% 202,598 100.00%
====== ====== ======
Purchase premium........ 7 -- --
------- ------- --------
$48,877 $90,179 $202,598
======= ======= ========
Weighted-average inter-
est rate............... 5.23% 5.36% 4.61%
==== ==== ====
</TABLE>
Contractual maturities of certificate accounts as of December 31, 1996:
<TABLE>
<CAPTION>
UNDER 12 12 TO 36 36 TO 60
MONTHS MONTHS MONTHS
--------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C>
3.00--3.99%................................... $ 104 $ -- $ --
4.00--4.99%................................... 807 -- --
5.00--5.99%................................... 43,211 5,663 318
6.00--6.99%................................... 8,078 8,737 3,211
7.00--7.99%................................... 2,409 258 395
8.00--10.50%.................................. -- 41 3
------- ------- ------
$54,609 $14,699 $3,927
======= ======= ======
</TABLE>
Subsequent to the merger with Vintage, assets under administration were
transferred from a third party financial institution to Matrix Bank and placed
in interest bearing accounts. Approximately $96.3 million of assets under
administration are included in interest bearing accounts as of June 30, 1997.
F-18
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
6. DEPOSITS--(CONTINUED)
Interest expense on deposits is summarized as follows:
<TABLE>
<CAPTION>
SIX MONTHS ENDED
YEAR ENDED DECEMBER 31 JUNE 30
----------------------- -----------------
1994 1995 1996 1996 1997
------- ------- ------- -------- --------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Passbook accounts.................... $ 72 $ 85 $ 82 $ 40 $ 56
NOW accounts......................... 76 52 63 31 608
Money market......................... 195 240 405 202 848
Certificates of deposit.............. 1,138 1,807 3,210 1,288 2,325
------- ------- ------- -------- --------
$1,481 $ 2,184 $ 3,760 $ 1,561 $ 3,837
======= ======= ======= ======== ========
</TABLE>
The aggregate amount of deposit accounts with a balance greater than $100,000
was approximately $2,066,000, $5,457,000 and $6,218,000 at December 31, 1995,
1996, and June 30, 1997, respectively.
7. BORROWED MONEY
Borrowed money is summarized as follows:
<TABLE>
<CAPTION>
DECEMBER 31
--------------- JUNE 30
1995 1996 1997
------- ------- -----------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C>
Revolving Lines
$50,000,000 ($60,000,000 at June 30, 1997)
revolving warehouse loan agreement (with a
$2,500,000 working capital sublimit in 1996) with
banks, secured by mortgage loans held for sale,
interest at federal funds rate from plus 0.85 to
2.00 (6.96 percent average rate at June 30,
1997); $23,419,000 available at June 30, 1997.... $46,833 $31,504 $36,581
$10,000,000 working capital facility with banks
secured by mortgage loans held for sale, mortgage
servicing rights, eligible servicing advance
receivables and eligible delinquent mortgage
receivables; interest at federal funds rate plus
1.5 percent (7.06 percent at June 30, 1997);
$905,000 available at June 30, 1997.............. -- -- 9,095
$6,000,000 revolving line of credit with a third
party financial institution, collateralized by
common stock of Matrix Bank; interest due monthly
at prime; $500,000 available at June 30, 1997.... -- -- 5,500
------- ------- -------
46,833 31,504 51,176
Term Notes Payable
$13,500,000 ($30,000,000 at June 30, 1997)
servicing acquisition loan agreement with a bank,
secured by MSRs, due at the earlier of the
maturity of the MSRs or amortized over five to
six years from the date of the borrowing through
January 31, 2003; interest at federal funds rate
plus 2.00 percent (7.56 percent at June 30,
1997); $5,081,000 available at June 30, 1997..... 8,709 1,500 24,919
</TABLE>
F-19
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
7. BORROWED MONEY--(CONTINUED)
<TABLE>
<CAPTION>
DECEMBER 31
------------- JUNE 30
1995 1996 1997
------ ------ -----------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C>
Senior subordinated notes, interest at 14 percent
payable semiannually, unsecured and maturing July
2002, with mandatory redemptions of $727,500 on
each of July 15, 1999, 2000 and 2001............... $2,910 $2,910 $2,910
Notes payable to a third-party financial institution
(revised bank stock loan) due in quarterly
installments of $71,430, plus interest, through
March 12, 2000, collateralized by the common stock
of Matrix Bank; interest at prime.................. -- -- 1,929
Note payable to a third-party financial institution
(bank stock loan) due in annual principal
installments of $286,101, plus interest, through
2003, collateralized by the common stock of Matrix
Bank; interest at prime plus 1.0 percent........... 2,289 2,003 --
Note payable to a bank, secured by a deed of trust
on real estate, unpaid principal balance plus
interest due June 1998; interest at prime plus 1.0
percent............................................ 921 938 920
Note payable to a bank, secured by a deed of trust
on real estate, interest due monthly at prime plus
1 percent, unpaid principal due July 21, 1998...... -- 845 845
Note payable to a third-party financial institution
due in monthly installments through 2000, secured
by equipment; interest at the one year treasury
rate plus 2.4 percent.............................. 786 731 --
Note payable to a third-party financial institution
due in monthly installments through June 2007,
secured by equipment, interest at three year
treasury rate plus 2.2 percent..................... -- -- $1,083
Notes payable to a third-party financial institution
due in 28 consecutive quarterly installments,
secured by MSRs; interest at prime plus 2.0 percent
and fixed at 10 percent............................ 631 521 466
Other, interest at prime plus 2.0 percent........... 201 -- --
------ ------ ------
Total term notes.................................... 16,447 9,448 33,072
Other
Agreements with a bank and an investment bank to
sell mortgage loans originated by the Company under
agreements to repurchase. The agreement can be
terminated upon 90 days written notice by either
party; interest at the higher of the prime rate or
note rate on the loans for the bank and LIBOR plus
a negotiated margin for the investment bank. Total
commitment amount of these agreements is
$20,000,000, with $18,196,000 available at June 30,
1997............................................... 570 -- 1,804
</TABLE>
F-20
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
7. BORROWED MONEY--(CONTINUED)
<TABLE>
<CAPTION>
DECEMBER 31
--------------- JUNE 30
1995 1996 1997
------- ------- -----------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C>
Financing agreement with a bank, secured by Ft.
Lupton Subordinated Series 1996 A1 revenue
anticipation warrants, interest is at 5 percent
and is due based on the semi-annual bonds
payments, unpaid principal due at bond maturity... -- 800 800
MSR financing (see below).......................... 1,243 679 599
------- ------- -------
1,813 1,479 3,203
------- ------- -------
$65,093 $42,431 $87,451
======= ======= =======
</TABLE>
On January 31, 1997, the Company renegotiated the revolving credit
facilities for its $50,000,000 warehouse loan agreement, including the working
capital sub-limit, and its $13,500,000 servicing acquisition loan agreement.
With this renegotiation, the aggregate amount of revolving warehouse lines of
credit facilities was increased to $60.0 million, the aggregate amount of the
servicing acquisition facility was increased to $30.0 million, and the
aggregate amount of the working capital facility was increased to $10.0
million. The $10.0 million working capital facility became a separate
component to the revolving credit facilities, and is no longer a sublimit to
the warehouse loan agreement. The new credit facility agreement requires
Matrix Financial to maintain, among other things, (i) total shareholder's
equity of at least $10.0 million plus 100 percent of capital contributed after
January 1, 1997, plus 50 percent of cumulative quarterly net income, (ii)
adjusted net worth, as defined, of at least $12.0 million, (iii) a servicing
portfolio of at least $2.0 billion, (iv) principal debt of term line
borrowings of no more than the lesser of 70 percent of the appraised value of
the mortgage servicing portfolio or 1.25 percent of the unpaid principal
balance of the mortgage servicing portfolio, (v) a ratio of total adjusted
debt to adjusted tangible net worth of no more than 8 to 1, and (vi) a ratio
of cash flow to current maturities of long-term debt and any capital leases of
at least 1.3 to 1.0.
In March 1997, the Company refinanced its bank stock loan and increased the
credit available under the loan by an additional $6.0 million. The new bank
stock loan has two components of the loan, a $2.0 million term loan, which was
used to refinance the bank stock loan in place at December 31, 1996, and a
revolving line of credit of $6.0 million. In March of 1998, the balance of the
revolving line of credit will be converted to a term loan. The additional
proceeds from the loan will be used as capital at Matrix Bank. The new bank
stock loan requires the Company to maintain (i) total stockholders' equity of
$27.5 million plus 100 percent of all future equity contributions, plus 50
percent of cumulative quarterly net income, (ii) dividends less than 50
percent of the Company's net cash income after adjustments, and (iii) total
adjusted debt to stockholders' equity less than 4 : 1.
The terms of the senior subordinated notes limit cash dividends to an amount
equal to 50 percent of consolidated net income as long as the dividend does
not exceed 10 percent of consolidated shareholders' equity. The Company may
redeem the senior subordinated notes, in whole or in part, at any time after
July 15, 1998 at a redemption price of 102 percent of par through July 14,
1999 and, thereafter, at par, plus accrued and unpaid interest. The Company
was obligated to register under the Securities Act of 1933 the senior
subordinated notes on or before February 1, 1997. Since such registration
statement was not effected by February 1, 1997, the interest rate increased
from 13 to 14 percent.
F-21
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
7. BORROWED MONEY--(CONTINUED)
The maturities of term notes payable during the next five years and
thereafter are as follows:
<TABLE>
<CAPTION>
DECEMBER 31, JUNE 30,
1996 1997
------------ --------
(IN THOUSANDS)
<S> <C> <C>
1997................................................ $ 648 $ 1,335
1998................................................ 2,500 7,020
1999................................................ 1,493 6,504
2000................................................ 1,499 7,446
2001................................................ 1,479 5,650
Thereafter.......................................... 1,829 5,117
------ -------
$9,448 $33,072
====== =======
</TABLE>
The Company must comply with certain financial and other covenants related
to the foregoing debt agreements including the maintenance of specific ratios,
net worth and other amounts as defined in the credit agreements. At December
31, 1996 and June 30, 1997, the Company was in compliance with these
covenants.
MSR Financing
In 1992 and 1994 the Company entered into two unrelated transactions with
portions of its owned servicing portfolio which were accounted for as
financings due to various terms of the agreements regarding continuing
involvement. Amounts due to the other parties under the financings had
balances of approximately $1,243,000, $679,000 and $599,000 at December 31,
1995 and 1996 and June 30, 1997, respectively. The MSRs pledged as collateral
for the loans relate to mortgage loans with unpaid principal balances of
approximately $125,000,000, $74,000,000 and $67,000,000 at December 31, 1995
and 1996 and June 30, 1997, respectively. One of these financing arrangements
was completely paid off in 1996. In the remaining financing arrangement, the
Company retains a portion of the servicing income associated with the pledged
or related MSRs, with the balance of the servicing income paid to the other
parties as a reduction of the debt and interest. The implicit interest rate of
the financing varies depending on the servicing income derived from the MSRs.
A portion of the payment made under this arrangement is recorded as interest
expense on the level yield method. The amounts due the other parties are
payable solely from the servicing income derived from the MSRs, and there is
no implicit or explicit guarantee as to repayment. The total amounts paid to
the other parties aggregated approximately $717,000, $620,000 and $785,000
during the years ended December 31, 1994, 1995 and 1996, respectively, and
$265,000 and $131,000 during the six months ended June 30, 1996 and 1997,
respectively.
8. FEDERAL HOME LOAN BANK OF DALLAS BORROWINGS
Federal Home Loan Bank of Dallas borrowings aggregated $19,000,000,
$51,250,000 and $70,600,000 at December 31, 1995 and 1996 and June 30, 1997,
respectively. The advances bear interest at rates which adjust daily and are
based on the mortgage repo rate. All advances are secured by first mortgage
loans of Matrix Bank and all Federal Home Loan Bank of Dallas stock.
Matrix Bank has a commitment from the Federal Home Loan Bank of Dallas for
advances of approximately $55,000,000 and $105,000,000 at December 31, 1996
and June 30, 1997, respectively. Matrix Bank adopted a collateral pledge
agreement whereby it has agreed to keep on hand, at all times, first mortgages
free of all other pledges, liens, and encumbrances with unpaid principal
balances aggregating no less than 170 percent of the outstanding secured
advances from the Federal Home Loan Bank of Dallas.
F-22
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
9. INCOME TAXES--(CONTINUED)
The income tax provision consists of the following:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
-----------------------
1994 1995 1996
------- ------- -------
(IN THOUSANDS)
<S> <C> <C> <C>
Current
Federal.......................................... $ 1,489 $ 1,814 $ 1,871
State............................................ 239 443 461
Deferred
Federal.......................................... 236 169 (42)
State............................................ 50 43 (12)
------- ------- -------
$2,014 $ 2,469 $ 2,278
======= ======= =======
</TABLE>
A reconciliation of the provision for income taxes with the expected income
taxes based on the statutory federal income tax rate follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
-------------------------
1994 1995 1996
------- ------- -------
(IN THOUSANDS)
<S> <C> <C> <C>
Expected income tax provision..................... $ 1,746 $ 2,173 $ 1,988
State income taxes................................ 289 310 296
Other............................................. (21) (14) (6)
------- ------- -------
$ 2,014 $ 2,469 $ 2,278
======= ======= =======
</TABLE>
Deferred tax assets and liabilities result from the tax effects of temporary
differences between the carrying amount of assets and liabilities for
financial reporting purposes and the amounts used for income tax purposes
shown below.
<TABLE>
<CAPTION>
DECEMBER 31
------------
1995 1996
----- -----
(IN
THOUSANDS)
<S> <C> <C>
Deferred tax assets:
Allowance for losses......................................... $ 190 $ 551
Discounts and premiums....................................... 177 108
Amortization of servicing rights............................. 160 --
Other........................................................ 51 82
----- -----
Total deferred tax assets...................................... 578 741
Deferred tax liabilities:
Gain on sale of loans........................................ (275) (279)
Amortization of servicing rights............................. -- (106)
Depreciation................................................. (241) (302)
Other........................................................ (62) --
----- -----
Total deferred tax liabilities................................. (578) (687)
----- -----
Net deferred tax asset......................................... $ -- $ 54
===== =====
</TABLE>
F-23
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
10. REGULATORY
The Company is a unitary thrift holding company and, as such, is subject to
the regulation, examination and supervision of the Office of Thrift
Supervision (OTS).
Matrix Bank is also subject to various regulatory capital requirements
administered by the OTS. Failure to meet minimum capital requirements can
initiate certain mandatory, and possibly additional discretionary actions,
actions by regulators that, if undertaken, could have a direct material effect
on Matrix Bank's financial statements. Under capital adequacy guidelines and
the regulatory framework for prompt corrective action, Matrix Bank must meet
specific capital guidelines that involve quantitative measures of the Matrix
Bank's assets, liabilities, and certain off-balance-sheet items as calculated
under regulatory accounting practices. Matrix Bank's capital amounts and
classification are also subject to qualitative judgments by the regulators
about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require Matrix Bank to maintain minimum amounts and ratios (set forth in the
table below) of total and Tier I capital (as defined in the regulations) to
risk-weighted assets (as defined), and of Tier I capital (as defined) to total
assets (as defined). Management believes, as of December 31, 1996 and June 30,
1997, that Matrix Bank meets all capital adequacy requirements to which it is
subject.
As of December 31, 1996, the most recent notification from the OTS
categorized Matrix Bank as well capitalized under the regulatory framework for
prompt corrective action. To be categorized as well capitalized Matrix Bank
must maintain minimum total risk-based, Tier I risk based and Tier I leverage
ratios as set forth in the table. There are no conditions or events since that
notification that management believes have changed the institution's category.
<TABLE>
<CAPTION>
TO BE WELL
CAPITALIZED
UNDER PROMPT
FOR CAPITAL CORRECTIVE
ADEQUACY ACTION
ACTUAL PURPOSES PROVISIONS
------------- ------------- --------------
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
------- ----- ------- ----- -------- -----
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
As of December 31, 1996
Total Capital (to Risk Weighted
Assets) $12,406 11.1% ^$8,979 ^8.0% ^$11,224 ^10.0%
Tier I Capital (to Risk
Weighted Assets) 11,367 10.1 ^4,489 ^4.0 ^6,734 ^6.0
Tier I Capital (to Average As-
sets) 11,367 7.8 ^5,803 ^4.0 ^7,254 ^5.0
As of December 31, 1995
Total Capital (to Risk Weighted
Assets) 8,321 13.3% ^4,997 ^8.0% ^6,246 ^10.0%
Tier I Capital (to Risk
Weighted Assets) 7,540 12.1 ^2,499 ^4.0 ^3,748 ^6.0
Tier I Capital (to Average As-
sets) 7,540 7.2 ^4,195 ^4.0 ^5,243 ^5.0
</TABLE>
The various federal banking statutes to which Matrix Bank is subject also
include other limitations regarding the nature of the transactions in which it
can engage or assets it may hold or liabilities it may incur.
Matrix Bank is required to maintain balances with the Federal Reserve Bank
of Dallas in a noninterest earning account based on a percentage of deposit
liabilities. Such balances averaged $888,000 and $659,000 in 1995 and 1996,
respectively.
Matrix Bank is required by Federal regulations to maintain a minimum level
of liquid assets of five percent. Matrix Bank exceeded the Federal requirement
at December 31, 1995 and 1996, respectively.
Matrix Financial is subject to examination by various regulatory agencies
involved in the mortgage banking industry. Each regulatory agency requires the
maintenance of a certain amount of net worth, the most restrictive of which
required $1,224,000 at December 31, 1995 and $1,709,000 at December 31, 1996.
F-24
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
10. REGULATORY--(CONTINUED)
Sterling Trust is subject to supervision, regulation and examination by the
Texas Department of Banking.
11. SHAREHOLDERS' EQUITY
Common Stock
The authorized common stock of the Company consists of 50,000,000 shares
with a par value of $.0001 per share. There were 4,668,531, 6,681,031 and
6,681,031 shares of common stock outstanding at December 31, 1995 and 1996 and
June 30, 1997, respectively. Holders of common stock are entitled to receive
dividends when, and if, declared by the board of directors. Each share of
common stock entitles the holders thereof to one vote, and cumulative voting
is not permitted.
Preferred Stock
The authorized preferred stock of the Company consists of 5,000,000 shares
with a par value of $.0001 per share. The board of directors is authorized,
without further action of the shareholders of the Company, to issue from time
to time shares of preferred stock in one or more series and with such relative
rights, powers, preferences, and limitations as the board of directors may
determine at the time of issuance. Such shares may be convertible into common
stock and may be superior to the common stock in the payment of dividends,
liquidation, voting and other rights, preferences and privileges.
Stock Option Plan
The Company has elected to follow APB Opinion No. 25, Accounting for Stock
Issued to Employees and related Interpretations in accounting for its employee
stock options because, as discussed below, the alternative fair value
accounting provided for under Statement No. 123, Accounting for Stock-Based
Compensation, requires use of option valuation models that were not developed
for use in valuing employee stock options. Under APB Opinion No. 25, because
the exercise price of the Company's employee stock options equals the market
price of the underlying stock on the date of grant, no compensation expense is
recognized.
In September 1996, the board of directors and shareholders adopted the 1996
Stock Option Plan, which amended and restated the Company's stock option plan
adopted in 1995. The Company's 1996 Stock Option Plan has authorized the grant
of options to substantially all of the Company's full-time employees and
directors for up to 525,000 shares of the Company's common stock. All options
granted have ten year terms and vest based on the determination by the
Company's compensation committee.
The 1996 Stock Option Plan authorized the granting of incentive stock
options ("Incentive Options") and nonqualified stock options ("Nonqualified
Options") to purchase common stock to eligible persons. The 1996 Stock Option
Plan is currently administered by the compensation committee (administrator)
of the board of directors. The 1996 Stock Option Plan provides for adjustments
to the number of shares and to the exercise price of outstanding options in
the event of a declaration of stock dividend or any recapitalization resulting
in a stock split-up, combination or exchange of shares of common stock.
No Incentive Option may be granted with an exercise price per share less
than the fair market value of the common stock at the date of grant. The
Nonqualified Options may be granted with any exercise price determined by the
administrator of the 1996 Stock Option Plan. The expiration date of an option
is determined by the administrator at the time of the grant, but in no event
may an option be exercisable after the expiration of ten years from the date
of grant of the option.
F-25
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
11. SHAREHOLDERS' EQUITY--(CONTINUED)
The 1996 Stock Option Plan further provides that in most instances an option
must be exercised by the optionee within 30 days after the termination of the
consulting contract between such consultant and the Company or termination of
the optionee's employment with the Company, as the case may be, if and to the
extent such option was exercisable on the date of such termination.
Pro forma information regarding net income and earnings per share is
required by Statement No. 123, which also requires that the information be
determined as if the Company had accounted for its employee stock options
granted subsequent to December 31, 1994 under the fair value method of that
Statement. The fair value for these options was estimated at the date of grant
using a Black-Scholes option pricing model with the following weighted-average
assumptions for 1995 and 1996, respectively: risk-free interest rates of 5.4
percent and 6.0 percent; a dividend yield of zero percent; volatility factors
of the expected market price of the Company's common stock of .39 and .39; and
a weighted-average expected life of the option of four years.
The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options which have no vesting restrictions and are
fully transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected stock price volatility.
Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in
the subjective input assumptions can materially affect the fair value
estimate, in management's opinion, the existing models do not necessarily
provide a reliable single measure of the fair value of its employee stock
options.
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. The
Company's pro forma information follows (in thousands except for earnings per
share information):
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31
-------------
1995 1996
------ ------
<S> <C> <C>
Pro forma net income...................................... $3,808 $3,534
Pro forma earnings per share:
Primary................................................. 0.81 0.67
Fully diluted........................................... 0.81 0.67
</TABLE>
Because Statement No. 123 is applicable only to options granted subsequent
to December 31, 1994, its pro forma effect will not be fully reflected until
1997.
A summary of the Company's stock option activity, and related information
for the years ended December 31 follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
---------------------------------------------
1995 1996
---------------------- ----------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE
------- -------------- ------- --------------
<S> <C> <C> <C> <C>
Outstanding, beginning of year.. -- $ -- 79,500 $ 5.13
Granted......................... 79,500 5.13 129,600 10.00
Exercised....................... -- -- -- --
Forfeited....................... -- -- -- --
------ -------
Outstanding, end of year........ 79,500 $5.13 209,100 $ 8.15
====== =======
Exercisable at end of year...... 39,750 $5.13 87,000 $ 5.55
Weighted average fair value of
options granted during the
year........................... $ 2.19 $ 4.06
</TABLE>
F-26
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
11. SHAREHOLDERS' EQUITY--(CONTINUED)
Exercise prices for options outstanding as of December 31, 1996 ranged from
$5.13 to $10.00. The weighted average remaining contractual life of those
options is 9.1 years. For the six months ended June 30, 1997 there were
122,000 grants made under the stock option plan at prices ranging from $10.38
to $17.25 and a weighted average exercise price of $13.73.
Restricted Net Assets
As a result of the regulatory requirements and debt covenants, substantially
all of the net assets of the Company are restricted at December 31, 1995 and
1996, and June 30, 1997.
Warrants
The Company issued warrants exercisable for an aggregate of 75,000 shares of
its common stock to its primary underwriters upon the closing of the Company's
initial public offering. The warrants are exercisable from time to time during
the four years after the one year anniversary of their date of grant, and are
not transferable during the first year after their grant. The exercise price
for the shares of common stock underlying such warrants is $12 per share. The
shares of common stock underlying such warrants are entitled to certain demand
and incidental registration rights.
Employee Stock Purchase Plan
In September 1996, the board of directors and shareholders adopted the
Matrix Capital Corporation Employee Stock Purchase Plan ("Purchase Plan") and
reserved 125,000 shares of common stock ("ESPP Shares") for issuance
thereunder. The Purchase Plan became effective upon consummation of the
initial public offering. The price at which ESPP shares are sold under the
Purchase Plan is 85 percent of the lower of the fair market value per share of
common stock on the enrollment or the purchase date.
12. COMMITMENTS, CONTINGENCIES AND RELATED PARTY TRANSACTIONS
Leases
The Company leases office space and certain equipment under noncancelable
operating leases. Annual amounts due under the office and equipment leases as
of December 31, 1996 are approximately as follows:
<TABLE>
<CAPTION>
(IN THOUSANDS)
--------------
<S> <C>
1997....................................................... $ 550
1998....................................................... 448
1999....................................................... 223
2000....................................................... 184
2001....................................................... 82
------
$1,487
======
</TABLE>
Total rent expense aggregated approximately $658,000, $647,000 and $541,000,
for the years ended December 31, 1994, 1995 and 1996, respectively, and
$252,000 and $280,000 for the six months ended June 30, 1996 and 1997,
respectively.
Loan Commitments and Hedging
In the ordinary course of business, the Company makes commitments to
originate residential mortgage loans (Pipeline) and holds originated loans
until delivery to an investor. Inherent in this business is a risk associated
F-27
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
12. COMMITMENTS, CONTINGENCIES AND RELATED PARTY TRANSACTIONS--(CONTINUED)
with changes in interest rates and the resulting change in the market value of
the Pipeline and funded loans. The Company mitigates this risk through the use
of mandatory and nonmandatory forward commitments to sell loans. At December
31, 1995, the Company had $93,133,000 in Pipeline and funded loans offset with
mandatory forward commitments of $64,743,000 and nonmandatory forward
commitments of $15,267,000. At December 31, 1996, the Company had $62,578,000
in Pipeline and funded loans offset with mandatory forward commitments of
$49,150,000 and nonmandatory forward commitments of $8,144,000. At June 30,
1997, the Company had $56,035,000 in Pipeline and funded loans offset with
mandatory forward commitments of $36,123,000 and nonmandatory forward
commitments of $10,773,000. The inherent value of the forward commitments is
considered in the determination of the lower of cost or market for the
Pipeline and funded loans. The Company does not hold any other derivatives at
December 31, 1995 and 1996 or June 30, 1997.
Land Development Commitment
In June 1996, the Company purchased 154 acres of land for $1.3 million in
cash for the purpose of developing residential and multi-family lots in Ft.
Lupton, Colorado. As part of the acquisition, the Company entered into a
Residential Facilities Development Agreement (Development Agreement) with the
City of Ft. Lupton. The Development Agreement is a residential and planned
unit development agreement providing for the orderly planning, engineering and
development of a golf course and surrounding residential community. The City
of Ft. Lupton is responsible for the development of the golf course and the
Company is responsible for the development of the surrounding residential
lots.
The Development Agreement sets forth a mandatory obligation on the part of
the Company to pay the City of Ft. Lupton pledged enhancement assessments of
$600,000. These pledged enhancement assessments require the Company to pay the
city a $2,000 fee each time the Company sells a developed residential lot. The
Company is obligated to pay a minimum of $60,000 in assessment fees per year
beginning in 1998 through 2007.
The Company also entered into a development management agreement with a
local developer to complete the development of the land. The terms of the
agreement specify that the Company is to earn a preferred rate of return on
its investment and, once the initial amount of its investment has been
returned and the preferred rate has been paid, the remaining profits are split
equally. The development management agreement obligates the Company to provide
up to an additional $500,000 of funds for development. The Company has no
other financial obligations to the developer beyond the $500,000. As of
December 31, 1996 and June 30, 1997, the Company has included in its basis in
the development $38,000 and $71,000, respectively, in capitalized interest
costs. At December 31, 1996 and June 30, 1997, the total basis of the land
development is $1,431,000 and $1,582,000, respectively, and is classified in
other assets in the accompanying consolidated balance sheets.
Financing Agreement
In 1996, the Company purchased $800,000 of City of Fort Lupton Subordinated
Series 1996 A1 revenue anticipation warrants, with interest at 9.75 percent
and due December 15, 2015. The warrants are classified as other receivables in
the accompanying consolidated balance sheets. The Company entered into an
agreement with a bank to sell the warrants, subject to certain repurchase
obligations resulting from the bank's annual remarketing of the bonds, with
interest at five percent. The Company entered into a letter of credit
agreement of $825,000 to guarantee its repurchase obligation.
Contingencies
Matrix Bank has received demands from an investor for repurchase of loans
related to a servicing portfolio purchased by Matrix Bank from an unrelated
third-party mortgage banker (Seller). The repurchase demand is
F-28
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
12. COMMITMENTS, CONTINGENCIES AND RELATED PARTY TRANSACTIONS--(CONTINUED)
pursuant to a claim of breach of covenants and warranties by the Seller
related to documentation deficiencies in connection with the origination and
sale of the loans. In January 1996, Matrix Bank commenced suit against the
Seller to recover, among other things, the purchase price paid for certain
residential mortgage loans. In connection with the lawsuit and the servicing
portfolio at issue, Matrix Bank has full representations and warranties from
the Seller. Since the representations and warranties have not been honored by
the Seller, Matrix Bank included a cause of action in the lawsuit seeking to
compel the Seller to repurchase the portfolio. During 1996, the servicing
relating to FHLMC was transferred to FHLMC for no consideration. Matrix Bank
had an accrued liability of approximately $500,000 at December 31, 1995,
$420,000 at December 31, 1996 and $71,000 at June 30, 1997 for the potential
loss exposure related to the pending repurchase requests which, in the opinion
of management, is adequate for estimated future losses.
The Company is a defendant in two lawsuits filed in 1996 that seek class
action status, which allege that the Company breached the terms of plaintiffs'
promissory notes and mortgages by imposing certain charges at the time the
plaintiffs prepaid their mortgage loans. The Company has entered into an
agreement, which is subject to court approval, to settle one lawsuit and
dismiss the other lawsuit. A settlement order of dismissal was entered into
for the dismissed lawsuit in November 1996.
In January 1997, a preliminary approval of the settlement was granted by the
court. Accordingly, as provided by the settlement agreement, the Company
established a settlement fund of $640,000 that was reserved in the third
quarter of 1996 to account for this contingency. The costs of notice and class
administration, attorneys' fees, and recovery to class members are all to come
from the settlement fund. Notice to class members was mailed in January 1997
and published in February 1997. After a hearing on April 10, 1997, the court
entered the final approval order on April 21, 1997, approving the settlement
agreement as submitted by the parties. The time for appeal from the final
approval order expired on May 21, 1997. No objections to the settlement
agreement were filed.
United Financial is a defendant in a lawsuit that was commenced on or about
May 23, 1997. The plaintiff-buyer alleges that United Financial as broker for
the seller, made false representations regarding the GNMA certification of
certain mortgage pools the servicing rights of which were offered for sale in
a written offering. The plaintiff further alleges that it relied on United
Financial's representations in purchasing the servicing rights from the
seller. The plaintiff seeks recovery of (i) the deposit paid to the seller in
connection with the purchase thereof in the amount of $147,000; (ii) $1.4
million that the plaintiff claims it paid GNMA to settle a dispute regarding
the certification of the mortgage pools; and (iii) approximately $1.44 million
in lost profits.
Matrix Bank is a defendant in a lawsuit that was commenced on or about June
9, 1997. The plaintiff alleges that Matrix Bank breached an agreement pursuant
to which Matrix Bank would act as an issuing bank in connection with a program
allegedly developed by the plaintiff relating to the issuance of credit cards.
The plaintiff agreed to perform, among other things, network marketing
services in an attempt to enroll network marketing companies in the program,
who in turn would solicit credit card applications from consumers. The
plaintiff claims that Matrix Bank failed to comply with its contractual
obligations in performing certain issuing and servicing functions in
connection with the credit card accounts. As a result, the plaintiff is
seeking to recover damages for lost profits and damage to its reputation in an
amount in excess of $10 million.
The Company and its subsidiaries are parties to various other litigation
matters, in most cases involving ordinary and routine claims incidental to the
business of the Company. The ultimate legal and financial liability of the
Company, if any, with respect to such pending litigation cannot be estimated
with certainty, but the Company believes, based on its examination of such
matters, that such ultimate liability will not have a material adverse effect
on the consolidated financial position, results of operations or cash flows of
the Company.
F-29
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
12. COMMITMENTS, CONTINGENCIES AND RELATED PARTY TRANSACTIONS--(CONTINUED)
Related Party Transactions
The Company has a note receivable from an affiliate of $750,000 at December
31, 1995 and 1996 and June 30, 1997, which bears interest at 13 percent and is
due October 1, 2000. The note is secured by a secondary lien on the assets of
the affiliate. The Company leases office space to the affiliate for
approximately $8,500 per month. The lease expires in September 1997, but the
Company anticipates that it will be renewed.
At December 31, 1995 and 1996 and June 30, 1997, the Company had an
unsecured loan receivable from a shareholder of approximately $80,000, which
bears interest at the prime rate and is due December 31, 1997 which is
renewable at the Company's option.
13. DEFINED CONTRIBUTION PLAN
The Company has a 401(k) defined contribution plan (Plan) covering all
employees who have elected to participate in the Plan. Each participant may
make pretax contributions to the Plan up to 15 percent of such participant's
earnings with a maximum of $9,500 in 1996. The Company makes a matching
contribution of 25 percent of the participant's total contribution. Matching
contributions made by the Company vest over six years. The cost of the Plan
approximated $54,000, $91,000 and $110,000 during the years ended December 31,
1994, 1995 and 1996, respectively, and $56,000 and $65,000 for the six months
ended June 30, 1996 and 1997, respectively.
14. FINANCIAL INSTRUMENTS
Off-Balance Sheet Risk and Concentration of Commitments
The Company is a party to financial instruments with off-balance sheet risk
in the normal course of its business. These instruments are commitments to
originate or purchase first mortgage loans and forward loan sale commitments
(see Note 12) and involve credit and interest rate risk in excess of the
amount recognized in the consolidated balance sheet.
Commitments to originate or purchase mortgage loans amounted to
approximately $18,900,000 and $21,700,000 at December 31, 1996 and June 30,
1997, respectively. Additionally, the Company has a $400,000 commitment to
lend funds on a secured basis. The Company plans to fund the commitments in
its normal commitment period. The Company evaluates each customer's
creditworthiness on a case-by-case basis.
The Company's credit risks comprised the outstanding loans held for sale and
loans held for investment as shown in the consolidated balance sheets, and
loans sold with recourse aggregating approximately $354,000 and $16,214,000 at
December 31, 1995 and 1996, respectively. The loans are located throughout the
United States and are collateralized primarily by a first mortgage on the
property.
F-30
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
14. FINANCIAL INSTRUMENTS--(CONTINUED)
Fair Value of Financial Instruments
The carrying amounts and estimated fair value of financial instruments are
as follows:
<TABLE>
<CAPTION>
DECEMBER 31
-----------------------------------
1995 1996
----------------- -----------------
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
-------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Financial assets:
Cash..................................... $ 1,929 $ 1,929 $ 2,855 $ 2,855
Interest earnings deposits............... 6,061 6,061 9,754 9,754
Loans held for sale, net................. 127,090 130,638 182,801 183,741
Loans held for investment, net........... 19,575 19,829 29,560 29,824
Federal Home Loan Bank of Dallas stock... 1,954 1,954 2,871 2,871
Financial liabilities:
Deposits................................. 48,877 49,283 90,179 90,401
Custodial escrow balances................ 27,011 27,011 37,881 37,881
Drafts payable........................... 8,817 8,817 5,961 5,961
Payable for purchase of MSRs............. 1,312 1,312 8,044 8,044
Federal Home Loan Bank of Dallas
borrowings.............................. 19,000 19,000 51,250 51,250
Borrowed money........................... 65,093 65,093 42,431 42,431
</TABLE>
The following methods and assumptions were used by the Company in estimating
the fair value of the financial instruments:
The carrying amounts reported in the balance sheet for cash, interest
earnings deposits, Federal Home Loan Bank of Dallas stock, drafts payable,
payable for purchase of MSRs, Federal Home Loan Bank of Dallas borrowings, and
borrowed money approximate those assets' and liabilities' fair values.
The fair values of loans are based on quoted market prices where available
or outstanding commitments from investors. If quoted market prices are not
available, fair values are based on quoted market prices of similar loans sold
in securitization transactions, adjusted for differences in loan
characteristics. The fair value of forward sale commitments are included in
the determination of the fair value of loans held for sale.
The fair value disclosed for demand deposits (e.g., interest and noninterest
checking, savings, and money market accounts) are, by definition, equal to the
amount payable on demand at the reporting date (i.e., their carrying amounts).
Fair values for fixed-rate certificates of deposit are estimated using a
discounted cash flow calculation that applies interest rates currently being
offered on certificates to a schedule of aggregated expected periodic
maturities on time deposits. The component commonly referred to as deposit
base intangible, was not estimated at December 31, 1995 and 1996 and is not
considered in the fair value amount. The fair value disclosed for custodial
escrow balances liabilities (noninterest checking) is, by definition, equal to
the amount payable on demand at the reporting date (i.e., their carrying
amounts).
F-31
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
15. PARENT COMPANY CONDENSED FINANCIAL INFORMATION
Condensed financial information of Matrix Capital Corporation (Parent
Company) is as follows:
<TABLE>
<CAPTION>
DECEMBER 31
-----------------------
JUNE 30
1994 1995 1996 1997
------- ------- ------- -----------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C>
CONDENSED BALANCE SHEETS
Assets:
Cash..................................... $ 180 $ 11 $ 45 $ 120
Other receivables........................ -- 804 872 921
Premises and equipment, net.............. 1,154 1,371 1,405 1,455
Other assets............................. 303 515 507 629
Investment in and advances to subsidiar-
ies..................................... 9,910 15,201 36,199 45,222
------- ------- ------- -------
Total assets............................... $11,547 $17,902 $39,028 $48,347
======= ======= ======= =======
Liabilities and shareholders' equity:
Borrowed money (a)....................... $ 4,052 $ 6,751 $ 6,372 $11,725
Other liabilities........................ 833 465 386 728
------- ------- ------- -------
Total liabilities.......................... 4,885 7,216 6,758 12,453
Shareholders' equity:
Common stock............................. -- -- 1 1
Additional paid in capital............... 3,668 3,769 21,983 21,983
Retained earnings........................ 2,994 6,917 10,286 13,910
------- ------- ------- -------
Total shareholders' equity................. 6,662 10,686 32,270 35,894
------- ------- ------- -------
Total liabilities and shareholders' equi-
ty........................................ $11,547 $17,902 $39,028 $48,347
======= ======= ======= =======
</TABLE>
- --------
(a) The Parent's debt set is forth below. The Parent also guarantees the
revolving warehouse and servicing acquisition loan agreements. See Note 7
for additional information regarding the debt.
<TABLE>
<CAPTION>
DECEMBER 31
--------------------
JUNE 30
1994 1995 1996 1997
------ ------ ------ -----------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Revolving line of credit..................... $ -- $ -- $ -- $ 5,500
Senior subordinated notes.................... -- 2,910 2,910 2,910
Notes payable-revised bank stock loan........ -- -- -- 1,929
Note payable--bank stock loan................ 2,575 2,289 2,003 --
Note payable to a bank secured by real es-
tate........................................ -- 921 938 920
Notes payable secured by MSR................. 740 631 521 466
First mortgage with an insurance company..... 737 -- -- --
------ ------ ------ -------
$4,052 $6,751 $6,372 $11,725
====== ====== ====== =======
</TABLE>
F-32
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
15. PARENT COMPANY CONDENSED FINANCIAL INFORMATION--(CONTINUED)
The maturities of term notes payable during the next five years and
thereafter are as follows at December 31, 1996:
<TABLE>
<CAPTION>
(IN THOUSANDS)
--------------
<S> <C>
1997......................................... $ 439
1998......................................... 1,291
1999......................................... 1,123
2000......................................... 1,123
2001......................................... 1,096
Thereafter................................... 1,300
------
$6,372
======
</TABLE>
<TABLE>
<CAPTION>
SIX MONTHS
ENDED
YEAR ENDED DECEMBER 31 JUNE 30
------------------------ ----------------
1994 1995 1996 1996 1997
------ ------- ------- ------- -------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
CONDENSED STATEMENTS OF INCOME
Income:
Interest income on loans........ $ -- $ 44 $ 142 $ 94 $ 69
Other........................... 472 374 130 (52) 176
------ ------- ------- ------- -------
Total income...................... 472 418 272 42 245
Expenses:
Compensation and employee bene-
fits........................... 767 1,042 1,344 539 813
Occupancy and equipment......... 18 92 299 125 149
Interest on borrowed money...... 170 592 805 411 467
Professional fees............... 82 112 138 46 125
Other general and administra-
tive........................... 81 704 328 47 640
------ ------- ------- ------- -------
Total expenses.................... 1,118 2,542 2,914 1,168 2,194
------ ------- ------- ------- -------
Loss before income taxes and eq-
uity in income of subsidiaries... (646) (2,124) (2,642) (1,126) (1,949)
Income taxes (b).................. -- -- -- -- --
------ ------- ------- ------- -------
Loss before equity in income of
subsidiaries..................... (646) (2,124) (2,642) (1,126) (1,949)
Equity in income of subsidiaries.. 3,766 6,047 6,212 2,627 5,573
------ ------- ------- ------- -------
Net income........................ $3,120 $ 3,923 $ 3,570 $ 1,501 $ 3,624
====== ======= ======= ======= =======
</TABLE>
- --------
(b) The Company's tax sharing agreement with its subsidiaries provides that the
subsidiaries will pay the Parent an amount equal to its individual current
income tax provision calculated on the basis of the subsidiary filing a
separate return. In the event a subsidiary incurs a net operating loss in
future periods, the subsidiary will be paid an amount equal to the current
income tax refund the subsidiary would be due as a result of carryback of
such loss, calculated on the basis of the subsidiary filing a separate
return. Accordingly, the parent's condensed statements of income do not
include any income tax benefit for the current losses.
F-33
<PAGE>
MATRIX CAPITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
15. PARENT COMPANY CONDENSED FINANCIAL INFORMATION--(CONTINUED)
<TABLE>
<CAPTION>
SIX MONTHS
ENDED
YEAR ENDED DECEMBER 31 JUNE 30
------------------------- ----------------
1994 1995 1996 1996 1997
------- ------- ------- ------- -------
(UNAUDITED)
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
CONDENSED STATEMENTS OF CASH FLOWS
Cash flows from operating activi-
ties:
Net income...................... $ 3,120 $ 3,923 $ 3,570 $ 1,501 $ 3,624
Adjustments to reconcile net in-
come to net cash provided
(used) by operating activities:
Equity in income of subsidiar-
ies.......................... (3,766) (6,047) (6,212) (2,627) (5,573)
Dividend from subsidiaries.... 1,368 2,207 1,843 1,258 2,641
Depreciation and amortiza-
tion......................... 5 34 127 23 66
Increase (decrease) in other
liabilities.................. 410 (368) (78) 91 342
(Increase) decrease in other
receivables and other as-
sets......................... (202) (1,016) (133) 25 (199)
Noncash compensation expense.. -- 101 -- -- --
------- ------- ------- ------- -------
Net cash provided (used) by oper-
ating activities................. 935 (1,166) (883) 271 901
Investing activities:
Purchases of premises and equip-
ment........................... (1,159) (251) (88) (60) (88)
Investment in and advances to
subsidiaries................... (1,904) (1,451) (16,630) 488 (6,091)
------- ------- ------- ------- -------
Net cash provided (used) by in-
vesting activities............... (3,063) (1,702) (16,718) 428 (6,179)
Financing activities:
Repayments of notes payable..... (185) (1,133) (438) (14) (2,147)
Proceeds from notes payable and
revolving line of credit....... 2,487 922 59 -- 7,500
Dividends paid by pooled company
prior to merger................ -- -- (201) (66) --
Capital contribution by pooled
company prior to merger........ -- -- 24 24 --
Proceeds from senior subordi-
nated notes.................... -- 2,910 -- -- --
Proceeds from the sale of common
stock.......................... -- -- 18,191 -- --
------- ------- ------- ------- -------
Net cash provided (used) by fi-
nancing activities............... 2,302 2,699 17,635 (56) 5,353
------- ------- ------- ------- -------
Increase (decrease) in cash and
cash equivalents................. 174 (169) 34 643 75
Cash and cash equivalents at be-
ginning of period................ 6 180 11 11 45
------- ------- ------- ------- -------
Cash and cash equivalents at end
of period........................ $ 180 $ 11 $ 45 $ 654 $ 120
======= ======= ======= ======= =======
</TABLE>
F-34
<PAGE>
No dealer, salesperson or other person has been authorized to give any infor-
mation or to make representations other than those contained in this Prospec-
tus in connection with the offer made by this Prospectus, and, if given or
made, such information or representations must not be relied upon as having
been authorized by the company or any of the underwriters. Neither the deliv-
ery of this Prospectus nor any sale made hereunder shall under any circum-
stance create an implication that the information contained herein is correct
as of any time subsequent to the date hereof. This Prospectus does not consti-
tute an offer or solicitation by anyone in any jurisdiction in which such of-
fer or solicitation is not authorized or in which the person making such offer
or solicitation is not qualified to do so or to anyone to whom it is unlawful
to make such offer or solicitation.
---------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Prospectus Summary....................................................... 3
Risk Factors............................................................. 10
Use of Proceeds.......................................................... 19
Capitalization........................................................... 20
Selected Consolidated Financial and Operating Information................ 22
Management's Discussion and Analysis of Financial Condition and Results
of Operations........................................................... 25
Business................................................................. 47
Supervision and Regulation............................................... 63
Management............................................................... 73
Certain Relationships and Related Transactions........................... 79
Principal Shareholders................................................... 80
Description of the Notes................................................. 81
Underwriting............................................................. 105
Legal Matters............................................................ 106
Experts.................................................................. 106
Available Information.................................................... 106
Financial Statements..................................................... F-1
</TABLE>
$20,000,000
LOGO
11.50% Senior Notes Due 2004
---------------
PROSPECTUS
---------------
Keefe, Bruyette &Woods, Inc.
Piper Jaffray inc.
September 24, 1997
