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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended March 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from _______________ to ________________
COMMISSION FILE NO. 000-22474
AMERICAN BUSINESS FINANCIAL SERVICES, INC.
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(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
Delaware 87-0418807
-------- ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
100 Penn Square East, Philadelphia, PA 19107
--------------------------------------------
(Address of principal executive offices) (zip code)
(215) 940-4000
--------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. [X] YES [ ] NO
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act). [ ] YES [X] NO
The number of shares outstanding of the registrant's sole class of
common stock as of May 3, 2004 was 3,146,892 shares.
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
INDEX
Page
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PART I FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of March 31, 2004 and June 30, 2003...............................................1
Consolidated Statements of Income for the three and nine months ended March 31, 2004 and 2003....................2
Consolidated Statement of Stockholders' Equity for the nine months ended March 31, 2004..........................3
Consolidated Statements of Cash Flow for the nine months ended March 31, 2004 and 2003 ..........................4
Notes to Consolidated Financial Statements.......................................................................6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations..................40
Item 3. Quantitative and Qualitative Disclosures about Market Risk............................................120
Item 4. Controls and Procedures...............................................................................120
PART II OTHER INFORMATION
Item 1. Legal Proceedings.....................................................................................120
Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities......................122
Item 3. Defaults Upon Senior Securities.......................................................................123
Item 4. Submission of Matters to a Vote of Security Holders...................................................123
Item 5. Other Information.....................................................................................123
Item 6. Exhibits and Reports on Form 8-K......................................................................124
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(dollar amounts in thousands)
MARCH 31, JUNE 30,
2004 2003
---------- -----------
ASSETS (UNAUDITED) (Note)
Cash and cash equivalents (includes restricted cash of $15,197 at March 31,
2004 and $16,988 at June 30, 2003) $ 31,375 $ 47,475
Loan and lease receivables, net
Available for sale 121,518 271,402
Interest and fees 20,655 15,179
Other 36,362 23,761
Interest-only strips (includes the fair value of over-collateralization
related cash flows of $239,567 at March 31, 2004 and $279,245 at
June 30, 2003) 496,709 598,278
Servicing rights 82,823 119,291
Receivable for sold loans - 26,734
Prepaid expenses 15,438 3,477
Property and equipment, net 26,180 23,302
Deferred income tax asset 38,581 -
Other assets 28,578 30,452
---------- -----------
Total assets $ 898,219 $ 1,159,351
========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Subordinated debentures $ 585,797 $ 719,540
Senior collateralized subordinated notes 55,420 -
Warehouse lines and other notes payable 86,644 212,916
Accrued interest payable 37,571 45,448
Accounts payable and other accrued expenses 32,687 30,352
Deferred income tax liability - 17,036
Other liabilities 89,936 91,990
---------- -----------
Total liabilities 888,055 1,117,282
---------- -----------
STOCKHOLDERS' EQUITY
Preferred stock, par value $.001, liquidation preference of $1.00 per share plus
accrued and unpaid dividends to the date of liquidation, authorized shares,
203,000,000 at March 31, 2004 and 3,000,000 at June 30, 2003;
Issued: 61,807,088 shares of Series A at March 31, 2004 62 -
Common stock, par value $.001, authorized shares, 209,000,000 at March 31,
2004 and 9,000,000 at June 30, 2003; Issued: 3,653,165 shares at March 31,
2004 and June 30, 2003 (including treasury shares of 506,273 at March 31,
2004 and 706,273 at June 30, 2003) 4 4
Additional paid-in capital 84,035 23,985
Accumulated other comprehensive income 5,017 14,540
Unearned compensation (760) -
Retained earnings (deficit) (71,168) 13,104
Treasury stock, at cost (6,426) (8,964)
---------- -----------
10,764 42,669
Note receivable (600) (600)
---------- -----------
Total stockholders' equity 10,164 42,069
---------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 898,219 $ 1,159,351
========== ===========
Note: The balance sheet at June 30, 2003 has been derived from the audited
financial statements at that date. See accompanying notes to consolidated
financial statements.
1
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(dollar amounts in thousands, except per share data)
(unaudited)
THREE MONTHS ENDED NINE MONTHS ENDED
MARCH 31, MARCH 31,
----------------------------- ----------------------------
2004 2003 2004 2003
----------- --------- ----------- -----------
REVENUES
Gain on sale of loans:
Securitizations $ - $ 54,504 $ 15,107 $ 170,394
Whole loan sales 7,208 (4) 10,207 29
Interest and fees 4,870 4,665 11,690 13,393
Interest accretion on interest-only strips 9,605 12,114 30,942 34,361
Servicing income 1,283 486 3,810 2,667
Other income 478 1 480 7
----------- --------- ----------- -----------
Total revenues 23,444 71,766 72,236 220,851
----------- --------- ----------- -----------
EXPENSES
Interest 16,901 16,824 50,369 51,057
Provision for credit losses 4,876 1,718 12,846 4,692
Employee related costs 11,175 9,418 36,826 29,965
Sales and marketing 4,590 6,963 10,524 20,136
Trading (gains) and losses (1,745) 782 (6,815) 5,257
General and administrative 23,256 25,375 63,736 69,633
Securitization assets valuation adjustment 15,085 10,657 37,848 33,303
----------- --------- ----------- -----------
Total expenses 74,138 71,737 205,334 214,043
----------- --------- ----------- -----------
INCOME (LOSS) BEFORE PROVISION FOR INCOME TAXES
(BENEFIT) (50,694) 29 (133,098) 6,808
Provision for income taxes (benefit) (19,263) (192) (50,577) 2,655
----------- --------- ----------- -----------
INCOME (LOSS) BEFORE DIVIDENDS ON PREFERRED STOCK (31,431) 221 (82,521) 4,153
Dividends on Preferred Stock 1,751 - 1,751 -
----------- --------- ----------- -----------
NET INCOME (LOSS) ATTRIBUTABLE TO COMMON STOCK $ (33,182) $ 221 $ (84,272) $ 4,153
=========== ========= =========== ===========
EARNINGS (LOSS) PER COMMON SHARE:
Basic $ (10.53) $ 0.07 $ (27.79) $ 1.43
=========== ========= =========== ===========
Diluted $ (10.53) $ 0.06 $ (27.79) $ 1.36
=========== ========= =========== ===========
AVERAGE COMMON SHARES:
Basic 3,182 2,941 3,033 2,909
=========== ========= =========== ===========
Diluted 3,182 3,103 3,033 3,043
=========== ========= =========== ===========
See accompanying notes to consolidated financial statements.
2
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED MARCH 31, 2004
(amounts in thousands)
(unaudited)
PREFERRED STOCK COMMON STOCK
------------------- -------------------
ACCUMULATED
NUMBER OF NUMBER OF ADDITIONAL OTHER RETAINED
SHARES SHARES PAID-IN COMPREHENSIVE UNEARNED EARNINGS
OUTSTANDING AMOUNT OUTSTANDING AMOUNT CAPITAL INCOME COMPENSATION (DEFICIT)
----------- ------ ----------- ------ ---------- ------------- ------------ ---------
Balance June 30, 2003 - $ - 2,947 $ 4 $ 23,985 $ 14,540 $ - $ 13,104
Issuance of preferred stock 61,807 62 - - 61,428 - - -
Issuance of restricted
common stock - - 200 - (1,778) - (760) -
Cash dividends declared on
preferred stock ($0.025
per share) - - - - - - - (1,351)
Amortization of beneficial
conversion feature - - - - 400 - - (400)
Comprehensive income:
Net loss - - - - - - - (82,521)
Net unrealized loss
on interest-only
strips - - - - - (9,523) - -
------ ----- ----- --- -------- -------- ------ ---------
Total comprehensive loss - - - - - (9,523) - (82,521)
------ ----- ----- --- -------- -------- ------ ---------
BALANCE MARCH 31, 2004 61,807 $ 62 3,147 $ 4 $ 84,035 $ 5,017 $ (760) $ (71,168)
====== ===== ===== === ======== ======== ====== =========
TOTAL
TREASURY NOTE STOCKHOLDERS'
STOCK RECEIVABLE EQUITY
-------- ---------- -------------
Balance June 30, 2003 $ (8,964) $ (600) $ 42,069
Issuance of preferred stock - - 61,490
Issuance of restricted
common stock 2,538 - -
Cash dividends declared on
preferred stock ($0.025
per share) - - (1,351)
Amortization of beneficial
conversion feature - - -
Comprehensive income:
Net loss - - (82,521)
Net unrealized loss
on interest-only
strips - - (9,523)
--------- ------ ---------
Total comprehensive loss - - (92,044)
--------- ------ ---------
BALANCE MARCH 31, 2004 $ (6,426) $ (600) $ 10,164
========= ====== =========
See accompanying notes to consolidated financial statements.
3
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW
(dollar amounts in thousands)
(unaudited)
NINE MONTHS ENDED
MARCH 31,
------------------------------------
2004 2003
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) $ (82,521) $ 4,153
Adjustments to reconcile net income to net cash used in operating
activities:
Gain on sale of loans (25,314) (170,423)
Depreciation and amortization 38,545 38,085
Interest accretion on interest-only strips (30,942) (34,361)
Securitization assets valuation adjustment 37,848 33,303
Provision for credit losses 12,846 4,692
Loans originated for sale (535,335) (1,226,712)
Proceeds from sale of loans 678,062 1,208,940
Principal payments on loans and leases 23,293 14,626
Increase in accrued interest and fees on loan and lease receivables (5,476) (1,862)
Purchase of initial overcollateralization on securitized loans -- (3,800)
Required purchase of additional overcollateralization on
securitized loans (21,826) (53,496)
Cash flow from interest-only strips 133,587 109,849
(Increase) decrease in prepaid expenses (11,961) 56
(Decrease) increase in accrued interest payable (7,877) 2,444
(Decrease) increase in accounts payable and accrued expenses 2,503 7,953
Accrued interest payable reinvested in subordinated debentures 29,159 28,174
Decrease in deferred income taxes payable (50,489) (549)
(Decrease) increase in loans in process (13,245) 1,884
(Payments) receipts on derivative financial instruments (3,136) (8,529)
Other, net (5,180) 4,065
----------- -----------
Net cash provided by (used in) operating activities 162,541 (41,508)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property and equipment, net (8,416) (4,277)
Principal receipts and maturity of investments 33 25
----------- -----------
Net cash used in investing activities (8,383) (4,252)
----------- -----------
4
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW (CONTINUED)
(dollar amounts in thousands)
(unaudited)
NINE MONTHS ENDED
MARCH 31,
------------------------------------
2004 2003
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of subordinated debentures $ 131,824 $ 136,977
Redemptions of subordinated debentures (177,499) (110,653)
Net repayments on revolving lines of credit (100,353) (495)
Principal payments on lease funding facility -- (2,091)
Principal payments under capital lease obligations (236) (138)
Net repayments of other notes payable (26,158) --
Financing costs incurred (1,561) (688)
Lease incentive receipts 4,562 2,123
Exercise of employee stock options -- (2)
Exercise of non-employee stock options -- 50
Grant of restricted stock option -- 9
Cash dividends paid on common stock -- (699)
Cash dividends paid on preferred stock (837) --
----------- -----------
Net cash provided by (used in) financing activities (170,258) 24,393
----------- -----------
Net decrease in cash and cash equivalents (16,100) (21,367)
Cash and cash equivalents at beginning of year 47,475 108,599
----------- -----------
Cash and cash equivalents at end of period $ 31,375 $ 87,232
=========== ===========
SUPPLEMENTAL DISCLOSURES:
Noncash transactions recorded in the acquisition of a mortgage
broker business:
Increase in warehouse lines and other notes payable $ 475 $ --
Increase in accounts payable and other accrued expenses $ 107 $ --
Increase in other assets $ 582 $ --
Noncash transactions recorded for conversion of subordinated
debentures into preferred stock and senior collateralized
subordinated notes:
Decrease in subordinated debentures $ 117,227 $ --
Increase in senior collateralized subordinated notes $ 55,420 $ --
Increase in preferred stock $ 62 $ --
Increase in additional paid-in capital $ 61,745 $ --
Noncash transaction recorded for capitalized lease agreement:
Increase in property and equipment $ -- $ (1,020)
Increase in warehouse lines and other notes payable $ -- $ 1,020
Cash paid during the period for:
Interest $ 29,087 $ 20,439
Income taxes $ 105 $ 759
See accompanying notes to consolidated financial statements.
5
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2004
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
American Business Financial Services, Inc. ("ABFS"), together with its
subsidiaries (the "Company"), is a financial services organization operating
mainly in the eastern and central portions of the United States. Recent
expansion has positioned the Company to increase its operations in the western
portion of the United States, especially California. The Company originates,
sells and services home equity loans through its principal direct and indirect
subsidiaries. The Company also processes and purchases home equity loans from
other financial institutions through the Bank Alliance Services program. The
Company services business purpose loans which it had originated and sold in
prior periods. To the extent the Company obtains a credit facility to fund
business purpose loans, the Company may originate and sell business purpose
loans in future periods.
The Company's loans primarily consist of fixed interest rate loans secured by
first or second mortgages on one-to-four family residences. However, the
Company's business strategy adjustments include increasing loan origination by
offering adjustable-rate loans. The Company's customers are primarily
credit-impaired borrowers who are generally unable to obtain financing from
banks or savings and loan associations and who are attracted to its products and
services. The Company originates loans through a combination of channels
including a national processing center located at its centralized operating
office in Philadelphia, Pennsylvania, and a small office in Roseland, New
Jersey. The Company recently acquired a broker operation in West Hills,
California and opened new broker offices in Edgewater, Maryland and Irvine,
California. The Company's centralized operating office was located in Bala
Cynwyd, Pennsylvania prior to July 7, 2003. Prior to June 30, 2003, the Company
also originated home equity loans through several direct retail branch offices.
Effective June 30, 2003, the Company no longer originates home equity loans
through direct retail branch offices. In addition, the Company offers
subordinated debentures to the public, the proceeds of which are used for
repayment of existing debt, loan originations, operations (including repurchases
of delinquent assets from securitization trusts and funding loan
overcollateralization requirements under the Company's credit facilities),
investments in systems and technology and for general corporate purposes.
BUSINESS CONDITIONS
General. For its ongoing operations, the Company depends upon frequent
financings, including the sale of unsecured subordinated debentures, borrowings
under warehouse credit facilities or lines of credit and also on the sale of
loans on a whole loan basis or through publicly underwritten or privately-placed
securitizations. If the Company is unable to renew or obtain adequate funding on
acceptable terms through its sale of subordinated debentures or under a
warehouse credit facility, or other borrowings, the lack of adequate funds would
adversely impact liquidity and reduce profitability or result in continued
losses. If the Company is unable to sell or securitize its loans, its liquidity
would be reduced and it may incur losses. To the extent that the Company is not
successful in maintaining or replacing existing subordinated debentures and
senior collateralized subordinated notes upon maturity, maintaining adequate
warehouse credit facilities or lines of credit to fund increasing loan
originations, or securitizing and selling its loans, it may have to limit future
loan originations and further restructure its operations. Limiting loan
originations or restructuring operations could impair the Company's ability to
repay subordinated debentures and senior collateralized subordinated notes at
maturity and may result in continued losses.
6
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
BUSINESS CONDITIONS (CONTINUED)
The Company has historically experienced negative cash flow from operations
since 1996 primarily because, in general, its business strategy of selling loans
through securitizations has not generated cash flow immediately. However, during
the nine months ended March 31, 2004, the Company experienced positive cash flow
from operations of $162.5 million, primarily due to whole loan sales of loans it
originated in prior periods that were carried on its balance sheet at June 30,
2003. The following table compares the principal amount of loans sold in whole
loan sales during the nine months ended March 31, 2004, to the amount of loans
originated during the same period (in thousands).
Whole Loan Loans
Quarter Ended Sales Originated
------------------------------------------ ---------- -----------
September 30, 2003 $ 245,203 $ 124,052
December 31, 2003 7,975(a) 103,084
March 31, 2004 228,629 241,449
---------- ----------
Total for nine months ended March 31, 2004 $ 481,807 $ 468,585
========== ==========
(a) During the quarter ended December 31, 2003, the Company completed a
securitization of $173.5 million of mortgage loans.
For the nine months ended March 31, 2004, the Company recorded a net loss before
dividends on preferred stock of $82.5 million. The loss primarily resulted from:
a) liquidity issues described below, which substantially reduced the Company's
ability to originate loans and generate revenues during the first nine months of
fiscal 2004, b) the Company's inability to complete securitizations of loans
during the first and third quarters of fiscal 2004, c) operating expense levels
which would support greater loan origination volume, and d) $37.8 million of
pre-tax charges for valuation adjustments on its securitization assets. The
valuation adjustments reflect the impact of higher than anticipated prepayments
on securitized loans experienced during the first nine months of fiscal 2004 due
to the continuing low interest rate environment. For the nine months ended March
31, 2004, the Company originated $468.6 million of loans, which represents a
significant reduction as compared to $1.18 billion of loans originated in the
same period of the prior fiscal year.
For the fiscal year ended June 30, 2003, the Company recorded a loss of $29.9
million. The loss in fiscal 2003 was primarily due to the Company's inability to
complete a securitization of loans during the fourth quarter of fiscal 2003 and
to $45.2 million of net pre-tax charges for net valuation adjustments recorded
on securitization assets.
Short-term Liquidity. The Company's short-term liquidity has been negatively
impacted by several events and issues, which have occurred beginning with the
fourth quarter of fiscal 2003.
First, the Company's inability to complete a securitization during the fourth
quarter of fiscal 2003 adversely impacted its short-term liquidity position and
contributed to the loss for fiscal 2003. At June 30, 2003, of the $516.1 million
in revolving credit and conduit facilities then available, $453.4 million was
drawn upon. The Company's revolving credit facilities and mortgage conduit
facility had $62.7 million of unused capacity available at June 30, 2003, which
significantly reduced its ability to fund future loan originations until it sold
existing loans, extended or expanded existing credit facilities, or added new
credit facilities.
7
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
BUSINESS CONDITIONS (CONTINUED)
Second, the Company's ability to borrow under credit facilities to finance new
loan originations was limited for much of the first six months of fiscal 2004.
Further advances under a non-committed portion of one of the Company's credit
facilities were subject to the discretion of the lender and subsequent to June
30, 2003, no new advances took place under the non-committed portion.
Additionally, on August 20, 2003, amendments to this credit facility eliminated
the non-committed portion of this facility, reduced the committed portion to
$50.0 million and accelerated the expiration date from November 2003 to
September 30, 2003. Also, a $300.0 million mortgage conduit facility with a
financial institution that enabled the Company to sell its loans into an
off-balance sheet facility, expired pursuant to its terms on July 5, 2003. In
addition, the Company was unable to borrow under a $25.0 million warehouse
facility after September 30, 2003, and this facility expired on October 31,
2003.
Third, the Company's temporary discontinuation of sales of new subordinated
debentures for approximately a six-week period during the first quarter of
fiscal 2004 further impaired its liquidity.
As a result of these liquidity issues, since June 30, 2003 the Company's loan
origination volume was substantially reduced. From July 1, 2003 through March
31, 2004, the Company originated $468.6 million of loans, which represents a
significant reduction as compared to originations of $1.18 billion of loans for
the same period in fiscal 2003. The Company also experienced a loss in loan
origination employees. As a result of the decrease in loan originations and
liquidity issues described above, the Company incurred a loss for the first
three quarters of fiscal 2004 and depending on the Company's ability to
recognize gains on its future securitizations, it anticipates incurring losses
at least through the first quarter of fiscal 2005.
The combination of the Company's current cash position and expected sources of
operating cash in the fourth quarter of fiscal 2004 may not be sufficient to
cover its operating cash requirements. On March 31, 2004, the Company had
unrestricted cash of approximately $16.2 million and up to $364.4 million
available under its new credit facilities. Advances under these new credit
facilities can only be used to fund loan originations and not for any other
purposes. The Company anticipates that depending upon the size of its future
quarterly securitizations, it will need to increase loan originations to
approximately $700.0 million to $800.0 million per quarter to return to
profitable operations. For the quarter ended March 31, 2004, the Company
originated $241.4 million of loans.
The Company's short-term plan to achieve these levels of loan originations
includes replacing the loan origination employees lost and creating an expanded
broker initiative. The broker initiative involves significantly increasing the
use of loan brokers to increase loan volume and obtaining additional resources
in the form of senior officers to manage the broker program. In December 2003,
the Company hired an experienced industry professional who manages the wholesale
business and acquired a broker operation with 35 employees located in
California. In February 2004, the Company hired a second experienced industry
professional to start up a broker operation on the west coast. In March 2004,
the Company opened a mortgage broker office in Maryland and hired three
experienced senior managers and a loan origination staff of 40. In addition, the
Company hired 12 mortgage broker account executives to expand its broker
presence in the eastern, southern and mid-western areas of the U.S.
8
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
BUSINESS CONDITIONS (CONTINUED)
Beyond the short-term, the Company expects to increase originations through the
application of the business strategy adjustments discussed in "Managements
Discussion and Analysis of Financial Condition and Results of Operations --
Business Strategy." The Company's ability to achieve those levels of loan
originations could be hampered by a failure to implement its short-term plans
and funding limitations expected during the start up of its new credit
facilities, which are discussed below.
For the next six to twelve months the Company expects to augment its sources of
operating cash with proceeds from the issuance of subordinated debentures. In
addition to repaying maturing subordinated debentures, proceeds from the
issuance of subordinated debentures will be used to fund overcollateralization
requirements in connection with loan originations and fund the Company's
operating losses. Under the terms of the Company's credit facilities, these
credit facilities will advance 75% to 97% of the value of loans the Company
originates. As a result of this limitation, the Company must fund the difference
between the loan value and the advances, referred to as the
overcollateralization requirement, from the Company's operating cash. The
Company can provide no assurances that it will be able to continue issuing
subordinated debentures. In the event the Company is unable to offer additional
subordinated debentures for any reason, it has developed a contingent financial
restructuring plan. This plan is described later in this note.
In light of the losses during the quarters ended September 30, 2003, December
31, 2003 and March 31, 2004, the Company requested and obtained waivers for its
non-compliance with financial covenants in its credit facility agreements and
servicing agreements. See Notes 5 and 7 for more detail.
Remedial Actions to Address Short-term Liquidity. The Company undertook specific
remedial actions to address short-term liquidity concerns including selling
loans on a whole loan basis, securing new credit and warehouse facilities,
refinancing an off-balance sheet mortgage conduit facility, mailing an Offer to
Exchange to holders of the Company's subordinated debentures and suspending the
payment of quarterly dividends on its common stock.
The Company entered into an agreement with an investment bank on June 30, 2003
to sell up to $700.0 million of mortgage loans, entered into a forward sale
agreement in March 2004 for $300.0 million of mortgage loans, and it solicited
bids and commitments from other participants in the whole loan sale market. In
total, from June 30, 2003 through March 31, 2004, the Company sold approximately
$729.8 million of loans (which includes $222.3 million of loans sold by the
expired mortgage conduit facility) through whole loan sales. After the Company
recognized its inability to securitize its loans in the fourth quarter of fiscal
2003, it adjusted its business strategy to emphasize, among other things, more
whole loan sales. The Company intends to continue to evaluate both public and
privately placed securitization transactions, subject to market conditions.
9
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
BUSINESS CONDITIONS (CONTINUED)
On September 22, 2003, the Company entered into definitive agreements with a
financial institution for a new $200.0 million credit facility for the purpose
of funding loan originations. On October 14, 2003, the Company entered into
definitive agreements with a warehouse lender for a revolving mortgage loan
warehouse credit facility of up to $250.0 million to fund loan originations. See
Note 7 for information regarding the terms of these facilities. Although the
Company obtained these two new credit facilities totaling $450.0 million, it may
only use the proceeds of advances under these credit facilities to fund loan
originations and not for any other purpose. Consequently, the Company will have
to generate cash to fund the balance of its business operations from other
sources, such as whole loan sales, additional financings and sales of
subordinated debentures.
On October 16, 2003, the Company refinanced through a mortgage warehouse conduit
facility $40.0 million of loans that were previously held in an off-balance
sheet mortgage conduit facility, which expired pursuant to its terms in July
2003. The Company also refinanced an additional $133.5 million of mortgage loans
in the new conduit facility. These loans were previously held in other expired
warehouse facilities, including the $50.0 million warehouse facility which
expired on October 17, 2003. The more favorable advance rate under this conduit
facility as compared to the expired facilities which previously held these
loans, along with loans fully funded with company cash, resulted in the receipt
of $17.0 million in cash. On October 31, 2003, the Company completed a privately
placed securitization, with servicing released, of the $173.5 million of loans
that had been transferred to this conduit facility. The terms of this conduit
facility provided for the termination upon the disposition of these loans.
On December 1, 2003, the Company mailed an Offer to Exchange (the "Exchange
Offer") to holders of its subordinated debentures issued prior to April 1, 2003
("eligible debentures"). The Exchange Offer permitted holders of eligible
debentures to exchange their eligible debentures for 10% Series A convertible
preferred stock ("Series A Preferred Stock") of the Company or for an equal
combination of Series A Preferred Stock and senior collateralized subordinated
notes of the Company. In the first closing of the Exchange Offer held December
31, 2003, the Company exchanged $73.6 million of eligible debentures for 39.1
million shares of Series A Preferred Stock and $34.5 million of senior
collateralized subordinated notes. On December 31, 2003, the Company also
extended the expiration date of the Exchange Offer to February 6, 2004. As a
result of the second closing of the Exchange Offer on February 6, 2004, the
Company exchanged an additional $43.6 million of eligible subordinated
debentures for 22.7 million shares of Series A Preferred Stock and $20.9 million
of senior collateralized subordinated notes.
To the extent that the Company fails to maintain its credit facilities or obtain
alternative financing on acceptable terms and increase its loan originations, it
may have to sell loans earlier than intended and further restructure its
operations. While the Company currently believes that it will be able to
restructure its operations, if necessary, it can provide no assurances that such
restructuring will enable it to attain profitable operations or repay
subordinated debentures when due.
10
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
BUSINESS CONDITIONS (CONTINUED)
Subordinated Debentures and Senior Collateralized Subordinated Notes. At March
31, 2004 there were approximately $303.4 million of subordinated debentures and
$12.5 million of senior collateralized subordinated notes, maturing within
twelve months. The Company obtains the funds to repay the subordinated
debentures and senior collateralized subordinated notes at their maturities by
securitizing loans, selling loans on a whole loan basis and selling additional
subordinated debentures. Cash flow from operations, the sale of subordinated
debentures and lines of credit fund the Company's cash needs. The Company
expects these sources of funds to be sufficient to meet its cash needs. The
Company could, in the future, generate cash flows by securitizing, selling, or
borrowing against its interest-only strips and selling servicing rights
generated in past securitizations, although the Company's ability to utilize the
interest-only strips in this fashion could be restricted in whole or in part by
the terms of the Company's $250.0 million warehouse credit facility and senior
collateralized subordinated notes, both of which are collateralized by the
interest-only strips at the present time. See Note 4 for more detail.
The Company can provide no assurances that it will be able to continue issuing
subordinated debentures. In the event the Company is unable to offer additional
subordinated debentures for any reason, the Company has developed a contingent
financial restructuring plan including cash flow projections for the next
twelve-month period. Based on the Company's current cash flow projections, the
Company anticipates being able to make all scheduled subordinated debenture
maturities and vendor payments.
The contingent financial restructuring plan is based on actions that the Company
would take, in addition to those indicated in its adjusted business strategy, to
reduce its operating expenses and conserve cash. These actions would include
reducing capital expenditures, selling all loans originated on a whole loan
basis, eliminating or downsizing various lending, overhead and support groups,
obtaining working capital funding and scaling back less profitable businesses.
No assurance can be given that the Company will be able to successfully
implement the contingent financial restructuring plan, if necessary, and repay
subordinated debentures when due.
BASIS OF FINANCIAL STATEMENT PRESENTATION
The accompanying unaudited consolidated financial statements include the
accounts of ABFS and its subsidiaries (all of which are wholly owned). The
consolidated financial statements have been prepared in accordance with
accounting principles generally accepted in the United States of America for
interim financial information and pursuant to rules and regulations of the
Securities and Exchange Commission. Accordingly, they do not include all the
information and footnotes required by accounting principles generally accepted
in the United States of America for complete financial statements. In the
opinion of management, all adjustments (consisting of normal recurring accruals
and the elimination of intercompany balances) considered necessary for a fair
presentation have been included. Operating results for the nine-month period
ended March 31, 2004 are not necessarily indicative of financial results that
may be expected for the full year ended June 30, 2004. These unaudited
consolidated financial statements should be read in conjunction with the audited
consolidated financial statements and notes thereto included in the Company's
Annual Report on Form 10-K for the fiscal year ended June 30, 2003.
In preparing the consolidated financial statements, management is required to
make estimates and assumptions which affect the reported amounts of assets and
liabilities as of the date of the consolidated financial statements and the
reported amounts of revenues and expenses during the reporting period.
11
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
BASIS OF FINANCIAL STATEMENT PRESENTATION (CONTINUED)
Actual results could differ from those estimates. These estimates include, among
other things, estimated prepayment, credit loss and discount rates on
interest-only strips and servicing rights, estimated servicing revenues and
costs, valuation of real estate owned, the net recoverable value of interest and
fee receivables and determination of the allowance for credit losses.
At the Company's annual meeting of shareholders held on December 31, 2003, the
Company's shareholders approved three proposals to enable the Company to
consummate the Exchange Offer: a proposal to increase the number of authorized
shares of common stock from 9.0 million to 209.0 million, a proposal to increase
the number of authorized shares of preferred stock from 3.0 million to 203.0
million, and a proposal to authorize the Company to issue the Series A Preferred
Stock in connection with the Company's exchange offer and the common stock
issuable upon the conversion of the Series A Preferred Stock.
Certain prior period financial statement balances have been reclassified to
conform to current period presentation.
STOCK OPTIONS
The Company has stock option plans that provide for the periodic granting of
options to key employees, non-employee directors and other designated
individuals. These plans have been approved by the Company's shareholders.
Options are generally granted to key employees at the market price of the
Company's stock on the date of grant and expire five to ten years from date of
grant. Options either fully vest when granted or over periods of up to five
years.
The Company accounts for stock options issued under these plans using the
intrinsic value method, and accordingly, no expense is recognized where the
exercise price equals or exceeds the fair value of the common stock at the date
of grant. Had the Company accounted for stock options granted under these plans
using the fair value method, pro forma net income and earnings per share would
have been as follows (in thousands, except per share data):
12
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
STOCK OPTIONS (CONTINUED)
THREE MONTHS ENDED NINE MONTHS ENDED
MARCH 31, MARCH 31,
-------------------------- -------------------------
2004 2003 2004 2003
--------- ----- --------- -------
Net income (loss), as reported $ (33,182) $ 221 $ (84,272) $ 4,153
Stock based compensation costs, net of
tax effects determined under fair
value method for all awards 214(a) 64(a) 403(a) (52)
--------- ----- --------- -------
Pro forma $ (32,968) $ 285 $ (83,869) $ 4,101
========= ===== ========= =======
Earnings (loss) per share - basic
As reported $ (10.53) $0.07 $ (27.79) $ 1.43
Pro forma $ (10.53) $0.10 $ (27.79) $ 1.41
Earnings (loss) per share - diluted
As reported $ (10.53) $0.06 $ (27.79) $ 1.36
Pro forma $ (10.53) $0.09 $ (27.79) $ 1.35
(a) The pro forma adjustments for stock option costs are favorable to net
income (loss) because the value of stock options forfeited during these
periods exceeded the value of stock options vesting during these periods.
RESTRICTED CASH BALANCES
The Company held restricted cash balances of $8.1 million at March 31, 2004
primarily collateralizing a letter of credit facility, $6.6 million and $11.0
million related to borrower escrow accounts at March 31, 2004 and June 30, 2003,
respectively, and $0.5 million and $6.0 million related to deposits for future
settlement of derivative financial instruments at March 31, 2004 and June 30,
2003, respectively.
2. ACQUISITION
On December 24, 2003, the Company acquired a broker operation with 35 employees
located in California that operates primarily on the west coast of the United
States for the purpose of expanding its capacity to originate loans through its
broker channel, especially in the state of California. Assets acquired in this
transaction, mostly fixed assets, were not material. The purchase price was
comprised of issuing a $475 thousand convertible non-negotiable promissory note
to the seller and assuming $107 thousand of liabilities. As a result of this
transaction, the Company increased its goodwill by $582 thousand.
The convertible non-negotiable promissory note bears interest at 6% per annum
and matures June 30, 2005. At any time on or after December 24, 2004 and before
January 31, 2005, the holder of the note has the option to convert the note into
the number of shares of common stock determined by dividing the outstanding
principal amount of the note and accrued interest, if any, by $5.00, subject to
adjustment for any changes in the capitalization of the Company affecting its
common stock.
13
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
3. LOAN AND LEASE RECEIVABLES
Loan and lease receivables - available for sale were comprised of the following
(in thousands):
MARCH 31, JUNE 30,
2004 2003
--------- -----------
Real estate secured loans (a) (b) $ 123,794 $ 270,096
Leases, net of unearned income of $550 at June 30, 2003 (c) -- 4,154
--------- -----------
123,794 274,250
Less: allowance for credit losses on loan and lease
receivables available for sale 2,276 2,848
--------- -----------
$ 121,518 $ 271,402
========= ===========
(a) Includes deferred direct loan origination costs of $1.2 million and $6.8
million at March 31, 2004 and June 30, 2003, respectively.
(b) Includes $2.1 million at March 31, 2004 for the adjustment to fair value for
$48.3 million of loans committed for sale under a forward sale agreement
entered into in March 2004. See Note 11.
(c) Includes deferred direct lease origination costs of $28 thousand at June 30,
2003. On January 22, 2004, the Company sold the lease portfolio balance as
of December 31, 2003.
Real estate secured loans have contractual maturities of up to 30 years.
At March 31, 2004 and June 30, 2003, the accrual of interest income was
suspended on real estate secured loans of $5.7 million and $5.4 million,
respectively. The allowance for loan losses includes reserves established for
expected losses on these loans in the amount of $1.9 million and $1.4 million at
March 31, 2004 and June 30, 2003, respectively.
Average balances of non-accrual loans were $8.1 million for the nine months
ended March 31, 2004 and $8.6 million for the 2003 fiscal year.
Substantially all leases are direct finance-type leases whereby the lessee has
the right to purchase the leased equipment at the lease expiration for a nominal
amount.
Effective December 31, 1999, the Company de-emphasized and subsequent to that
date, discontinued the equipment leasing origination business, but continued to
service the remaining portfolio of leases. On January 22, 2004, the Company
executed an agreement to sell its interests in the remaining lease portfolio.
The terms of the agreement included a cash sale price of approximately $4.8
million in exchange for the Company's lease portfolio balance as of December 31,
2003. The Company received cash from this sale in January 2004.
14
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
3. LOAN AND LEASE RECEIVABLES (CONTINUED)
Loan and lease receivables - Interest and fees are comprised mainly of accrued
interest and fees on loans and leases that are less than 90 days delinquent. Fee
receivables include, among other types of fees, forbearance, deferment, tax and
insurance advances. Under deferment and forbearance arrangements, the Company
makes advances to a securitization trust on behalf of a borrower in amounts
equal to the delinquent principal and interest and may pay fees, including
taxes, insurance and other fees on behalf of the borrower. As a result of these
arrangements the Company resets the contractual status of a loan in its managed
portfolio from delinquent to current based upon the borrower's resumption of
making their loan payments. These amounts are carried at their estimated net
recoverable value.
Loan and lease receivables - Other is comprised of receivables for securitized
loans. In accordance with the Company's securitization agreements, the Company
has the right, but not the obligation, to repurchase a limited amount of
delinquent loans from securitization trusts. Repurchasing delinquent loans from
securitization trusts benefits the Company by allowing it to limit the level of
delinquencies and losses in the securitization trusts and as a result, the
Company can avoid exceeding specified limits on delinquencies and losses that
trigger a temporary reduction or discontinuation of cash flow from its
interest-only strips until the delinquency or loss triggers are no longer
exceeded. The Company's ability to repurchase these loans does not disqualify it
for sale accounting under SFAS No. 140 or other relevant accounting literature
because the Company is not required to repurchase any loan and its ability to
repurchase a loan is limited by contract. In accordance with the provisions of
SFAS No. 140, the Company has recorded an obligation for the repurchase of loans
subject to these removal of accounts provisions, whether or not the Company
plans to repurchase the loans. The obligation for the loans' purchase price is
recorded in other liabilities (see Note 6). A corresponding receivable is
recorded at the lower of the loans' cost basis or fair value.
15
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
4. INTEREST-ONLY STRIPS
The activity for interest-only strip receivables for the nine months ended March
31, 2004 and 2003 were as follows (in thousands):
March 31,
-------------------------------
2004 2003
---------- ----------
Balance at beginning of period $ 598,278 $ 512,611
Initial recognition of interest-only strips 25,523 141,511
Cash flow from interest-only strips (133,587) (109,849)
Required purchases of additional overcollateralization 21,826 53,496
Interest accretion 30,942 34,361
Termination of lease securitization (a) (1,759) (1,741)
Adjustment for obligation to repurchase loans 2,485 2,158
Net temporary adjustments to fair value (b) (14,651) 6,128
Other than temporary fair value adjustment (b) (32,348) (28,784)
---------- ----------
Balance at end of period $ 496,709 $ 609,891
========== ==========
(a) Reflects release of lease collateral from lease securitization trusts which
were terminated in accordance with the trust documents after the full payout
of trust note certificates. Lease receivables of $1.8 million and $1.6
million, respectively, were recorded on the balance sheet at December 31,
2003 and 2002 as a result of the terminations.
(b) Net temporary adjustments to fair value are recorded through other
comprehensive income, which is a component of equity. Other than temporary
adjustments to decrease the fair value of interest-only strips are recorded
through the income statement.
Interest-only strips include overcollateralization balances that represent
undivided interests in securitizations maintained to provide credit enhancement
to investors in securitization trusts. At March 31, 2004 and 2003, the fair
value of overcollateralization related cash flows were $239.6 million and $290.6
million, respectively.
The Company's interest-only strips collateralize certain obligations under its
$250.0 million credit facility with a warehouse lender. These obligations
include an amount not to exceed 10% of the outstanding principal balance under
this facility and the obligations for fees payable under this facility. Assuming
the entire $250.0 million available under this credit facility were utilized,
the maximum amount secured by the interest-only strips would be approximately
$56.2 million.
Interest-only strips also secure the Company's senior collateralized
subordinated notes. The senior collateralized subordinated notes are secured by
a security interest in certain cash flows originating from interest-only strips
of certain of the Company's subsidiaries held by ABFS Warehouse Trust 2003-1
with an aggregate value of at least an amount equal to 150% of the outstanding
principal balance of the senior collateralized subordinated notes. At March 31,
2004, the Company's interest in the cash flows from the interest-only strips
held in the trust, which secure the senior collateralized subordinated notes,
totaled $438.5 million, of which approximately $83.1 million represented 150% of
the outstanding principal balance of the senior collateralized subordinated
notes. See Note 7 for more detail on the senior collateralized subordinated
notes.
16
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
4. INTEREST-ONLY STRIPS (CONTINUED)
Beginning in the second quarter of fiscal 2002 and on a quarterly basis
thereafter, the Company's prepayment rates, as well as those throughout the
mortgage industry, remained at higher than expected levels due to continuing low
interest rates during this period. As a result, over the last ten quarters the
Company has recorded cumulative pre-tax write downs to its interest-only strips
in the aggregate amount of $151.1 million and pre-tax adjustments to the value
of servicing rights of $10.8 million, for total adjustments of $161.9 million,
mainly due to the higher than expected prepayment experience. Of this amount,
$105.1 million was expensed through the income statement and $56.8 million
resulted in a write down through other comprehensive income, a component of
stockholders' equity.
During the same period, the Company reduced the discount rates it applies to
value its securitization assets, resulting in favorable valuation impacts of
$29.3 million on its interest-only strips and $7.1 million on its servicing
rights. Of this amount, $23.1 million offset the adjustments expensed through
the income statement and $13.3 million offset write downs through other
comprehensive income. The discount rates were reduced primarily to reflect the
impact of the sustained decline in market interest rates.
The long duration of historically low interest rates has given borrowers an
extended opportunity to engage in mortgage refinancing activities, which
resulted in elevated prepayment experience. The persistence of historically low
interest rate levels, unprecedented in the last 40 years, has made the
forecasting of prepayment levels in future fiscal periods difficult. The Company
had assumed that the decline in interest rates had stopped and a rise in
interest rates would occur in the near term. Consistent with this view, the
Company had utilized derivative financial instruments to manage interest rate
risk exposure on its loan production and loan pipeline to protect the fair value
of these fixed rate items against potential increases in market interest rates.
Based on current economic conditions and published mortgage industry surveys
including the Mortgage Bankers Association's Refinance Indexes available at the
time of the Company's quarterly revaluation of its interest-only strips and
servicing rights, and its own prepayment experience, the Company believes
prepayments will continue to remain at higher than normal levels for the near
term before returning to average historical levels. The Mortgage Bankers
Association of America has forecast as of March 15, 2004 that mortgage
refinancings as a percentage share of total mortgage originations will decline
from 51% in the first quarter of calendar 2004 to 30% in the first quarter of
calendar 2005. The Mortgage Bankers Association of America has also projected in
its March 2004 economic forecast that the 10-year treasury rate (which generally
affects mortgage rates) will increase slightly over the next three quarters. As
a result of the Company's analysis of these factors, it has increased its
prepayment rate assumptions for home equity loans for the near term, but at a
declining rate, before returning to historical levels. However, the Company
cannot predict with certainty what its prepayment experience will be in the
future. Any unfavorable difference between the assumptions used to value its
securitization assets and its actual experience may have a significant adverse
impact on the value of these assets.
17
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
4. INTEREST-ONLY STRIPS (CONTINUED)
The following tables detail the pre-tax write downs of the securitization assets
by quarter and details the impact to the income statement and to other
comprehensive income in accordance with the provisions of SFAS No. 115
"Accounting for Certain Investments in Debt and Equity Securities" and EITF
99-20 as they relate to interest-only strips and SFAS No. 140 as it relates to
servicing rights (in thousands):
FISCAL YEAR 2004
- --------------- INCOME OTHER
TOTAL STATEMENT COMPREHENSIVE
QUARTER ENDED WRITE DOWN IMPACT INCOME IMPACT
- ---------------------------------- ---------- --------- -------------
September 30, 2003 $ 16,658 $ 10,795 $ 5,863
December 31, 2003 14,724 11,968 2,756
March 31, 2004 23,191 15,085 8,106
--------- -------- --------
Total Fiscal 2004 $ 54,573 $ 37,848 $ 16,725
========= ======== ========
FISCAL YEAR 2003
- ---------------- INCOME OTHER
TOTAL STATEMENT COMPREHENSIVE
QUARTER ENDED WRITE DOWN IMPACT INCOME IMPACT
- ---------------------------------- ---------- --------- -------------
September 30, 2002 $ 16,739 $ 12,078 $ 4,661
December 31, 2002 16,346 10,568 5,778
March 31, 2003 16,877 10,657 6,220
June 30, 2003 13,293 11,879 1,414
--------- -------- --------
Total Fiscal 2003 $ 63,255 $ 45,182 $ 18,073
========= ======== ========
FISCAL YEAR 2002
- ---------------- INCOME OTHER
TOTAL STATEMENT COMPREHENSIVE
QUARTER ENDED WRITE DOWN IMPACT INCOME IMPACT
- ---------------------------------- ---------- --------- -------------
December 31, 2001 $ 11,322 $ 4,462 $ 6,860
March 31, 2002 15,513 8,691 6,822
June 30, 2002 17,244 8,900 8,344
--------- -------- --------
Total Fiscal 2002 $ 44,079 $ 22,053 $ 22,026
========= ======== ========
Note: The impacts of prepayments on our securitization assets in the quarter
ended September 30, 2001 were not significant.
During the nine months ended March 31, 2004, the Company recorded gross pre-tax
valuation adjustments on its securitization assets primarily related to
prepayment experience of $63.0 million, of which $43.1 million was charged to
the income statement and $19.9 million was charged to other comprehensive
income. The valuation adjustment on interest-only strips for the nine months
ended March 31, 2004 was offset by an $8.4 million favorable impact of reducing
the discount rate applied to value the residual cash flows from interest-only
strips on December 31, 2003. Of this amount, $5.3 million offset the portion of
the adjustment expensed through the income statement and $3.1 million offset the
portion of the adjustment charged to other comprehensive income. The breakout of
the total adjustments in the nine months ended March 31, 2004 between
interest-only strips and servicing rights was as follows:
18
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
4. INTEREST-ONLY STRIPS (CONTINUED)
o The Company recorded gross pre-tax valuation adjustments on its
interest only-strips of $57.5 million, of which $37.6 million was
charged to the income statement and $19.9 million was charged to
other comprehensive income. The gross valuation adjustment primarily
reflects the impact of higher than anticipated prepayments on
securitized loans experienced in the first nine months of fiscal
2004 due to the continuing low interest rate environment. The
valuation adjustment on interest-only strips for the nine months
ended March 31, 2004 was partially offset by an $8.4 million
favorable impact of reducing the discount rate applied to value the
residual cash flows from interest-only strips on December 31, 2003.
Of this amount, $5.3 million offset the portion of the adjustment
expensed through the income statement and $3.1 million offset the
portion of the adjustment charged to other comprehensive income. The
discount rate was reduced to 10% on December 31, 2003 from 11% on
September 30, 2003 and June 30, 2003 primarily to reflect the impact
of the sustained decline in market interest rates.
o The Company recorded total pre-tax valuation adjustments on its
servicing rights of $5.5 million, which was charged to the income
statement. The valuation adjustment reflects the impact of higher
than anticipated prepayments on securitized loans experienced in the
first nine months of fiscal 2004 due to the continuing low interest
rate environment.
5. SERVICING RIGHTS
Activity for the servicing rights asset for the nine months ended March 31, 2004
and 2003 were as follows (in thousands):
March 31,
-----------------------
2004 2003
--------- ---------
Balance at beginning of year $ 119,291 $ 125,288
Initial recognition of servicing rights - 42,171
Amortization (30,967) (30,015)
Write down (5,501) (4,519)
--------- ---------
Balance at end of period $ 82,823 $ 132,925
========= =========
Servicing rights are valued quarterly by the Company based on the current
estimated fair value of the servicing asset. A review for impairment is
performed by stratifying the serviced loans based on loan type, which is
considered to be the predominant risk characteristic due to their different
prepayment characteristics and fee structures. During the first nine months of
fiscal 2004, the Company recorded total pre-tax valuation adjustments on its
servicing rights of $5.5 million, which was charged to the income statement.
19
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
5. SERVICING RIGHTS (CONTINUED)
In 22 of the 26 securitizations serviced by the Company, servicing rights can be
terminated by financial insurers representing bondholders or certificate holders
(collectively, "bond insurers") under certain circumstances, such as the
Company's failure to make required servicer payments, defined changes of
control, reaching specified loss levels on underlying mortgage pools or other
events constituting a breach, including, in some cases, financial covenants of
the pooling and servicing and sale and servicing agreements (collectively,
"servicing agreements"). In the remaining four securitizations, the Company's
servicing rights can be terminated by the trustee under similar circumstances.
In the case of certain of the servicing agreements, the associated bond insurers
have the additional ability to terminate servicing rights in their sole
discretion at the end of a servicing term.
As a result of the Company's non-compliance at September 30, 2003 with the net
worth covenant in several of its servicing agreements with two bond insurers,
the Company requested and obtained waivers of the non-compliance from the two
bond insurers. In connection with a waiver of the net worth covenant granted by
one bond insurer for the remaining term of the related servicing agreements, the
servicing agreements with that bond insurer were amended to provide for 120-day
term-to-term servicing. The second bond insurer waived the Company's
non-compliance with net worth requirements and amended the related servicing
agreements principally to provide for 30-day term-to-term servicing. The Company
is currently operating under a waiver of the net worth requirement granted by
this second bond insurer and has been re-appointed as servicer under the amended
servicing agreements with both of these bond insurers for all relevant periods
since the execution of the amended servicing agreements.
A third bond insurer, as a condition to its participation in the Company's
October 2003 securitization, required that the Company amend a servicing
agreement related to a previous securitization in which the bond insurer had
participated as bond insurer. The resulting amendment to this servicing
agreement provided, among other things, for a specifically designated back-up
servicer and for 90-day term-to-term servicing. On April 30, 2004 this amended
servicing agreement was further amended principally to provide for 30-day
term-to-term servicing and for the Company's reappointment as servicer for an
initial 30-day term.
On March 5, 2004, the Company entered into agreements with its fourth bond
insurer, which amended the servicing agreements related to all securitizations
insured by this bond insurer. These amendments principally provided for a
specifically designated back-up servicer. The original provisions of these
servicing agreements providing for 3-month term-to-term servicing were not
altered by these amendments.
As a result of the foregoing amendments to our servicing agreements, all of the
Company's servicing agreements associated with bond insurers now provide for
term-to-term servicing.
20
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
6. OTHER ASSETS AND OTHER LIABILITIES
Other assets were comprised of the following (in thousands):
MARCH 31, JUNE 30,
2004 2003
-------- --------
Goodwill $ 15,703 $ 15,121
Financing costs, debt offerings 3,535 3,984
Real estate owned 2,508 4,776
Due from securitization trusts for
servicing related activities 924 1,344
Investments held to maturity 848 881
Other 5,060 4,346
-------- --------
$ 28,578 $ 30,452
======== ========
Other liabilities were comprised of the following (in thousands):
MARCH 31, JUNE 30,
2004 2003
-------- --------
Obligation for repurchase of securitized loans $ 42,778 $ 27,954
Commitments to fund closed loans 21,942 35,187
Unearned lease incentives 13,115 9,465
Escrow deposits held 6,576 10,988
Deferred rent incentive 3,741 -
Trading liabilities, at fair value 2 334
Hedging liabilities, at fair value 1 6,335
Periodic advance guarantee 670 650
Other 1,111 1,077
-------- --------
$ 89,936 $ 91,990
======== ========
See Note 3 for an explanation of the obligation for the repurchase of
securitized loans.
21
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
7. SUBORDINATED DEBENTURES, SENIOR COLLATERALIZED SUBORDINATED NOTES AND
WAREHOUSE LINES AND OTHER NOTES PAYABLE
Subordinated debentures were comprised of the following (in thousands):
MARCH 31, JUNE 30,
2004 2003
-------- ---------
Subordinated debentures (a) $ 572,568 $ 702,423
Subordinated debentures - money market notes (b) 13,229 17,117
--------- ---------
Total subordinated debentures $ 585,797 $ 719,540
========= =========
Senior collateralized subordinated notes were comprised of the following
(in thousands):
MARCH 31, JUNE 30,
2004 2003
-------- --------
Senior collateralized subordinated notes (c) $ 55,420 $ --
======== ========
Warehouse lines and other notes payable were comprised of the following
(in thousands):
MARCH 31, JUNE 30,
2004 2003
-------- ---------
Warehouse revolving line of credit (d) $ 25,675 $ --
Warehouse revolving line of credit (e) 59,923 --
Warehouse and operating revolving line of credit (f) -- 30,182
Warehouse revolving line of credit (g) -- 136,098
Warehouse revolving line of credit (h) -- 19,671
Capitalized leases (i) 571 807
Convertible promissory note (j) 475 --
Bank overdraft (k) -- 26,158
-------- ---------
Total warehouse lines and other notes payable $ 86,644 $ 212,916
======== =========
(a) Subordinated debentures due April 2004 through April 2014, interest rates
ranging from 3.75% to 13.00%; average rate at March 31, 2004 was 9.61%,
average remaining maturity was 15.7 months, subordinated to all of the
Company's senior indebtedness. The average rate on subordinated debentures
including money market notes was 9.40% at March 31, 2004.
(b) Subordinated debentures - money market notes due upon demand, interest rate
at 4.85%; subordinated to all of the Company's senior indebtedness.
22
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
7. SUBORDINATED DEBENTURES, SENIOR COLLATERALIZED SUBORDINATED NOTES AND
WAREHOUSE LINES AND OTHER NOTES PAYABLE (CONTINUED)
(c) Senior collateralized subordinated notes due April 2004 through April 2014,
interest rates ranging from 5.40% to 13.10%; average rate at March 31, 2004
was 9.86%, average remaining maturity was 22.0 months. The senior
collateralized subordinated notes are secured by a security interest in
certain cash flows originating from interest-only strips of certain of the
Company's subsidiaries held by ABFS Warehouse Trust 2003-1 with an
aggregate value of at least an amount equal to 150% of the outstanding
principal balance of the senior collateralized subordinated notes issued in
the Exchange Offer plus priority lien obligations secured by the
interest-only strips and/or the cash flows from the interest-only strips;
provided that, such collateral coverage may not fall below 100% of the
outstanding principal balance of the senior collateralized subordinated
notes, as determined by the Company on any quarterly balance sheet date. In
the event of liquidation, to the extent the collateral securing the senior
collateralized subordinated notes is not sufficient to repay these notes,
the deficiency portion of the senior collateralized subordinated notes will
rank junior in right of payment behind the Company's senior indebtedness
and all of the Company's other existing and future senior debt and behind
the existing and future debt of the Company's subsidiaries and equally in
right of payment with the subordinated debentures, and any future
subordinated debentures issued by the Company and other unsecured debt.
Senior collateralized subordinated notes were issued in connection with the
December 1, 2003 Exchange Offer. At March 31, 2004, the Company's interest
in the cash flows from the interest-only strips held in the trust which
secure the senior collateralized subordinated notes totaled $438.5 million,
of which $83.1 million represents 150% of the outstanding principal balance
of the senior collateralized subordinated notes at March 31, 2004.
(d) $200.0 million warehouse revolving line of credit with JPMorgan Chase Bank
entered into on September 22, 2003 and expiring September 2004. Interest
rates on the advances under this facility are based upon one-month LIBOR
plus a margin. Obligations under the facility are collateralized by pledged
loans.
(e) $250.0 million warehouse revolving line of credit with Chrysalis Warehouse
Funding, LLC, entered into on October 14, 2003 and expiring October 2006.
Interest rates on the advances under this facility are based upon one-month
LIBOR plus a margin. Obligations under the facility are collateralized by
pledged loans and certain interest-only strips. Interest-only strips secure
obligations in an amount not to exceed 10% of the outstanding principal
balance under this facility and the obligations due under the fee letter
related to this facility. Assuming the entire $250.0 million available
under this credit facility were utilized, the maximum amount secured by the
interest-only strips would be approximately $56.2 million.
(f) Originally a $50.0 million warehouse and operating revolving line of credit
with JPMorgan Chase Bank, collateralized by certain pledged loans, advances
to securitization trusts, real estate owned and certain interest-only
strips, which was replaced for warehouse lending purposes by the $200.0
million facility on September 22, 2003. Pursuant to an amendment, this
facility remained in place as an $8.0 million letter of credit facility to
secure lease obligations for corporate office space, until it expired in
December 2003. In December 2003, the Company was issued a stand alone
letter of credit for $8.0 million collateralized by cash.
(g) Originally a $200.0 million warehouse line of credit with Credit Suisse
First Boston Mortgage Capital, LLC. $100.0 million of this facility was
continuously committed for the term of the facility while the remaining
$100.0 million of the facility was available at Credit Suisse's discretion.
Subsequent to June 30, 2003, there were no new advances under the
non-committed portion. On August 20, 2003, this credit facility was amended
to reduce the committed portion to $50.0 million (from $100.0 million),
eliminate the non-committed portion and accelerate its expiration date from
November 2003 to September 30, 2003. The expiration date was subsequently
extended to October 17, 2003, but no new advances were permitted under this
facility subsequent to September 30, 2003. This facility was paid down in
full on October 16, 2003. The interest rate on the facility was based on
one-month LIBOR plus a margin. Advances under this facility were
collateralized by pledged loans.
23
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
7. SUBORDINATED DEBENTURES, SENIOR COLLATERALIZED SUBORDINATED NOTES AND
WAREHOUSE LINES AND OTHER NOTES PAYABLE (CONTINUED)
(h) Previously a $25.0 million warehouse line of credit facility from
Residential Funding Corporation. Under this warehouse facility, advances
could be obtained, subject to specific conditions described in the
agreements. Interest rates on the advances were based on one-month LIBOR
plus a margin. The obligations under this agreement were collateralized by
pledged loans. This facility was paid down in full on October 16, 2003 and
it expired pursuant to its terms on October 31, 2003.
(i) Capitalized leases, maturing through January 2006, imputed interest rate of
8.0%, collateralized by computer equipment.
(j) Convertible non-negotiable promissory note issued December 24, 2003 in the
acquisition of certain assets and operations of a mortgage broker business.
The note bears interest at 6% per annum and matures June 30, 2005. At any
time on or after December 24, 2004 and before January 31, 2005, the holder
of the note has the option to convert the note into the number of shares of
common stock determined by dividing the outstanding principal amount of the
note and accrued interest, if any, by $5.00, subject to adjustment for any
changes in the capitalization of the Company affecting its common stock.
(k) Overdraft amount on bank accounts paid on the following business day.
At March 31, 2004, warehouse lines and other notes payable were collateralized
by $90.9 million of loan receivables and $1.0 million of computer equipment.
Until its expiration, the Company also had available a $300.0 million mortgage
conduit facility. This facility expired pursuant to its terms on July 5, 2003.
The facility provided for the sale of loans into an off-balance sheet facility
with UBS Principal Finance, LLC, an affiliate of UBS Warburg. This facility was
paid down in full on October 16, 2003.
On October 16, 2003, the Company refinanced through another mortgage warehouse
conduit facility $40.0 million of loans that were previously held in the
off-balance sheet mortgage conduit facility described above. The Company also
refinanced an additional $133.5 million of mortgage loans in the new conduit
facility which were previously held in other warehouse facilities, including the
$50.0 million warehouse facility which expired on October 17, 2003. The more
favorable advance rate under this conduit facility as compared to the expired
facilities, which previously held these loans, along with loans fully funded
with Company cash resulted in the Company's receipt of $17.0 million in cash. On
October 31, 2003, the Company completed a privately-placed securitization of the
$173.5 million of loans, with servicing released, that had been transferred to
this conduit facility. The terms of this conduit facility provide that it will
terminate upon the disposition of the loans held by it.
Interest rates paid on the revolving credit facilities range from London
Inter-Bank Offered Rate ("LIBOR") plus 2.00% to LIBOR plus 2.50%. The
weighted-average interest rate paid on the revolving credit facilities was 3.44%
and 2.24% at March 31, 2004 and June 30, 2003, respectively.
Principal payments on subordinated debentures, senior collateralized
subordinated notes, warehouse lines and other notes payable for the next five
years are as follows (in thousands): twelve month period ending March 31, 2005 -
$415,072; 2006 - $188,865; 2007 - $87,191; 2008 - $12,113; and, 2009 - $6,229.
24
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
7. SUBORDINATED DEBENTURES, SENIOR COLLATERALIZED SUBORDINATED NOTES AND
WAREHOUSE LINES AND OTHER NOTES PAYABLE (CONTINUED)
In September 2002, the Company entered into a series of leases for computer
equipment, which qualify as capital leases. The original principal amount of
debt recorded under these leases was $1.0 million. The leases have an imputed
interest rate of 8.0% and mature through January 2006.
FINANCIAL AND OTHER COVENANTS
The warehouse credit agreements require that the Company maintain specific
financial covenants regarding net worth, leverage, net income, liquidity, total
debt and other standards. Each agreement has multiple individualized financial
covenant thresholds and ratio of limits that the Company must meet as a
condition to drawing on a particular line of credit. Pursuant to the terms of
these credit facilities, the failure to comply with the financial covenants
constitutes an event of default and at the option of the lender, entitles the
lender to, among other things, terminate commitments to make future advances to
the Company, declare all or a portion of the loan due and payable, foreclose on
the collateral securing the loan, require servicing payments be made to the
lender or other third party or assume the servicing of the loans securing the
credit facility. An event of default under these credit facilities would result
in defaults pursuant to cross-default provisions of our other agreements,
including but not limited to, other loan agreements, lease agreements and other
agreements. The failure to comply with the terms of these credit facilities or
to obtain the necessary waivers would have a material adverse effect on the
Company's liquidity and capital resources.
COVENANTS UNDER CURRENT CREDIT FACILITIES. On September 22, 2003, the Company
entered into definitive agreements with JP Morgan Chase Bank for a new $200.0
million credit facility for the purpose of funding its loan originations.
Pursuant to the terms of this facility, the Company is required to, among other
things: (i) have a net worth of at least $28.0 million by September 30, 2003;
with quarterly increases of $2.0 million thereafter; (ii) apply 60% of its net
cash flow from operations each quarter to reduce the outstanding amount of
subordinated debentures commencing with the quarter ending March 31, 2004; (iii)
as of the end of any month, commencing January 31, 2004, the aggregate
outstanding balance of subordinated debentures must be less than the aggregate
outstanding balance as of the end of the prior month; and (iv) provide a parent
company guaranty of 10% of the outstanding principal amount of loans under the
facility. This facility has a term of 12 months expiring in September 2004 and
is secured by the mortgage loans, which are funded by advances under the
facility with interest equal to LIBOR plus a margin. This facility is subject to
representations and warranties and covenants, which are customary for a facility
of this type, as well as amortization events and events of default related to
the Company's financial condition. These provisions require, among other things,
the Company's maintenance of a delinquency ratio for the managed portfolio
(which represents the portfolio of securitized loans we service for others) at
the end of each fiscal quarter of less than 12.0%, its subordinated debentures
not to exceed $705.0 million at any time, and its ownership of an amount of
repurchased loans not to exceed 1.5% of the managed portfolio.
25
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
7. SUBORDINATED DEBENTURES, SENIOR COLLATERALIZED SUBORDINATED NOTES AND
WAREHOUSE LINES AND OTHER NOTES PAYABLE (CONTINUED)
On October 14, 2003, the Company entered into definitive agreements with
Chrysalis Warehouse Funding, LLC. for a revolving mortgage loan warehouse credit
facility of up to $250.0 million to fund loan originations. The $250.0 million
facility has a term of three years with an interest rate on amounts outstanding
equal to the one-month LIBOR plus a margin and the yield maintenance fees (as
defined in the agreements). The Company also agreed to pay fees of $8.9 million
upon closing and approximately $10.3 million annually plus a non-usage fee based
on the difference between the average daily outstanding balance for the current
month and the maximum credit amount under the facility, as well as the lender's
out-of-pocket expenses. Advances under this facility are collateralized by
specified pledged loans and additional credit support was created by granting a
security interest in substantially all of the Company's interest-only strips and
residual interests which the Company contributed to a special purpose entity
organized by it to facilitate this transaction.
This $250.0 million facility contains representations and warranties, events of
default and covenants which are customary for facilities of this type, as well
as our agreement to: (i) restrict the total amount of indebtedness outstanding
under the indenture related to the Company's subordinated debentures to $750.0
million or less; (ii) make quarterly reductions commencing in April 2004 of an
amount of subordinated debentures pursuant to the formulas set forth in the loan
agreement; (iii) maintain maximum interest rates offered on subordinated
debentures not to exceed 10 percentage points above comparable rates for FDIC
insured products; and (iv) maintain minimum cash and cash equivalents of not
less than $10.0 million. In addition to events of default which are typical for
this type of facility, an event of default would occur if: (1) the Company is
unable to sell subordinated debentures for more than three consecutive weeks or
on more than two occasions in a 12 month period; and (2) certain members of
management are not executive officers and a satisfactory replacement is not
found within 60 days. The definitive agreements grant the lender an option for a
period of 90 days commencing on the first anniversary of entering into the
definitive agreements to increase the credit amount on the $250.0 million
facility to $400.0 million with additional fees and interest payable by the
Company.
WAIVERS AND AMENDMENTS OF FINANCIAL COVENANTS. As a result of the loss
experienced during fiscal 2003, the Company was not in compliance with the terms
of certain financial covenants related to net worth, consolidated stockholders'
equity and the ratio of total liabilities to consolidated stockholders' equity
under two of its principal credit facilities existing at June 30, 2003 (one for
$50.0 million and the other for $200.0 million, which was reduced to $50.0
million). The Company obtained waivers from these covenant provisions from both
lenders. Commencing August 21, 2003, the lender under the $50.0 million
warehouse credit facility (which had been amended in December 2002 to add a
letter of credit facility) granted the Company a series of waivers for its
non-compliance with a financial covenant in that credit facility through
November 30, 2003 and on September 22, 2003, in connection with the creation of
the new $200.0 million credit facility on the same date, reduced this facility
to an $8.0 million letter of credit facility, which secured the lease on the
Company's principal executive office. This letter of credit facility expired
according to its terms on December 22, 2003, but the underlying letter of credit
was renewed for a one year term on December 18, 2003. The Company also entered
into an amendment to the $200.0 million credit facility which provided for the
waiver of its non-compliance with the financial covenants in that facility, the
reduction of the committed portion of this facility from $100.0 million to $50.0
million, the elimination of the $100.0 million non-committed portion of this
credit facility and the acceleration of the expiration date of this facility
from November 2003 to September 30, 2003. The Company entered into subsequent
amendments to this credit facility, which extended the expiration date until
October 17, 2003. This facility was paid down in full on October 16, 2003 and
expired on October 17, 2003.
In addition, in light of the losses during the first, second and third quarters
of fiscal 2004, the Company requested and obtained waivers or amendments to
several credit facilities to address its non-compliance with certain financial
covenants.
26
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
7. SUBORDINATED DEBENTURES, SENIOR COLLATERALIZED SUBORDINATED NOTES AND
WAREHOUSE LINES AND OTHER NOTES PAYABLE (CONTINUED)
The terms of the Company's new $200.0 million credit facility, as amended,
required, among other things, that our registration statement registering $295.0
million of subordinated debentures be declared effective by the SEC no later
than October 31, 2003, that we obtain a written commitment for another credit
facility of at least $200.0 million and close that additional facility by
October 3, 2003, and that we have a minimum net worth of $28.0 million at
September 30, 2003, $25.0 million at October 31, 2003 and November 30, 2003,
$30.0 million at December 31, 2003 and $32.0 million at March 31, 2004.
The lender under the new $200.0 million facility agreed to extend the deadline
for our registration statement to be declared effective by the SEC to November
10, 2003. The Company's registration statement was declared effective on
November 7, 2003.
The lender on the new $200.0 million credit facility agreed to extend the date
by which the Company was required to close an additional credit facility of at
least $200.0 million from October 3, 2003 to October 8, 2003. The Company
subsequently obtained an additional waiver from this lender, which extended this
required closing date for obtaining the additional credit facility to October
14, 2003 (this condition was satisfied by the closing of the $250.0 million
facility described above). Prior to the closing of the second credit facility,
our borrowing capacity on the new $200.0 million facility was limited to $80.0
million.
This lender also waived the minimum net worth requirements at September 30,
2003, October 31, 2003, November 30, 2003, December 31, 2003 and March 31, 2004
under the $200.0 million credit facility.
Some of the Company's financial covenants in other credit facilities have
minimal flexibility and it cannot say with certainty that it will continue to
comply with the terms of all debt covenants. There can be no assurance as to
whether or in what form a waiver or modification of terms of these agreements
would be granted the Company.
SUBORDINATED DEBENTURES AND SENIOR COLLATERALIZED SUBORDINATED NOTES
Under a registration statement declared effective by the SEC on November 7,
2003, the Company registered $295.0 million of subordinated debentures. Of the
$295.0 million, $181.7 million of debt from this registration statement was
available for future issuance as of March 31, 2004.
27
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
7. SUBORDINATED DEBENTURES, SENIOR COLLATERALIZED SUBORDINATED NOTES AND
WAREHOUSE LINES AND OTHER NOTES PAYABLE (CONTINUED)
On December 1, 2003, the Company mailed an Exchange Offer to holders of eligible
debentures. Holders of such eligible debentures had the ability to exchange
their debentures for (i) equal amounts of senior collateralized subordinated
notes and shares of the Series A Preferred Stock; and/or (ii) dollar-for-dollar
for shares of Series A Preferred Stock. Senior collateralized subordinated notes
issued in the exchange have interest rates equal to 10 basis points above the
eligible debentures tendered. Senior collateralized subordinated notes with
maturities of 12 months were issued in exchange for eligible debentures tendered
with maturities of less than 12 months, while eligible debentures with
maturities greater than 36 months were exchanged for senior collateralized
subordinated notes with the same maturity or reduced to 36 months. All other
senior collateralized subordinated notes issued in the Exchange Offer have
maturities equal to the eligible debentures tendered. The senior collateralized
subordinated notes are secured by a security interest in certain cash flows
originating from interest-only strips of certain of the Company's subsidiaries
held by ABFS Warehouse Trust 2003-1 with an aggregate value of at least an
amount equal to 150% of the principal balance of the senior collateralized
subordinated notes issued in the Exchange Offer plus priority lien obligations
secured by the interest-only strips and/or the cash flows from the interest-only
strips; provided that, such collateral coverage may not fall below 100% of the
principal balance of the senior collateralized subordinated notes issued in the
Exchange Offer, as determined by the Company on any quarterly balance sheet
date. In the event of liquidation, to the extent the collateral securing the
senior collateralized subordinated notes is not sufficient to repay these notes,
the deficiency portion of the senior collateralized subordinated notes will rank
junior in right of payment behind the Company's senior indebtedness and all of
the Company's other existing and future senior debt and behind the existing and
future debt of our subsidiaries and equally in right of payment with the
subordinated debentures, and any future subordinated debentures issued by the
Company and other unsecured debt. At March 31, 2004, the Company's interest in
the cash flows from the interest-only strips held in the trust, which secure the
senior collateralized subordinated notes, totaled $438.5 million, of which $83.1
million represented 150% of the principal balance of the senior collateralized
subordinated notes outstanding at March 31, 2004.
Pursuant to the terms of the Exchange Offer, in the first closing of the
Exchange Offer on December 31, 2003, the Company exchanged $73.6 million of
outstanding subordinated debentures for 39.1 million shares of Series A
Preferred Stock and $34.5 million of senior collateralized subordinated notes.
On December 31, 2003, the Company also extended the expiration date of the
Exchange Offer to February 6, 2004. As a result of the second closing of the
Exchange Offer on February 6, 2004, the Company exchanged an additional $43.6
million of eligible debentures for 22.7 million shares of Series A Preferred
Stock and $20.9 million of senior collateralized subordinated notes.
In the event the Company is unable to offer additional subordinated debentures
for any reason, the Company has developed a contingent financial restructuring
plan including cash flow projections for the next twelve-month period. Based on
the Company's current cash flow projections, the Company anticipates being able
to make all scheduled payments for maturities of subordinated debentures, senior
collateralized subordinated notes and vendor payments.
The contingent financial restructuring plan is based on actions that the Company
would take, in addition to those indicated in its adjusted business strategy, to
reduce its operating expenses and conserve cash. These actions would include
reducing capital expenditures, selling all loans originated on a whole loan
basis, eliminating or downsizing various lending, overhead and support groups,
and scaling back less profitable businesses. No assurance can be given that the
Company will be able to successfully implement the contingent financial
restructuring plan, if necessary, and repay the subordinated debentures when
due.
28
AMERICAN BUSINESS FINANCIAL SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
MARCH 31, 2004
7. SUBORDINATED DEBENTURES, SENIOR COLLATERALIZED SUBORDINATED NOTES AND
WAREHOUSE LINES AND OTHER NOTES PAYABLE (CONTINUED)
The Company's subordinated debentures are subordinated in right of payment to,
or subordinate to, the payment in full of all senior debt as defined in the
indentures related to such debt, whether outstanding on the date of the
applicable indenture or incurred following the date of the indenture. The
Company's assets, including the stock it holds in its subsidiaries, are
available to repay the subordinated debentures in the event of default following
payment to holders of the senior debt. In the event of the Company's default and
liquidation of its subsidiaries to repay the debt holders, creditors of the
subsidiaries must be paid or provision made for their payment from the assets of
the subsidiaries before the remaining assets of the subsidiaries can be used to
repay the holders of the subordinated debentures.
FACILITY FEES
The Company paid commitment fees and non-usage fees on warehouse lines and
operating lines of credit of $2.6 million and $21.5 million in the three and
nine months ended March 31, 2004 and $0.4 million during the fiscal year ended
June 30, 2003.
8. STOCKHOLDERS' EQUITY
EXCHANGE OFFER
On December 1, 2003, the Company mailed an exchange offer to holders of eligible
debentures. Holders of such eligible debentures had the ability to exchange
their debentures for (i) equal amounts of senior collateralized subordinated
notes and shares of Series A Preferred Stock; and/or (ii) dollar-for-dollar for
shares of Series A Preferred Stock. See Note 7 for a description of the terms of
the senior collateralized subordinated notes.
Pursuant to the terms of the exchange offer, in the first closing of the
exchange offer on December 31, 2003, the Company exchanged $73.6 million of
outstanding subordinated debentures for 39.1 million shares of Series A
Preferred Stock and $34.5 million of senior collateralized subordinated notes.
On December 31, 2003, the Company also extended the expiration date of the
Exchange Offer to February 6, 2004. As a result of the second closing of the