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U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
(Mark One)
[ X ] Annual Report under Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the fiscal year ended June 30, 1999
[ ] Transition report under Section 13 or 15(d) of the Securities Exchange
Act of 1934
For the transition period from _______________ to ________________
Commission File No. 000-22474
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AMERICAN BUSINESS FINANCIAL SERVICES, INC.
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(Name of registrant as specified in its charter)
Delaware 87-0418807
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(State or other jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification Number)
111 Presidential Boulevard, Bala Cynwyd, PA 19004
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(Address of Principal Executive Offices) (Zip Code)
(610) 668-2440
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(Registrant's Telephone Number, Including Area Code)
Securities registered under Section 12(b) of the Exchange Act: None
Securities registered under Section 12(g) of the Exchange Act:
Common Stock, par value
$.001 per share
---------------
(Title of Class)
Indicate by check mark whether the Registrant (1) filed all reports
required to be filed by Section 13 or 15(d) of the 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 if disclosure of delinquent filers in response
to Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of Registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of the Form 10-K or
amendment to this Form 10-K. [X]
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The aggregate market value of the 1,847,875 shares of common stock,
$.001 par value per share, held by non-affiliates of the Registrant as of
September 3, 1999 was $23.4 million.
The number of shares outstanding of the Registrant's sole class of
common stock as of September 3, 1999 was 3,587,014 shares. (The share amounts
stated above give effect to a 5% stock dividend declared on August 18, 1999 and
payable on September 27, 1999 to stockholders of record on September 3, 1999.)
DOCUMENTS INCORPORATED BY REFERENCE:
Part III - Proxy Statement for 1999 Annual Meeting of Stockholders
2
Part I
Item 1. Business
Forward Looking Statements
Some of the information in this Form 10-K or the documents incorporated
by reference in this Form 10-K may contain forward-looking statements. You can
identify these statements by the appearance of phrases such as "will likely
result," "may," "are expected to," "is anticipated," "estimate," "projected,"
"intends to" or other similar words. Forward-looking statements are subject to
certain risks and uncertainties, including but not limited to the following:
o market conditions and real estate values in our primary lending area;
o credit risk related to our borrowers;
o our dependence on securitizations;
o our ability to sustain our revenue and earnings growth;
o our ability to implement our growth strategy;
o competition;
o our dependence on debt financing to fund our operations;
o changes in interest rates;
o our ability to implement an effective hedging strategy;
o the geographic concentration of our loans;
o state and federal regulation and licensing requirements applicable to
our lending activities;
o claims by borrowers or investors;
o dependence on key personnel;
o environmental regulation; and
o risks associated with year 2000 computer systems problems.
All of the above risks could cause our actual results to differ
materially from historical earnings and those presently anticipated. When
considering forward-looking statements, you should keep these risk factors in
mind as well as the other cautionary statements in this Form 10-K. You should
not place undue reliance on any forward-looking statement. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
General
American Business Financial Services, Inc. is a diversified financial
services company operating throughout the United States. We originate loans and
leases through a retail branch network of offices. Through our principal direct
and indirect subsidiaries, we originate, service and sell:
o loans to businesses secured by real estate and other
business assets, which we refer to in this document
as business purpose loans;
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o mortgage loans, typically to credit-impaired
borrowers, which are secured by first and second
mortgages on single-family residences and which do
not satisfy the eligibility requirements of Fannie
Mae, Freddie Mac or similar buyers which we refer to
in this document as home equity loans;
o mortgage loans to borrowers with favorable credit
histories which are secured by first mortgages on
one-to four-unit residential properties, most of
which satisfy the eligibility requirements of Fannie
Mae and Freddie Mac, which are referred to in this
document as first mortgage loans; and
o small ticket business equipment leases, which
generally involve amounts of $2,000 to $250,000.
In addition, we have entered into business arrangements with several
financial institutions pursuant to which we will purchase home equity loans that
do not meet the underwriting guidelines of the selling institution but that do
meet our underwriting criteria which is referred to in this document as the Bank
Alliance Program.
Our loan customers currently fall primarily in two categories. The
first category of customers includes credit-impaired borrowers who are generally
unable to obtain financing from banks or savings and loan associations that have
historically provided loans only to individuals with the most favorable credit
characteristics. These borrowers generally have impaired or unsubstantiated
credit characteristics and/or unverifiable income. The second category of
customers includes borrowers who would qualify for loans from traditional
lending sources but who still elect to use our products and services. Our
experience has indicated that these borrowers are attracted to our loan products
as a result of our marketing efforts, the personalized service provided by our
staff of highly trained lending officers and our timely response to loan
requests. Historically, both categories of customers have been willing to pay
our origination fees and interest rates even though they are generally higher
than those charged by traditional lending sources. Our lease customers are
typically small businesses or proprietorships with less than 100 employees and
favorable credit histories.
We were incorporated in Delaware in 1985 and we began operations in
1988, initially offering business purpose loans secured by real estate through
our subsidiary, American Business Credit. References in this document to "ABFS,"
"we," "us," and "our" refer to American Business Financial Services, Inc. and
its subsidiaries. Certain financial information contained in this document has
been adjusted to reflect a 5% stock dividend declared on August 18, 1999 and
payable on September 27, 1999.
The ongoing securitization of our loans and leases is a central part of
our current business strategy. A securitization is a financing technique often
used by originators of financial assets to raise capital. A securitization
involves the transfer of a pool of financial assets, in our case loans or
leases, to a trust in exchange for certificates, notes or other securities
issued by the trust and representing an undivided interest in the trust assets.
The transfer to the trust could involve a sale
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or pledge of the financial assets depending on the particular transaction. A
portion of the certificates, notes or other securities are then sold to
investors for cash. Often the originator of the loans or leases retains the
right to service the assets for a fee and may also retain an interest in the
cash flows generated by the securitized assets referred to as a residual
interest which is subordinate to the regular interest sold to investors. Through
June 30, 1999, we had securitized an aggregate of $1.3 billion of loans and
leases, consisting of $201.3 million of business purpose loans, $969.8 million
of home equity loans, and $152.3 of equipment leases. We retain the servicing
rights on all securitized loans and leases. See "-- Securitizations."
In addition to securitizations, we fund our operations with
subordinated debt that we offer by means of a prospectus which was declared
effective by the SEC from our principal operating office located in Pennsylvania
and branch offices located in Florida and Arizona. We have offered this debt
without the assistance of an underwriter or dealer. At June 30, 1999, we had
$212.9 million in subordinated debt outstanding. This debt had a weighted
average interest rate of 9.35% and a weighted average maturity of 21 months as
of June 30, 1999. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Liquidity and Capital Resources."
We intend to continue to use funds generated from the securitization of
loans and leases as well as the sale of subordinated debt to increase our loan
and lease originations and investments in operations required to position us for
expansion into new geographic markets, including the development of the Internet
as a distribution channel. We also continue to explore a variety of strategic
options to broaden our product offerings and reduce our cost of funds. To
achieve these goals, we may consider the acquisition of other finance companies
or related companies, the purchase of portfolios of loans, the establishment or
purchase of a state or federally chartered financial institution or industrial
loan company, the issuance of secured credit cards, the origination and
servicing of loans insured by the Small Business Administration and the
engagement of independent NASD-registered brokers to assist in the sale of the
subordinated debt securities. We cannot assure you that we will engage in any of
the activities listed above or the impact of those activities on our financial
condition or results of operations.
Our principal executive office is located at 103 Springer Building,
3411 Silverside Road, Wilmington, Delaware 19810. The telephone number at that
address is (302) 478-6160. Our principal operating office and the executive
offices of our subsidiaries are located at Balapointe Office Centre, 111
Presidential Boulevard, Suite 215, Bala Cynwyd, PA 19004. The telephone number
at the Balapointe Office Centre is (610) 668-2440. We maintain a site on the
World Wide Web at www.abfsonline.com. The information on our web site is not and
should not be considered part of this document.
Subsidiaries
As a holding company, our activities have been limited to: (i) holding
the shares of our operating subsidiaries, and (ii) raising capital for use in
the subsidiaries' lending operations.
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ABFS is the parent holding company of American Business Credit, Inc. and its
primary subsidiaries, HomeAmerican Credit, Inc. (doing business as Upland
Mortgage), Processing Service Center, Inc., American Business Leasing, Inc., ABC
Holdings Corporation and New Jersey Mortgage and Investment Corp. and its
subsidiary, Federal Leasing Corp.
American Business Credit, a Pennsylvania corporation incorporated in
1988 and acquired by us in 1993, originates, services and sells business purpose
loans. Home American Credit, a Pennsylvania corporation incorporated in 1991,
originates and sells home equity loans. Home American Credit acquired Upland
Mortgage Corp. in 1996 and since that time has conducted business as "Upland
Mortgage." Upland Mortgage also purchases home equity loans through the Bank
Alliance Program. Processing Service Center processes home equity loan
applications for financial institutions as part of the Bank Alliance Program.
Incorporated in 1994, American Business Leasing commenced operations in 1995 and
originates and services equipment leases.
New Jersey Mortgage and Investment Corp., a New Jersey corporation
organized in 1938 and acquired by us in October 1997, is currently engaged in
the origination and sale of home equity loans, as well as first mortgage loans.
New Jersey Mortgage originates loans secured by real estate. These loans are
originated through New Jersey Mortgage's network of branch sales offices and
three satellite offices. New Jersey Mortgage has been offering mortgage loans
since 1939. We currently sell first mortgage loans originated by American
Household Mortgage, a division of New Jersey Mortgage, in the secondary market
with servicing released. We also securitize home equity loans originated by New
Jersey Mortgage pursuant to our existing current securitization program.
New Jersey Mortgage's wholly-owned subsidiary, Federal Leasing Corp.,
is a Delaware corporation which was organized in 1974. Federal Leasing Corp.
generally originates equipment leases throughout the United States and has in
the past sold such leases through securitizations and retains the servicing
rights with respect to the leases. We intend to evaluate the continued
securitization of equipment leases based upon market and economic conditions in
the future.
ABC Holdings Corporation, a Pennsylvania corporation, was incorporated
in 1992 to hold properties acquired through foreclosure.
We also have numerous special purpose subsidiaries that were
incorporated solely to facilitate our securitizations. Some of those companies
are Delaware investment holding companies. The stock of these subsidiaries is
held by various subsidiaries of ours. As part of the acquisition of New Jersey
Mortgage and Federal Leasing Corp., we also acquired FLC Financial Corp. and FLC
II Financial Corp., the Delaware investment holding companies incorporated to
facilitate the securitization of Federal Leasing Corp.'s leases. The stock of
these companies is held by Federal Leasing Corp. None of these corporations
engage in any business activity other than holding the subordinated certificate,
if any, and the interest only and residual strips created in connection with
securitizations completed through Federal Leasing Corp. prior to its acquisition
by us. See "-- Securitizations."
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The following chart sets forth our basic organizational structure(1).
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ABFS
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(Holding Company)
(Issues subordinated debt securities)
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AMERICAN BUSINESS CREDIT, INC.
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(Originates and services business purpose loans)
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HOME AMERICAN
NEW JERSEY CREDIT, INC. PROCESSING AMERICAN ABC
MORTGAGE AND d/b/a SERVICE BUSINESS HOLDINGS
INVESTMENT CORP. UPLAND CENTER, INC. LEASING, INC. CORP.
MORTGAGE
- --------------------------------------------------------------------------------
(Originates and (Originates, (Processes bank (Originates (Holds
services first purchases and alliance and foreclosed
mortgage and services home program services real estate)
home equity equity loans)(2) home equity equipment
loans) loans) leases)
- --------------------------------------------------------------------------------
- ----------------
FEDERAL
LEASING CORP.
- ----------------
(Originates
equipment
leases)
- ----------------
- --------
(1) In addition to the corporations pictured above, we organized at least one
special purpose corporation for each of these securitizations.
(2) Loans purchased by Upland Mortgage represent loans acquired through the Bank
Alliance Program.
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Lending and Leasing Activities
General. The following table sets forth certain information concerning
our loan and lease origination, purchase and sale activities for the years
indicated. We did not originate first mortgage loans prior to October 1997.
June 30,
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1999 1998 1997
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(dollars in thousands)
Loans/Leases Originated/Purchased
(Net of refinances)
Business purpose loans ................... $ 64,818 $ 52,335 $ 38,721
Home equity loans ........................ $634,820 $328,089 $ 91,819
First mortgage loans ..................... $ 66,519 $ 33,671 --
Equipment leases ......................... $ 96,289 $ 70,480 $ 8,004
Other loans .............................. -- -- $ 39
Number of Loans/Leases Originated/Purchased
Business purpose loans ................... 806 632 498
Home equity loans ........................ 8,251 5,292 1,791
First mortgage loans ..................... 781 218 --
Equipment leases ......................... 4,138 3,350 743
Other loans .............................. -- -- 8
Average Loan/Lease Size
Business purpose loans ................... $ 80 $ 83 $ 78
Home equity loans ........................ $ 74 $ 62 $ 51
First mortgage loans ..................... $ 165 $ 154 --
Equipment leases ......................... $ 23 $ 21 $ 11
Other loans -- -- $ 5
Weighted Average Interest Rate on Loans/Leases
Originated/Purchased
Business purpose loans ................... 15.91% 15.96% 15.91%
Home equity loans ........................ 11.05% 11.95% 11.69%
First mortgage loans ..................... 7.67% 8.22% --
Equipment leases ......................... 11.40% 12.19% 15.48%
Other loans .............................. -- -- 20.83%
Weighted Average Term (in months)
Business purpose loans ................... 169 172 184
Home equity loans ........................ 261 244 218
First mortgage loans ..................... 322 340 --
Equipment leases ......................... 50 49 40
Other loans .............................. -- --
Loans/Leases Sold
Business purpose loans ................... $ 71,931 $ 54,135 $ 38,083
Home equity and First mortgage loans ..... $613,069 $322,459 $ 80,734
Equipment leases ......................... $ 92,597 $ 59,700 --
Other loans .............................. -- -- $ 58
Number of Loans/Leases Sold
Business purpose loans ................... 911 629 497
Home equity and First mortgage loans ..... 8,074 4,753 1,631
Equipment leases ......................... 4,363 3,707 --
Other loans .............................. -- -- 8
Weighted Average Rate on Loans/Leases
Originated ............................... 11.30% 11.63% 13.09%
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The following table sets forth information regarding the average
loan-to-value ratios for loans we originated during the periods indicated. We
did not originate any first mortgage loans prior to October 1997.
Year Ended June 30,
------------------------------------
Loan Type 1999 1998 1997
---------------------------- ------ ------ ------
Business purpose loans...... 61.5% 60.5% 60.0%
Home equity loans .......... 78.0 76.6 72.0
First mortgage loans ....... 78.0 79.9 --
The following table shows the geographic distribution of our loan and
lease originations and purchases during the periods indicated.
Year Ended June 30,
--------------------------------------------------------------------------------
1999 % 1998 % 1997 % 1996 %
---------- ---------- --------- ---------
(dollars in thousands)
New Jersey................... $ 236,976 27.48% $ 128,025 26.38% $ 40,725 29.39% $20,986 29.33%
New York..................... 163,580 18.97 54,907 11.31 8,343 6.02 7,417 10.36
Pennsylvania................. 139,992 16.23 150,048 31.06 53,834 38.85 33,324 46.57
Florida...................... 61,312 7.11 23,905 4.93 3,670 2.65 674 0.94
Georgia...................... 59,395 6.89 23,084 4.76 10,092 7.28 181 0.25
Illinois..................... 27,663 3.21 -- -- -- -- -- --
California................... 20,487 2.38 12,709 2.62 -- -- -- --
Maryland..................... 19,625 2.28 11,748 2.42 5,010 3.61 4,408 6.16
Ohio......................... 17,155 1.99 -- -- -- -- -- --
Virginia..................... 17,126 1.99 13,138 2.71 5,469 3.95 104 0.15
Delaware..................... 14,254 1.65 10,823 2.23 3,117 2.25 2,724 3.81
Connecticut.................. 14,052 1.63 5,964 1.23 2,005 1.45 87 0.12
North Carolina............... 13,648 1.58 5,144 1.06 4,245 3.06 78 0.11
Texas........................ 6,631 .77 6,430 1.33 -- -- -- --
Other........................ 50,550 5.84 38,650 7.98 2,073 1.49 1,575 2.20
--------- ------ -------- ------ -------- ------ ------- -------
Total............... $ 862,446 100.00% $484,575 100.00% $138,583 100.00% $71,558 100.00%
========= ====== ======== ====== ======== ====== ======= =======
Business Purpose Loans. Through our subsidiary, American Business
Credit, we currently originate business purpose loans through a retail network
of salespeople in Connecticut, Delaware, Florida, Georgia, Maryland, New Jersey,
New York, Ohio, Pennsylvania and Virginia. We focus our marketing efforts on
small businesses who do not meet all of the credit criteria of commercial banks
and small businesses that our research indicates may be predisposed to using our
products and services.
We originate business purpose loans to corporations, partnerships, sole
proprietors and other business entities for various business purposes including,
but not limited to, working capital, business expansion, equipment acquisition
and debt-consolidation. We do not target any particular industries or trade
group and, in fact, take precautions against concentration of loans in any one
industry group. All business purpose loans are collateralized by a first or
second mortgage lien on a principal residence or some other parcel of real
property, such as office and apartment buildings and mixed use buildings, owned
by the borrower, a principal of the
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borrower, or a guarantor of the borrower. In addition, in most cases, these
loans are further collateralized by personal guarantees, pledges of securities,
assignments of contract rights, life insurance and lease payments and liens on
business equipment and other business assets.
Our business purpose loans generally ranged from $15,000 to $500,000
and had an average loan size of approximately $80,000 for the loans originated
during the year ended June 30, 1999. Generally, our business purpose loans are
made at fixed rates and for terms ranging from five to 15 years. We generally
charge origination fees for these loans of 5.0% to 6.0% of the original
principal balance. The weighted average interest rate charged on the business
purpose loans originated by us was 15.91% for the year ended June 30, 1999 . The
business purpose loans we securitized during the past fiscal year had a weighted
average loan-to-value ratio, based solely upon the real estate collateral
securing the loans, of 61.5% at the time of securitization. See
"-- Securitizations." We originated $64.8 million of business purpose loans for
the year ended June 30, 1999.
Generally, we compute interest due on its outstanding loans using the
simple interest method. Where permitted by applicable law, we impose a
prepayment fee. Although prepayment fees imposed vary based upon applicable
state law, the prepayment fees on our business purpose loan documents generally
amount to a significant portion of the outstanding loan balance. We believe that
such prepayment terms tend to extend the average life of our loans by
discouraging prepayment which makes these loans more attractive for
securitization. Whether a prepayment fee is imposed and the amount of such fee,
if any, is negotiated between the individual borrower and American Business
Credit prior to closing of the loan.
Home Equity Loans. We originate home equity loans through Upland
Mortgage and New Jersey Mortgage primarily to credit-impaired borrowers through
retail marketing which includes telemarketing operations, direct mail, radio and
television advertisements as well as through our interactive web site. We
entered the home equity loan market in 1991. Currently, we are licensed to
originate home equity loans in 44 states across the United States.
Home equity loans originated and funded by our subsidiaries are
generally securitized. In addition, we sell home equity loans to one of several
third party lenders, at a premium and with servicing released. Currently, we
build portfolios of home equity loans for the purpose of securitizing such
loans.
Home equity loan applications are obtained from potential borrowers
over the phone, in person or over the Internet through our interactive web site.
The loan request is then processed and closed. The loan processing staff
generally provides its home equity borrowers with a loan approval within 24
hours and closes its home equity loans within approximately seven to ten days of
obtaining a loan approval.
Home equity loans generally range from $10,000 to $250,000 and had an
average loan size of approximately $74,000 for the loans originated during the
year ended June 30, 1999. During the year ended June 30, 1999, we originated
$634.8 million of home equity loans. Generally, home equity loans are made at
fixed rates of interest and for terms ranging from five
10
to 30 years. Such loans generally have origination fees of approximately 2.0% of
the aggregate loan amount. For the year ended June 30, 1999, the weighted
average interest rate received on such loans was 11.05% and the average
loan-to-value ratio was 78.0% for the loans originated by us during such period.
We attempt to maintain our interest and other charges on home equity loans
competitive with the lending rates of other finance companies and banks. Where
permitted by applicable law, a prepayment fee may be imposed and is generally
charged to the borrower on the prepayment of a home equity loan except in the
event the borrower refinances a home equity loan with us.
In fiscal 1996, through Upland Mortgage and in conjunction with
Processing Service Center, Inc., we entered into business arrangements with
several financial institutions which provide for Upland Mortgage's purchase of
home equity loans that do not meet the underlying guidelines of the selling
institutions but meet our underwriting criteria. This program is called the Bank
Alliance Program. The Bank Alliance Program is designed to provide an additional
source of home equity loans, targets traditional financial institutions, such as
banks, which because of their strict underwriting and credit guidelines have
generally provided mortgage financing only to the most credit-worthy borrowers.
This program allows these financial institutions to originate loans to
credit-impaired borrowers in order to achieve certain community reinvestment
goals and to generate fee income and subsequently sell such loans to Upland
Mortgage. We believe that the Bank Alliance Program is a unique method of
increasing our production of home equity loans.
Under this program, a borrower who fails to meet a financial
institution's underwriting guidelines will be referred to Processing Service
Center, Inc. which will process the loan application and underwrite the loan
pursuant to Upland Mortgage's underwriting guidelines. If the borrower qualifies
under Upland Mortgage's underwriting standards, the loan will be originated by
the financial institution and subsequently sold to Upland Mortgage.
Since the introduction of this program, we have entered into agreements
with twenty-two financial institutions which provide us with the opportunity to
underwrite, process and purchase loans generated by the branch networks of such
institutions which consist of in excess of 1,500 branches located in Colorado,
Delaware, Florida, Georgia, Indiana, Maryland, Michigan, Nebraska, New
Hampshire, New Jersey, Ohio, Pennsylvania and Tennessee. During fiscal 1999,
Upland Mortgage purchased in excess of $35.0 million of loans pursuant to this
program. We intend to continue to expand the Bank Alliance Program with
financial institutions across the United States.
During fiscal 1999, we launched an Internet loan distribution channel
under the name www.UplandMortgage.com. Through this interactive web site,
borrowers can calculate interest payments and submit and an application via the
Internet. The Upland Mortgage Internet platform provides borrowers with
convenient access to the mortgage loan application process, 7 days a week, 24
hours a day. We believe that the addition of this distribution channel maximizes
the efficiency of the application process and could reduce our transaction costs
in the future to the extent the volume of loan applications received via the web
page increases. Throughout the loan processing period, borrowers who submit
applications on line are supported by our staff of
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highly trained loan officers. We intend to continue to enhance our web site in
order to permit online underwriting, approval and processing of a loan
application.
First Mortgage Loans. We began offering first mortgage loans in October
1997 in connection with our acquisition of New Jersey Mortgage. New Jersey
Mortgage has been originating mortgage loans since 1939. We originate first
mortgage loans and sell them in the secondary market with servicing released.
Our first mortgage lending market area is primarily the eastern region of the
United States. We originated $66.5 million of first mortgage loans during the
year ended June 30, 1999.
The first mortgage loans are secured by one-to four-unit residential
properties located primarily in the eastern region of the United States. These
properties are generally owner-occupied single family residences but may also
include second homes and investment properties. These loans are generally made
through American Household Mortgage, a division of New Jersey Mortgage, to
borrowers with favorable credit histories and are underwritten pursuant to
Freddie Mac or Fannie Mae standards to permit their sale in the secondary
market, however, we also originate first mortgage loans which do not meet the
Freddie Mac or Fannie Mae standards for sale in the secondary market. Certain of
these first mortgage loans have balances of $240,000 or greater and are commonly
referred to as jumbo loans.
New Jersey Mortgage typically sells such loans to third parties with
servicing released. New Jersey Mortgage also originates Federal Housing
Authority ("FHA") and Veterans Administration ("VA") loans which are
subsequently sold to third parties with servicing released. This means that we
do not generally retain the right to collect and service these loans after they
are sold. New Jersey Mortgage originates such loans for sale in the secondary
market.
Equipment Leases. Through our indirect subsidiaries American Business
Leasing and Federal Leasing Corp., we began offering equipment leases in
December 1994 to complement our business purpose lending program. We currently
originate equipment leases throughout the United States. We originate equipment
leases to corporations, partnerships, other entities and sole proprietors on
various types of business equipment including, but not limited to, computer
equipment, automotive equipment, construction equipment, commercial equipment,
medical equipment and industrial equipment. We generally do not target
credit-impaired lessees. All such lessees must meet certain specified financial
and credit criteria.
Generally, our equipment leases are of two types: (i) finance leases
which have a term of 12 to 60 months and provide a purchase option exercisable
by the lessee at $1.00 or 10% of the original equipment cost at the termination
of the lease, and (ii) fair market value or true leases which have a similar
term but provide a purchase option exercisable by the lessee at the fair market
value of the equipment at the termination of the lease. Our equipment leases
generally range in size from $2,000 to $250,000, with an average lease size of
approximately $23,000 for the leases originated during the year ended June 30,
1999. Leases in excess of $250,000 are generally sold on a non-recourse basis to
third parties. Our leases generally have maximum terms of seven years. The
weighted average interest rates received on leases for the year ended June 30,
1999 was 11.40%. During the year ended June 30, 1999, we originated $96.3
million of
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equipment leases. Generally, the interest rates and other terms and conditions
of our equipment leases are competitive with the leasing terms of other leasing
companies in our market area.
Prior to fiscal 1998, all leases originated by American Business
Leasing were generally held in our lease portfolio. Historically, Federal
Leasing Corp. sold all leases it originated through securitizations with
servicing retained. Presently, American Business Leasing and Federal Leasing
Corp. periodically sell the equipment leases, with servicing retained, through
securitization or to Variable Funding Capital Corporation, a commercial paper
conduit underwritten by First Union Capital Market. These leases are serviced by
American Business Leasing or Federal Leasing Corp. During fiscal 1999, we sold
or securitized $92.6 million of equipment leases. During fiscal 1999, we
streamlined our leasing activities to focus solely on the origination of small
ticket business equipment leases which generally involve equipment valued at
$2,000 to $250,000, which market we believe is not adequately serviced by larger
leasing companies. In the future, we intend to evaluate the continued
securitization of our lease portfolio subject to market and economic conditions.
There are risks inherent in our leasing activities which are different
than those risks inherent in our mortgage lending activities. See "-- Risk
Factors -- Risks associated with leasing activities may reduce our future
profitability."
Marketing Strategy
We concentrate our marketing efforts primarily on two potential
customer groups. One group, based on historical profiles, has a tendency to
select our loan and lease products because of our personalized service and
timely response to loan requests. The other group is comprised of
credit-impaired borrowers who satisfy our underwriting guidelines. We also
market first mortgage loans and leases to borrowers with favorable credit
histories. See "-- Risk Factors - Lending to credit-impaired borrowers may
result in higher delinquencies in our managed portfolio which could adversely
impact our financial condition and results of operations."
Our marketing efforts for business purpose loans focus on our niche
market of selected small businesses located in our market area which generally
includes the eastern half of the United States. We target businesses which we
believe would qualify for loans from traditional lending sources but would elect
to use our products and services. Our experience has indicated that these
borrowers are attracted to us as a result of our marketing efforts, the
personalized service provided by our staff of highly trained lending officers
and our timely response to loan applications. Historically, such customers have
been willing to pay our origination fees and interest rates which are generally
higher than those charged by traditional lending sources.
We market business purpose loans through various forms of advertising,
and a direct sales force. Advertising media used includes large direct mail
campaigns and newspaper and radio advertising. Our commissioned sales staff,
which consists of full-time highly trained salespersons, is responsible for
converting advertising leads into loan applications. We use a proprietary
training program involving extensive and on-going training of our lending
officers. Our sales staff uses significant person-to-person contact to convert
direct mail advertising into
13
loan applications and maintains contact with the borrower throughout the
application process. See "-- Lending and Leasing Activities - Business Purpose
Loans."
We market home equity loans through telemarketing, direct mail
campaigns as well as television, Internet, radio and newspaper advertisements.
Our television advertising campaign is designed to complement the other forms of
advertising we used. Our integrated approach to media advertising is intended to
maximize the effect of our advertising campaigns. We also use a network of loan
brokers.
Our marketing efforts for home equity loans are concentrated in the
eastern region of the United States. In connection with the acquisition of New
Jersey Mortgage, we expanded our branch office network to include Illinois,
Ohio, Delaware, Pennsylvania and Virginia in its existing network of offices in
Georgia, Maryland, South Carolina and Florida. We intend to open additional
sales offices in other states in the future. Loan processing, underwriting,
servicing and collection procedures are performed at our main office located in
Pennsylvania. We also use the Bank Alliance Program as an additional source of
loans as well as our Internet web site. See "-- Lending and Leasing
Activities-Home Equity Loans."
We market first mortgage loans through our network of loan brokers. Our
marketing efforts for first mortgage loans are concentrated in the mid-Atlantic
region of the United States. In addition, we market first mortgage loans under
the name American Household Mortgage. See "-- Lending and Leasing Activities -
First Mortgage Loans."
Through our subsidiaries, American Business Leasing and Federal Leasing
Corp., we market equipment leases throughout the United States. During 1999, we
streamlined our leasing operations to focus our marketing efforts on the
origination of small ticket business equipment leases which we believe is not
adequately serviced by large leasing companies. Our marketing efforts in the
leasing area are focused on our niche market of distributors of small to
medium-sized office, industrial and medical equipment. American Business Leasing
and Federal Leasing Corp. primarily obtain their equipment leasing customers
through equipment manufacturers, brokers and vendors with whom they have a
relationship and through a direct sales force. See "-- Lending and Leasing
Activities - Equipment Leases."
Loan and Lease Servicing
Generally, we service the loans and leases we maintain in our portfolio
or which we securitize in accordance with our established servicing procedures.
Servicing includes collecting and transmitting payments to investors, accounting
for principal and interest, collections and foreclosure activities, and selling
the real estate or other collateral that is acquired. At June 30, 1999, our
total managed portfolio included approximately 23,000 loans and leases with an
aggregate outstanding balance of $1.2 billion. We generally receive contractual
servicing fees of 0.50% per annum based upon the outstanding balance of
securitized loans and leases serviced and the scope of our servicing
responsibilities. In addition, we receive other ancillary fees
14
related to the loans and leases serviced. Our servicing and collections
activities are centralized at our principal operating office located in Bala
Cynwyd, Pennsylvania.
In servicing loans and leases, we typically send an invoice to obligors
on a monthly basis advising them of the required payment and its due date. We
begin the collection process immediately after a borrower fails to make a
monthly payment. When a loan or lease becomes 45 to 60 days delinquent, it is
transferred to our work-out department. The work-out department tries to
reinstate a delinquent loan or lease, seek a payoff, or occasionally enter into
a modification agreement with the borrower to avoid foreclosure. All proposed
work-out arrangements are evaluated on a case-by-case basis, based upon the
borrower's past credit history, current financial status, cooperativeness,
future prospects and the reasons for the delinquency. If the loan or lease
becomes delinquent 61 days or more and a satisfactory work-out arrangement with
the borrower is not achieved or the borrower declares bankruptcy, the matter is
immediately referred to our attorneys for collection. Legal action may be
initiated prior to a loan or lease becoming delinquent over 60 days if
management determines that the circumstances warrant such action.
Real estate acquired as a result of foreclosure or by deed in lieu of
foreclosure is classified as real estate owned until it is sold. When property
is acquired or expected to be acquired by foreclosure or deed in lieu of
foreclosure, we record it at the lower of cost or estimated fair value, less
estimated cost of disposition. After acquisition, all costs incurred in
maintaining the property are accounted for as expenses.
Our ability to foreclose on certain properties may be affected by state
and federal environmental laws. See "-- Risk Factors - Environmental laws and
regulations may restrict our ability to foreclose on loans secured by real
estate."
As the servicer of securitized loans and leases, we are obligated to
advance funds for scheduled payments that have not been received from the
borrower unless we determine that our advances will not be recoverable from
subsequent collections in respect to the related loans or leases. See
"-- Securitizations."
Underwriting Procedures and Practices
Summarized below are certain of the policies and practices which are
followed in connection with the origination of business purpose loans, home
equity loans, first mortgage loans and equipment leases. These policies and
practices may be altered, amended and supplemented as conditions warrant. We
reserve the right to make changes in our day-to-day practices and policies.
Our loan and lease underwriting standards are applied to evaluate
prospective borrowers' credit standing and repayment ability as well as the
value and adequacy of the mortgaged property or equipment as collateral.
Initially, the prospective borrower is required to fill out a detailed
application providing pertinent credit information. As part of the description
of the prospective borrower's financial condition, the borrower is required to
provide information concerning assets, liabilities,
15
income, credit, employment history and other demographic and personal
information. If the application demonstrates the prospective borrower's ability
to repay the debt as well as sufficient income and equity, loan processing
personnel obtain and review an independent credit bureau report on the credit
history of the borrower and verification of the borrower's income. Once all
applicable employment, credit and property information is obtained, a
determination is made as to whether sufficient unencumbered equity in the
property exists and whether the prospective borrower has sufficient monthly
income available to meet the prospective borrower's monthly obligations.
Generally, business purpose loans collateralized by residential real
estate must have an overall loan-to-value ratio (based solely on the independent
appraised fair market value of the real estate collateral securing the loan) on
the properties collateralizing the loans of no greater than 75%. Business
purpose loans collateralized by commercial real estate must generally have an
overall loan-to-value ratio (based solely on the independent appraised fair
market value of the real estate collateral securing the loan) of no greater than
60% percent. In addition, in substantially all instances, we also receive
additional collateral in the form of, among other things, personal guarantees,
pledges of securities, assignments of contract rights, life insurance and lease
payments and liens on business equipment and other business assets, as
available. The business purpose loans we originated had an average loan-to-value
ratio of 61.5% for the year ended June 30, 1999.
The maximum acceptable loan-to-value ratio for home equity loans held
in portfolio or securitized is generally 90%. The home equity loans we
originated had an average loan-to-value ratio of 78.0% for the year ended June
30, 1999. Occasionally, exceptions to these maximum loan-to-value ratios are
made if other collateral is available or if there are other compensating
factors. From time to time, we make loans with loan-to-value ratios in excess of
90% which are sold with servicing released. Title insurance is generally
obtained in connection with all real estate secured loans.
We generally do not lend more than 95% of the appraised value in the
case of first mortgage loans, other than Federal Housing Authority and Veterans
Administration Loans. We generally require private mortgage insurance on all
first mortgage loans with loan-to-value ratios in excess of 80% at the time of
origination in order to reduce our exposure. We obtain mortgage insurance
certificates from the FHA on all FHA loans and loan guaranty certificates from
the VA on all VA loans regardless of the loan-to-value ratio on the underlying
loan amount.
In determining whether the mortgaged property is adequate as
collateral, we have each property considered for financing appraised. The
appraisal is completed by an independent qualified appraiser and generally
includes pictures of comparable properties and pictures of the interior of the
building. With respect to business purpose loans, home equity loans and first
mortgage loans, the appraisal is completed by an independent qualified appraiser
on a Fannie Mae form.
Any material decline in real estate values reduces the ability of
borrowers to use home equity to support borrowings and increases the
loan-to-value ratios of loans previously made by
16
us, thereby weakening collateral coverage and increasing the possibility of a
loss in the event of borrower default. Further, delinquencies, foreclosures and
losses generally increase during economic slowdowns or recessions. As a result,
we cannot assure that the market value of the real estate underlying the loans
will at any time be equal to or in excess of the outstanding principal amount of
those loans. Although we have expanded the geographic area in which we originate
loans, a downturn in the economy generally or in a specific region of the
country may have an effect on our originations. See "-- Risk Factors - A decline
in value of collateral securing our loans may adversely affect our business by
reducing originations and increasing losses on foreclosure."
In leasing, while a security interest in the equipment is retained in
connection with the origination of the lease, the lease is not dependent on the
value of the equipment as the principal means of securing the lease. The
underwriting standards applicable to leases place primary emphasis on the
borrower's financial strength and their credit history. Our lease underwriting
criteria include a review of the borrower's credit reports, financial
statements, bank references and trade references, as well as the credit history
and financial statements of the principals of the borrower. In certain
situations, we may also obtain a personal guarantee on the lease.
Securitizations
Our sale of our business purpose loans, home equity loans and equipment
leases through securitization is an important financing technique. Since 1995,
we have completed approximately 14 securitization transactions. The 14 pools of
loans and leases securitized were comprised of approximately $201.3 million of
business purpose loans, approximately $969.8 million of home equity loans and
approximately $152.3 million of equipment leases. During fiscal 1999, the
Company securitized $71.9 million, $613.0 million and $92.6 million of business
purpose loans, home equity loans and equipment leases, respectively.
Securitization is a financing technique often used by originators of
financial assets to raise capital. A securitization involves the transfer of a
pool of financial assets, in our case loans or leases, to a trust in exchange
for cash and a retained interest in the securitized loans and leases which is
called a residual interest. The trust issues various classes of securities which
derive their cash flows from a pool of securitized loans and leases. These
securities which represent the remaining interest in the trust called the
regular interests, are sold to public investors. We also retain servicing on
securitized loans and leases. See "-- Loan and Lease Servicing."
As the holder of the residual interests in a securitization, we are
entitled to receive certain excess (or residual) cash flows. These cash flows
are the difference between the payments made by the borrowers and the sum of the
scheduled and prepaid principal and interest paid to the investors in the trust,
servicing fees, trustee fees and, if applicable, insurance fees.
Overcollateralization requirements, representing an excess of the aggregate
principal balances of loans and leases in a securitized pool over investor
interests, are established to provide credit enhancement for the trust
investors. In order to meet the required overcollateralization levels the trust
initially retains the excess cash flow until after the overcollateralization
requirements, which are specific to each securitization, are met.
17
We may be required either to repurchase or to replace loans or leases
which do not conform to the representations and warranties we made in the
pooling and servicing agreements entered into when the loans or leases are
pooled and sold through securitizations. As of June 30, 1999, we had not been
required to repurchase or replace any such loans or leases. When borrowers are
delinquent in making scheduled payments on loans or leases included in a
securitization trust, we are required to advance interest payments with respect
to such delinquent loans or leases to the extent that we determine that such
advances will be ultimately recoverable. These advances require funding from our
capital resources but have priority of repayment from the succeeding month's
collection.
Our securitizations often include a prefunding option where a portion
of the cash received from investors is withheld until additional loans or leases
are transferred to the trust. The loans or leases to be transferred to the trust
to satisfy the preferred option must be substantially similar in terms of
collateral, size, term, interest rate, geographic distribution and loan-to-value
ratio as the loans or leases initially transferred to the trust. To the extent
we fail to originate a sufficient number of qualifying loans or leases for the
prefunded account within the specified time period, our earnings during the
quarter in which the funding was to occur would be reduced.
The securitization of loans and leases during the years ended June 30,
1999, 1998 and 1997 generated gain on sale of loans and leases of $65.6 million,
$41.3 million and $20.0 million, respectively. These gains contributed to our
record levels of revenue and net income during these fiscal years. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations-Certain Accounting Considerations."
Subject to market conditions, we anticipate that we will continue to
securitize business purpose loans, home equity loans and possibly equipment
leases. We believe that a securitization program provides a number of benefits
by allowing us to diversify our funding base, provide liquidity and lower our
cost of funds.
Competition
We compete for business purpose loans against many other finance
companies and financial institutions. Although many other entities originate
business purpose loans, we have focused our lending efforts on our niche market
of businesses which may qualify for loans from traditional lending sources but
who we believe are attracted to our products as a result of our marketing
efforts, responsive customer service and rapid processing and closing periods.
We have significant competition for home equity loans. Through Upland
Mortgage and New Jersey Mortgage, we compete with banks, thrift institutions,
mortgage bankers and other finance companies, which may have greater resources
and name recognition. We attempt to mitigate these factors through a highly
trained staff of professionals, rapid response to
18
prospective borrowers' requests and by maintaining a relatively short average
loan processing time. In addition, we implemented our Bank Alliance Program in
order to generate additional loan volume.
We also face significant competition for equipment leases. Through
American Business Leasing and Federal Leasing Corp., we compete with banks,
leasing and finance companies with greater resources, capitalization and name
recognition throughout their market areas. It is our intention to capitalize on
our vendor relationships and the efforts of our direct sales force to compete
with these businesses.
The various segments of our lending businesses are highly competitive.
See "Risk Factors - Competition from other lending and lessors could adversely
affect our profits."
Risk Factors
A decline in value of the collateral securing our loans may adversely
affect our business by reducing originations and increasing losses on
foreclosure.
Our business may be adversely affected by declining real estate or
other collateral values. Any significant decline in real estate values reduces
the ability of borrowers to use home equity as collateral for borrowings. This
may reduce the number of loans we are able to make, which will reduce the gain
on sale of loans and servicing and origination fees we will collect. Declining
values will also increase the loan-to-value ratios of loans we previously made,
which in turn, increases the probability of a loss in the event the borrower
defaults and we have to sell the mortgaged property. In addition, delinquencies
and foreclosures generally increase during economic slowdowns or recessions. As
a result, the market value of the real estate or other collateral underlying our
loans may not, at any given time, be sufficient to satisfy the outstanding
principal amount of the loans. See "-- Lending and Leasing Activities" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Lending to credit-impaired borrowers may result in higher delinquencies
in our managed portfolio which could adversely impact our financial
condition and results of operation.
We market a significant portion of our loans to borrowers who are
either unable or unwilling to obtain financing from traditional sources, such as
commercial banks. Loans made to these borrowers may entail a higher risk of
delinquency and loss than loans made to borrowers who use traditional financing
sources. Total delinquent loans as a percentage of our total managed portfolio
serviced were 3.19% at June 30, 1999, as compared to 3.01% at June 30, 1998.
While we use underwriting standards and collection procedures designed to
mitigate the higher credit risk associated with lending to these borrowers, our
standards and procedures may not offer adequate protection against risks of
default. In the event loans sold and serviced by us experience higher
19
delinquencies, foreclosures or losses than anticipated, our results of
operations or financial condition would be adversely affected.
We maintain an allowance for credit losses on portfolio loans to
account for loans and leases that are delinquent and are expected to be
ineligible for sale into a securitization. The allowance is calculated based
upon our estimate of the expected collectibility of loans and leases outstanding
based upon a variety of factors, including but not limited to economic
conditions and credit and collateral considerations. See "-- Lending and Leasing
Activities" and "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
Our reliance upon the sale of our loans and leases through
securitization may result in fluctuating operating results.
In recent periods, a significant portion of our revenue and net income
represented gain on the sale of loans and leases in securitization transactions.
Gain on sale of loans and leases resulting from securitizations as a percentage
of total revenues was 69.6% for the fiscal year 1998 and 76.0% for fiscal year
1999. In addition, we rely primarily on securitizations to generate cash
proceeds for:
o repayment of our warehouse credit facilities,
o repayment of other borrowings; and
o origination of additional loans and leases.
Our ability to complete securitizations depends on several conditions,
including:
o conditions in the securities markets generally,
o conditions in the asset-backed securities markets
specifically; and
o the credit quality of our loans and lease portfolios.
Any substantial impairment of our securitization market for loans and leases
could have a material adverse effect on our results of operations and financial
condition. See "-- Securitizations" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
Our revenues and net income may fluctuate as a result of the timing and
size of our securitizations.
The strategy of selling loans and leases through securitizations
requires us to build an inventory of loans and leases over time. During this
time we accrue costs and expenses. We do not recognize gain on the sale of loans
and leases until we complete a securitization which may not occur until a
subsequent fiscal quarter. Operating results for a given period can fluctuate
significantly as a result of the timing and level of securitizations. If
securitizations do not close when expected, we could experience a loss for a
period. In addition, due to the timing difference between the period when costs
are incurred in connection with the origination of loans and leases and their
subsequent sale through the securitization, we may operate on a negative cash
20
flow basis, which could adversely impact our results of operations and financial
condition. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
We may not be able to sustain the levels of revenue growth and earnings
growth that we experienced in the past.
During fiscal 1999 and fiscal 1998, we experienced record levels of
total revenue and net income as a result of increases in loan and lease
originations and the securitization of loans and leases. Total revenue increased
approximately $27.1 million, or 45.7%, between fiscal 1998 and 1999 while net
income increased approximately $2.6 million, or 23.0%. Our ability to sustain
the level of growth in total revenue and net income experienced during fiscal
1999 and fiscal 1998 depends upon a variety of factors outside our control,
including:
o interest rates,
o conditions in the asset-backed securities markets,
o economic conditions in our primary market area,
o competition, and
o regulatory restrictions.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Our inability to continue to successfully implement our growth strategy
may have an adverse effect on profits.
Our growth strategy seeks to increase our loan and lease volume through
geographic expansion and further development of existing markets while
maintaining our customary origination fees, the spread between interest rates
and the interest rates we pay for capital and underwriting criteria.
Implementation of this strategy will depend in large part on our ability to:
o open or expand offices in markets with a sufficient
concentration of borrowers who meet our underwriting criteria;
o obtain adequate financing on favorable terms;
o profitably securitize our loans and leases in the secondary
market on a regular basis;
o hire, train and retain skilled employees;
o successfully implement our marketing campaigns; and
o continue to expand in the face of increasing competition from
other lenders.
Our failure with respect to any or all of these factors could impair our ability
to grow and successfully leverage our fixed costs and could have a material
adverse effect on our results of operations and financial condition. See
"-- Lending and Leasing Activities."
21
Competition from other lenders and lessors could adversely affect our
profits.
The lending and leasing markets that we compete in are highly
competitive. Some competing lenders have substantially greater resources,
greater experience, lower cost of funds, and a more established market presence
than we have. If our competitors increase their marketing efforts to include our
market niche of borrowers, we may be forced to reduce the rates and fees we
currently charge in order to maintain and expand our market share. Any reduction
in our rates or fees could have an adverse impact on our results of operations.
Our profitability and the profitability of other similar lenders may attract
additional competitors into this market.
As we expand into new geographic markets, we will face competition from
companies with established positions in these areas. We may not be able to
continue to compete successfully in the markets we serve or expand into new
geographic markets. See "-- Competition."
We are dependent upon the availability of financing to fund our
continuing operations.
For our ongoing operations, we are dependent upon frequent financings,
including:
o the sale of unsecured subordinated debt securities;
o warehouse credit facilities;
o lines of credit; and
o funds received from the securitization of loans and leases.
Any failure to renew or obtain adequate funding under a warehouse
credit facility, or other borrowings could hurt our profitability. To the extent
that we are not successful in maintaining or replacing existing subordinated
debt securities upon maturity, we would have to limit our loan and lease
originations or sell loans and leases earlier than intended. Limiting our
originations and our earlier sales of loans and leases could have a negative
effect on our results of operations and financial condition. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
A change in market interest rates may adversely affect our profits.
Our profits are likely to be adversely affected during any period of
rapid changes, either upward or downward, in interest rates. Any future rise in
interest rates may adversely affect the following:
o customer demand for our products;
o our cost of funds;
o the spread between the rate of interest we receive on loans
and interest rates we must pay under our outstanding credit
facilities; and
o the profit we will realize in securitizations or other sales
of loans and leases.
22
Any future decrease in interest rates could also reduce the amounts
which we may earn on our newly originated loans and leases. This could reduce
the spread between the interest we earn on loans and the interest we pay under
our outstanding credit facilities and subordinated debt. A decline in interest
rates could also decrease the size of the loan portfolio we service by
increasing the level of prepayments, because borrowers tend to refinance as
interest rates fall. This would result in a reduction of the servicing fees we
earn. See "--Lending and Leasing Activities."
In addition, in connection with certain of our loan securitizations
undertaken, the securitization trusts have issued certificates with interest
rates which fluctuate based upon the LIBOR rate. The principal amount of these
certificates represents 10% to 15% of the amount of loans securitized. The
certificates are secured by fixed rate loans sold in the securitization. Our
profit on the sale of the certificates is in part the difference or spread
between the rate paid on the certificates and the rate paid on the loans
securing the certificates which are our residual interests. To the extent market
interest rates increase, causing the rate paid on the certificates to increase,
the value of our residual interests would be reduced or eliminated. This would
result in a reduction in our profitability. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
Decreasing interest rates could adversely effect our income due to the
length of maturities of our outstanding debt.
We are also subject to risks associated with changes in interest rates
to the extent that we have issued fixed rate subordinated debt securities with
scheduled maturities of one to ten years. At June 30, 1999, we had $93.6 million
of subordinated debt securities with scheduled maturities greater than one year.
If market interest rates decrease in the future, the rates paid on our long term
subordinated debt could exceed the current market rate paid for similar
instruments which could result in a reduction in our profitability. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Interest Rate Risk Management."
Our failure to implement an effective hedging strategy could result in
losses or negatively impact earnings.
We have implemented a hedging strategy in an attempt to mitigate the
effect of changes in interest rates on our fixed-rate mortgage loan portfolio
prior to securitization that involves in part the short sale of U.S. Treasury
securities. An effective hedging strategy is complex and no strategy can
completely insulate us from interest rate risk. In fact, poorly designed
strategies or improperly executed transactions may increase rather than mitigate
interest rate risk. Hedging involves transaction and other costs, and these
costs could increase as the period covered by the hedging protection increases
or in periods of rising and fluctuating interest rates. In addition, the short
sale of U.S. Treasury securities is not an effective hedge against the risk that
the difference between the treasury rate and the rate needed to attract
potential buyers of asset backed securities may widen. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Interest Rate Risk Management."
23
An economic downturn in the eastern region of the United States could
affect our financial performance more than other businesses which are
more geographically diversified.
Although we are licensed in numerous states, we currently originate
loans primarily in the eastern region of the United States. The concentration of
loans in a specific geographic region subjects us to the risk that a downturn in
the economy in the eastern region of the country would more greatly affect us
than if our lending business were more geographically diversified. See
"--Lending and Leasing Activities" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
Our securitization agreements require us to retain risk on
loans and leases that do not meet the requirements in these agreements.
Although we sell substantially all of the loans and leases we originate
through securitizations, all of the securitization agreements require that we
replace or repurchase loans or leases which do not conform to the
representations and warranties made by us at the time of sale.
Additionally, when borrowers are delinquent in making monthly payments
on loans included in a securitization trust, we are required to advance interest
payments for the delinquent loans if we deem that the advances will be
ultimately recoverable. These advances require funding from our capital
resources but have priority of repayment from the succeeding month's
collections. See "--Securitizations."
Our estimation of the value of residual interests we retain when we
securitize loans could be inaccurate and could result in reduced
profits.
We generally retain residual interests in the securitization
transactions we complete. A residual interest is a retained interest in the cash
flow of securitized loans and leases. We estimate the residual interests to be
received in connection with our securitizations based upon certain prepayment
and default assumptions. Our actual prepayment and default experience may vary
materially from these estimates. As a result, the gain we recognize upon the
sale of loans and leases may be overstated because actual prepayments or losses
are greater than we originally estimated. Higher levels of future prepayments,
delinquencies and/or liquidations could result in the decreased value of
residual interests which would adversely affect our income in the period of
adjustment. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
Risks associated with leasing activities may reduce our future
profitability.
There are risks associated with leasing which are different than those
associated with our mortgage lending operations. While our equipment leases are
secured by a lien on the leased equipment, the equipment is subject to the risk
of damage, destruction or obsolescence prior to the termination of the lease. In
the case of our fair market value leases, lessees may choose not to exercise
their option to purchase the equipment for its fair market value at the
termination of the lease. When this happens, we may have to sell the equipment
to third party buyers at a discount. Our financial results may be adversely
affected by losses in the value of our leased equipment. See "--Lending and
Leasing Activities."
24
Our lending business is subject to government regulation and licensing
requirements which may hinder our ability to operate profitably.
Our lending business is subject to extensive regulation, supervision
and licensing by federal, state and local governmental authorities and is
subject to various laws and judicial and administrative decisions imposing
requirements and restrictions on all or part of our home equity and first
mortgage lending activities. Our home equity and first mortgage lending
activities are subject to regulation under various federal laws including the
following:
o Truth-in-Lending Act and Regulation Z (including the Home
Ownership and Equity Protection Act of 1994);
o the Equal Credit Opportunity Act and Regulation B, as amended;
o the Real Estate Settlement Procedures Act and Regulation X;
o the Home Mortgage Disclosure Act; and
o the Fair Debt Collection Practices Act.
We are also subject to examinations by state regulatory authorities
with respect to originating, processing, underwriting, selling and servicing
home equity loans and first mortgage loans. These rules and regulations impose
licensing obligations, prohibit discrimination, regulate collection, foreclosure
and claims handling, payment features, mandate certain disclosures and notices
to borrowers and, in some cases, fix maximum interest rates, and fees. Failure
to comply with these requirements can lead to, among other remedies, termination
or suspension of licenses, certain rights of rescission for mortgage loans,
class action lawsuits and administrative enforcement actions.
Although we believe that we have implemented systems and procedures to
facilitate compliance with the foregoing requirements and believe that we are in
compliance in all material respects with applicable local, state and federal
laws, rules and regulations, more restrictive laws, rules and regulations may be
adopted in the future that could make compliance more difficult or expensive.
See "--Regulation."
Claims by borrowers or investors could have an impact on our
operations.
In the ordinary course of our business, we are subject to claims made
against us by borrowers and private investors arising from, among other things:
o losses that are claimed to have been incurred as a result of alleged
breaches of fiduciary obligations, misrepresentation, error and
omission by our employees, officers and agents (including our
appraisers);
o incomplete documentation; and
o failure to comply with various laws and regulations applicable to our
business.
25
Although there are no material claims or legal actions currently
assessed against us, any claims asserted in the future may result in legal
expenses or liability which could have a material adverse effect on our results
of operations and financial condition. See "--Legal Proceedings."
We depend on the services of key people, and the loss of any of these
people could disrupt our operations and result in reduced revenues.
The success of our operations depends on the continued employment of
our senior level management, and most notably Anthony J. Santilli, our Chairman,
President and Chief Executive Officer. If key members of the senior level
management were for some reason unable to perform their duties or were to leave
us for any reason, we may not be able to find capable replacements. See
"Directors and Executive Officers of the Registrant."
Environmental laws and regulations may restrict our ability to
foreclose on loans secured by real estate.
In the course of our business, we have acquired, and may acquire in the
future, properties securing loans which are in default. Under various federal,
state and local environmental laws which pertain primarily to commercial
properties, a current or previous owner or operator of real property may be
required to investigate and clean up hazardous or toxic substances or chemical
releases on the property. In addition, the owner or operator may be held liable
to a governmental entity or to third parties for property damage, personal
injury, investigation and cleanup costs relating to the contaminated property.
Our ability to foreclose on the real estate collateralizing our loans,
may be limited by these environmental laws. While we would not knowingly make a
loan collateralized by real property that was contaminated, it is possible that
the environmental contamination would not be discovered until after we had made
the loan.
The costs of investigation, remediation or removal of hazardous
substances may be substantial and can easily exceed the value of the property.
The presence of hazardous substances, or the failure to properly eliminate the
substances from the property, can hurt the owner's ability to sell or rent the
property and prevent the owner from using the property as collateral for a loan.
Even people who arrange for the disposal or treatment of hazardous or toxic
substances also may be liable for the costs of removal or remediation of the
substances at the disposal or treatment facility, whether or not the facility is
owned or operated by the person who arranged for the disposal or treatment.
In addition to federal or state regulations, the owner or former owners
of a contaminated site may be subject to common law claims by third parties
based on damages and costs resulting from environmental contamination emanating
from the property. See "-Loan and Lease Servicing."
26
The amount of our common stock held by the Board of Directors and
management may enable these persons to control the outcome of actions
taken by stockholders which could discourage hostile offers to acquire
us.
The Board of Directors and management are the beneficial owners of
approximately 40.6% (excluding options) of the outstanding common stock, which
may allow this group to control actions to be taken by the stockholders,
including the election of directors to the Board of Directors. This voting
control may have the effect of discouraging hostile offers to acquire us because
the completion of any acquisition may require the consent of the current members
of the Board of Directors and management. See "Security Ownership of Certain
Beneficial Owners and Management."
Problems related to the year 2000 could cause system failures that
impair our operations.
Many currently installed computer systems and software products in the
United States and worldwide use two digits rather than four to define the
applicable year. Software may recognize a date using "00" as the year 1900
rather than the year 2000. This could result in system failures or
miscalculations causing disruptions of operations, such as a temporary inability
to process loan or other transactions, send statements or late notices, or
engage in similar routine business activities. This problem has been referred to
as the "Year 2000" issue. We are in the process of ensuring our systems
recognize the year 2000 as the year 2000 and not as the year 1900 by obtaining
certifications from vendors regarding the year 2000 compliance of their products
as well as testing our applications. We currently estimate that the costs
associated with this Year 2000 compliance program will be approximately
$500,000. Although we currently estimate that our information technology systems
will be Year 2000 compliant by the end of 1999, there can be no assurance that
unforeseen events would prevent us from meeting this deadline.
We have contacted vendors with which we do a significant amount of
business to determine whether they are Year 2000 compliant and to determine the
extent to which their computer systems are subject to Year 2000 issues. We
cannot predict the extent to which Year 2000 issues will affect these third
parties, or the extent to which we would be vulnerable to the failure of these
parties to remedy any Year 2000 issues on a timely basis. Since the failure of
our vendors to convert their systems on a timely basis may have a material
adverse effect on us, we are developing a contingency plan in the event these
vendors are not Year 2000 compliant on a timely basis. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Liquidity and Capital Resources."
Regulation
General. Our business is highly regulated by both federal and state
laws. All home equity and first mortgage loans must meet the requirements of,
among other statutes, the Truth in Lending Act, the Real Estate Settlement
Procedures Act ("RESPA"), the Equal Credit Opportunity Act of 1974, as amended
("ECOA") and their accompanying Regulations Z, X and B, respectively.
27
Truth in Lending. The Truth in Lending Act and Regulation Z issued
under the Truth in Lending Act contain disclosure requirements designed to
provide consumers with uniform, understandable information about the terms and
conditions of loans and credit transactions so that consumers may compare credit
terms. The Truth in Lending Act also guarantees consumers a three-day right to
cancel certain transactions and imposes specific loan feature restrictions on
certain loans of the type originated by us. We believe that we are in compliance
with the Truth in Lending Act in all material respects. If we were found not to
be in compliance with the Truth in Lending Act, some aggrieved borrowers could
have the right to rescind their loans and to demand, among other things, the
return of finance charges and fees paid to us. Other fines and penalties can
also be imposed under the Truth in Lending Act and Regulation Z.
Equal Credit Opportunity and Other Laws. We are also required to comply
with the Equal Credit Opportunity Act, which prohibits creditors from
discriminating against applicants on the basis of race, color, religion,
national origin, sex, age or marital status. Regulation B issued under the
Equity Credit Opportunity Act restricts creditors from obtaining certain types
of information from loan applicants. Among other things, it also requires
certain disclosures by the lender regarding consumer rights and requires lenders
to advise applicants of the reasons for any credit denial.
In instances where the applicant is denied credit or the rate of
interest for a loan increases as a result of information obtained from a
consumer credit reporting agency, the Fair Credit Reporting Act of 1970, as
amended, requires lenders to supply the applicant with the name and address of
the reporting agency whose credit report was used in determining to reject a
loan application. It also requires that lenders provide other information and
disclosures about the loan application rejection. In addition, we are subject to
the Fair Housing Act and regulations under the Fair Housing Act, which broadly
prohibit specific discriminatory practices in connection with our home equity
lending business.
We are also subject to the Real Estate Settlement Procedures Act. The
Real Estate Settlement Procedures Act imposes, limits on the amount of funds a
borrower can be required to deposit with us in any escrow account for the
payment of taxes, insurance premiums or other charges; limits on fees paid to
third parties; and various disclosure requirements.
We are subject to various other federal and state laws, rules and
regulations governing, the licensing of mortgage lenders and servicers,
procedures that must be followed by mortgage lenders and servicers, and
disclosures that must be made to consumer borrowers. Failure to comply with
these laws, as well as with the laws described above, may result in civil and
criminal liability.
Several of our subsidiaries are licensed and regulated by the
departments of banking or similar entities in the various states in which they
are licensed. The rules and regulations contain licensing and licensed entities
activities, among other things, prohibit discrimination, collection, foreclosure
and claims handling, payment features, mandate certain disclosures and notices
to borrowers and, in some cases, fix maximum interest rates, and fees. Failure
to comply with these requirements can lead to termination or suspension of
licenses, certain rights of rescission for mortgage loans, individual and class
action lawsuits and administrative enforcement actions. Upland Mortgage and New
Jersey Mortgage maintain compliance with the various federal and state laws
through its in-house counsel and outside counsel which continually review Upland
Mortgage and New Jersey Mortgage documentation and procedures and monitor and
inform Upland Mortgage and New Jersey Mortgage on various changes in the laws.
28
The previously described laws and regulations are subject to
legislative, administrative and judicial interpretation. Some of these laws and
regulations have recently been enacted. Some of these laws and regulations are
rarely challenged in or interpreted by the courts. Infrequent interpretations of
these laws and regulations or an insignificant number of interpretations of
recently enacted regulations can make it difficult for us to know what is
permitted conduct under these laws and regulations. Any ambiguity under the
regulations to which we are subject may lead to regulatory investigations or
enforcement actions and private causes of action, such as class action lawsuits,
with respect to our compliance with the applicable laws and regulations.
Although we believe that we have implemented systems and procedures to
make sure that we comply with regulatory requirements and that we are in
compliance in all material respects with applicable local, state and federal
laws, rules and regulations, if more restrictive laws, rules and regulations are
enacted or more restrictive judicial and administrative interpretations of those
laws are issued, compliance with the laws could become more expensive or
difficult.
Employees
At June 30, 1999, we employed 858 people on a full-time basis and 36
people on a part-time basis. None of our employees are covered by a collective
bargaining agreement. We consider our employee relations to be good.
Executive Officers Who Are Not Also Directors
The following is a description of the business experience of each
executive officer who is not also a director.
Beverly Santilli, age 40, is First Executive Vice President and
Secretary, positions she has held since September 1998 and our inception,
respectively. Mrs. Santilli has held a variety of positions including Executive
Vice President and Vice President. Mrs. Santilli is also the President of
American Business Credit. Mrs. Santilli is responsible for all sales, marketing
and day-to-day operation of American Business Credit. Mrs. Santilli is also
responsible for human resources of ABFS. Prior to joining American Business
Credit and from September 1984 to November 1987, Mrs. Santilli was affiliated
with PSFS initially as an Account Executive and later as a Commercial Lending
Officer with that bank's Private Banking Group. Mrs. Santilli is the wife of
Anthony J. Santilli.
29
Jeffrey M. Ruben, age 36, is Executive Vice President and General
Counsel as well as Executive Vice President and General Counsel of certain of
our subsidiaries, positions he has held since September 1998 and April 1992,
respectively. Mr. Ruben is responsible for the loan and the lease collections
departments, the asset allocation unit and the legal department. Mr. Ruben
served as Senior Vice President from April 1992 to September 1999. From June
1990 until he joined us in April 1992, Mr. Ruben was an attorney with the law
firm of Klehr, Harrison, Harvey, Branzburg & Ellers in Philadelphia,
Pennsylvania. From December 1987 until June 1990, Mr. Ruben was employed as a
credit analyst with the CIT Group Equipment Financing, Inc. Mr. Ruben is a
member of the Pennsylvania and New Jersey Bar Associations. Mr. Ruben holds both
a New Jersey Mortgage Banker License and a New Jersey Secondary Mortgage Banker
License.
Albert W. Mandia, age 51, is the Executive Vice President and Chief
Financial Officer of ABFS, positions he has held since June 1998 and October
1998, respectively. Mr. Mandia is responsible for all financial, information
systems and investor relations functions. From 1974 to 1998, Mr. Mandia was
associated with CoreStates Financial Corp. where he last held the position of
Chief Financial Officer from February 1997 to April 1998.
Item 2. Properties
Except for real estate acquired in foreclosure in the normal course of
our business, we do not presently hold title to any real estate for operating
purposes. The interests which we presently hold in real estate are in the form
of mortgages against parcels of real estate owned by our borrowers or their
affiliates and real estate acquired through foreclosure.
We presently lease office space at 111 Presidential Boulevard, Bala
Cynwyd, Pennsylvania, just outside the city limits of Philadelphia. We are
currently leasing this office space under lease with an annual rental cost of
approximately $2.2 million. The current lease term expires in July 31, 2003. We
also lease the Roseland, New Jersey office which functions as the headquarters
for New Jersey Mortgage and its subsidiaries. The Roseland office lease contains
a renewal option for an additional term of five years. The Roseland office
facility has a current annual rental cost of approximately $766,000. In
addition, we lease branch offices on a short term basis in various cities
throughout the United States. We do not believe that the leases for the branch
offices are material to our operations.
Item 3. Legal Proceedings
On October 23, 1997, a class action suit was filed in the Superior
Court of New Jersey at Docket No. L-12066-97 against New Jersey Mortgage by
Alfred G. Roscoe on behalf of himself and others similarly situated. Mr. Roscoe
sought certification that the action could be maintained as a class action. He
also sought unspecified compensatory damages and injunctive relief. In his
complaint, Mr. Roscoe alleged that New Jersey Mortgage violated New Jersey's
Mortgage Financing on Real Estate Law, N.J. Stat. Ann. 46:10A-1 et seq., by
requiring him and other borrowers to pay or reimburse New Jersey Mortgage for
attorneys' fees and costs in connection with loans made to them by New Jersey
Mortgage. Mr. Roscoe further asserted that New Jersey Mortgage's alleged actions
violated New Jersey's Consumer Fraud Act, N.J. Stat. Ann. 56:8-1, et seq. and
constituted common law fraud and deceit
30
On February 24,1998, after oral argument before the Superior Court, an
order was entered in favor of New Jersey Mortgage and against Mr. Roscoe
granting New Jersey Mortgage Motion for Summary Judgment. Mr. Roscoe appealed to
the Superior Court of New Jersey - Appellate Division. Oral argument on the
appeal was heard on January 20, 1999 before a two-judge panel of the Appellate
Division. On February 3, 1999, the panel filed a per curiam opinion affirming
the Superior Court's ruling in favor of New Jersey Mortgage.
On March 4, 1999, a Petition for Certification for review of the final
judgment of the Superior Court was filed with the Supreme Court of New Jersey.
New Jersey Mortgage filed its Brief in Opposition to the Petition for
Certification on March 16, 1999, and Mr. Roscoe filed a reply brief. To date, no
decision has been rendered by the New Jersey Supreme Court on this matter.
Pursuant to the terms of the Agreement for Purchase and Sale of Stock
of New Jersey Mortgage between us and the former shareholders of New Jersey
Mortgage, the former shareholders are required to indemnify us up to $16.0
million to the extent of any losses over $100,000 related to, caused by or
arising from New Jersey Mortgage's failure to comply with applicable law. The
former New Jersey Mortgage shareholders have agreed to defend ABFS in this suit.
Additionally, from time to time, we are involved as plaintiff or
defendant in various other legal proceedings arising in the normal course of our
business. While we cannot predict the ultimate outcome of these various legal
proceedings, it is management's opinion that the resolution of these legal
actions should not have a material effect on our financial position, results of
operations or liquidity.
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted to a vote of security holders, through the
solicitation of proxies or otherwise, during the quarter ended June 30, 1999.
31
PART II
Item 5. Market for the Registrant's Common Stock and Related Stockholder
Matters
Our common stock is currently traded on the NASDAQ National Market
System under the symbol "ABFI." Our common stock began trading on the NASDAQ
National Market System on February 14, 1997. Prior to February 14, 1997, our
common stock had been traded on the Philadelphia Stock Exchange under the symbol
"AFX" since May 13, 1996. Prior to the commencement of trading on the PHLX,
there was no active trading market for our common stock.
The following table sets forth the high and low sales prices of our
common stock for the periods indicated. The stock price information appearing
below has been retroactively adjusted to reflect the effect of a 5% stock
dividend declared subsequent to June 30, 1999. On September 9, 1999, the closing
price of the common stock on the NASDAQ National Market System was $12.875.
Quarter Ended High Low
------------------------ ------------ -------------
June 30, 1997 $21.42 $17.62
September 30, 1997 22.86 18.57
December 31, 1997 26.67 19.64
March 31, 1998 26.19 19.52
June 30, 1998 24.29 20.95
September 30, 1998 20.71 11.19
December 31, 1998 13.70 5.48
March 31, 1999 14.29 11.67
June 30, 1999 18.93 10.23
As of September 9, 1999, there were 115 record holders and
approximately 1,000 beneficial holders of our common stock.
During fiscal 1999, we paid $0.165 per share in dividends on common
stock, for an aggregate dividend payment of $575,000. During fiscal 1998, we
paid dividends of $211,000. The payment of dividends in the future is in the
sole discretion of our Board of Directors and will depend, among other things,
upon earnings, capital requirements and financial condition, as well as other
relevant factors.
On August 18, 1999, our Board of Directors declared a 5% stock dividend
payable on September 27, 1999, to stockholders of record as of September 3,
1999.
As a Delaware corporation, we may not declare and pay dividends on
capital stock if the amount paid exceeds an amount equal to the excess of our
net assets over paid-in-capital or, if there is no excess, our net profits for
the current and/or immediately preceding fiscal year.
On October 27, 1997, we issued 20,240 shares of common stock to Stanley
L. Furst and Joel E. Furst as partial consideration for their 100% interest in
New Jersey Mortgage.
32
This issuance was exempt from registration in accordance with Section
4(2) of the Securities Act of 1933, as amended, because the issuance did not
involve a public offering. Therefore, the shares issued are subject to certain
transfer restrictions.
Item 6. Selected Consolidated Financial Data
Our consolidated financial information set forth below should be read
in conjunction with the more detailed consolidated financial statements, the
notes to the consolidated financial statements, and "Management's Discussion and
Analysis of Financial Condition and Results of Operations" included elsewhere
herein (dollars in thousands except per share data):
Year Ended June 30,
--------------------------------------------------------------
1999 1998 1997 1996 1995
---------- --------- -------- ------- --------
Statement of Income Data:
Revenues:
Gain on sale of loans and leases....................... $ 65,640 $ 41,316 $ 20,043 $ 8,721 $ 1,350
Interest and fees...................................... 17,424 17,386 5,584 3,245 4,058
Other.................................................. 3,360 633 335 129 143
---------- --------- -------- ------- --------
Total revenues............................................ 86,424 59,335 25,962 12,095 5,551
Total expenses............................................ 64,573 41,445 16,960 8,974 4,657
---------- --------- -------- ------- --------
Operating income before income taxes...................... 21,851 17,890 9,002 3,121 894
Income taxes.............................................. 7,763 6,435 3,062 802 313
---------- --------- -------- ------- --------
Net income................................................ $ 14,088 $ 11,455 $ 5,940 $ 2,319 $ 581
========== ========= ======== ======= ========
Per Common Share Data:
Net income (a)......................................... $ 3.72 $ 2.98 $ 1.95 $ 0.96 $ 0.26
Cash dividends declared................................ .165 .06 .06 .03 -
(a) Amounts have been retroactively adjusted to reflect the effect of a 5%
stock dividend declared August 18, 1999 as if the shares had been
outstanding for each period presented.
June 30,
--------------------------------------------------------------
1999 1998 1997 1996 1995
---------- --------- -------- ------- --------
Balance Sheet Data:
Cash and cash equivalents................................. $ 22,395 $ 4,486 $ 5,014 $ 5,345 $ 4,734
Loan and lease receivables, net available for sale........ 33,776 62,382 35,712 18,003 8,669
Other..................................................... 6,863 4,096 1,144 534 328
Total assets.............................................. 396,301 226,551 103,989 46,894 22,175
Subordinated debt ........................................ 212,902 115,182 56,486 33,620 17,800
Total liabilities......................................... 338,055 183,809 73,077 42,503 20,031
Stockholders' equity...................................... 58,246 42,742 30,912 4,392 2,143
33
Year Ended June 30,
--------------------------------------------------------------
1999 1998 1997 1996 1995
---------- --------- -------- ------- --------
Other Data:
Originations:
Business Purpose Loans................................ $ 64,818 $ 52,335 $ 38,721 $28,872 $ 18,170
Home Equity Loans..................................... 634,820 328,089 91,819 36,479 16,963
First Mortgage Loans.................................. 66,519 33,671 - - -
Equipment Leases ..................................... 96,289 70,480 8,004 5,967 2,220
Loans and Leases sold:
Securitizations....................................... 777,598 384,700 115,000 36,506 9,777
Other................................................. 105,751 51,594 3,817 19,438 31,948
Total managed loan and lease portfolio................... 1,176,918 559,398 176,651 59,891 17,774
Average loan/lease size:
Business Purpose Loans................................ 80 83 78 78 71
Home Equity Loans..................................... 74 62 51 47 46
First Mortgage Loans.................................. 165 154 - - -
Equipment Leases...................................... 23 21 11 11 12
Weighted average interest rate on loans and leases originated:
Business Purpose Loans ............................... 15.91% 15.96% 15.91% 15.83% 16.05%
Home Equity Loans..................................... 11.05 11.95 11.69 9.94 12.68
First Mortgage Loans.................................. 7.67 8.22 - - -
Equipment Leases...................................... 11.40 12.19 15.48 17.22 15.85
At or For the Year Ended June 30,
--------------------------------------------------------------
1999 1998 1997 1996 1995
---------- --------- -------- ------- --------
Financial Ratios:
Return on average assets ................................ 4.56% 6.93% 7.87% 6.71% 3.37%
Return on average equity ................................ 28.10 31.10 33.65 70.96 31.36
Total delinquencies as a percentage of total portfolio
serviced, at end of period ............................ 3.19 3.01 2.15 2.30 3.84
Real estate owned as a percentage of total portfolio
serviced, at end of period............................. .85 .16 .34 1.01 4.29
Loan and lease losses as a percentage of the average total
portfolio serviced during the period................... .12 .12 .07 .33 .66
Pre-tax income as a percentage of total revenues......... 25.28 30.15 33.99 25.81 16.11
Ratio of earnings to fixed charges....................... 1.92 2.23 2.56 1.97 1.54
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following financial review and analysis of the financial condition
and results of operations, for the years ended June 30, 1999, 1998 and 1997
should be read in conjunction with the consolidated financial statements and the
accompanying notes to the consolidated financial statements, and other detailed
information appearing in this document.
34
Securitizations
The ongoing securitization of loans and leases is a central part of our
current business strategy. We sell loans and leases through securitizations with
servicing retained in order to fund growing loan and lease originations and to
provide additional sources of revenue through retained mortgage and lease
servicing rights. In fiscal 1999, we completed securitizations aggregating
$777.6 million, consisting of $71.9 million in business purpose loans, $613.0
million in home equity loans and $92.6 million in equipment leases. Such
securitizations generated gains on the sale of loans and leases of $65.6
million, $41.3 million and $20.0 million, respectively, for fiscal years ended
June 30, 1999, 1998 and 1997. Gain on sale of loans and leases resulting from
securitizations as a percentage of total revenues was 76.0%, 69.6% and 75.5% for
the years ended June 30, 1999, 1998 and 1997, respectively. We rely primarily on
securitizations to generate cash proceeds for repayment of warehouse credit
facilities and other borrowings and to originate additional loans and leases.
Several factors affect our ability to complete securitizations,
including conditions in the securities markets generally, conditions in the
asset-backed securities markets specifically and credit quality of the portfolio
of loans and leases serviced. Any substantial reduction in the size or
availability of the securitization market for loans and leases could have a
material adverse effect on our results of operations and financial condition.
Our quarterly revenues and net income have fluctuated in the past and
may fluctuate in the future principally as a result of the timing and size of
securitizations and changes in market interest rates. The strategy of selling
loans and leases through securitizations require building an inventory of loans
and leases over time, during which time costs and expenses are incurred. Since a
gain on sale is not recognized until a securitization is completed, which may
not occur until a subsequent quarter, operating results for a given quarter can
fluctuate significantly as a result of the timing and level of securitizations.
If securitizations do not close when expected, we could experience a materially
adverse effect on our results of operations for a quarter. The gain on sale of
loans and leases may be unfavorably impacted to the extent we hold fixed-rate
mortgage loans or leases in our available for sale portfolio prior to
securitization. A significant variable affecting the gain on sale of loans and
leases in a securitization is the spread between the average coupon rate on
fixed rate loans and leases, and the weighted average pass-through rate to
investors for interests issued in connection with a securitization. Although the
loan and lease coupon rate is fixed at the time the loan or lease is originated,
the pass-through rate to investors is not fixed until the pricing of the
securitization which occurs just prior the sale of the loans and leases.
Therefore, if market rates required by investors increase prior to
securitization of the loans and leases, the spread between the average coupon
rate on the loans and leases and the pass-through rate to investors may be
reduced or eliminated. In addition, due to the timing difference between the
period when costs are incurred in connection with the origination of loans and
leases and their subsequent sale through the securitization process, we may
operate on a negative cash flow basis, which could adversely impact our results
of operations and financial condition.
35
We also rely upon funds generated by the sale of subordinated debt and
other borrowings to fund our operations. At June 30, 1999, $212.9 million of
subordinated debt was outstanding and credit facilities and lines of credit
totaling $275.0 million were available, of which $51.5 million was drawn upon on
such date. In addition, we had a $100.0 million commercial paper conduit to
finance equipment lease origination of which $3.2 million was utilized at June
30, 1999. We expect to continue to rely on such borrowings to fund loans and
leases prior to securitization.
Certain Accounting Considerations
As a fundamental part of our business and financing strategy, we
securitize the majority of our loans and leases by selling them to trusts for
cash and a retained interest in the securitized loans and leases which is called
a residual interest. The trust issues multi-class securities which derive their
cash flows from a pool of securitized loans and leases. These securities which
represent the remaining interest in the trust called the regular interests, are
sold to public investors. We also retain servicing on securitized loans and
leases.
As the holder of the residual interests in a securitization, we are
entitled to receive certain excess (or residual) cash flows. These cash flows
are the difference between the payments made by the borrowers and the sum of the
scheduled and prepaid principal and interest paid to the investors in the trust,
servicing fees, trustee fees and, if applicable, insurance fees.
Overcollateralization requirements, representing an excess of the aggregate
principal balances of loans and leases in a securitized pool over investor
interests, are established to provide credit enhancement for the trust
investors. In order to meet the required overcollateralization levels the trust
initially retains the excess cash flow until after the overcollateralization
requirements, which are specific to each securitization, are met.
Gain on sale of loans and leases through securitizations represent the
difference between our net proceeds and the allocated cost of loans and leases
securitized. The allocated cost of the loans and leases securitized is
determined by allocating their net carrying value between the loans and leases
securitized, the residual interests and the mortgage servicing rights retained,
based upon their relative fair values. In accordance with Statement of Financial
Accounting Standards ("SFAS") No. 134, "Accounting for Mortgage-Backed
Securities Retained after the Securitization of Mortgage Loans Held for Sale by
a Mortgage Banking Enterprise", which was effective for fiscal quarters
beginning after December 15, 1998, we classified our residual interests as
available-for-sale securities. Available-for-sale securities are carried at fair
value, with subsequent adjustments to fair value recorded in stockholders'
equity and reported as a component of comprehensive income. Prior to the
adoption of SFAS No. 134, the differences between the fair value of residual
interests and their allocated costs was recorded as gain on securitization and
included in gain on sale of loans and leases. The adoption of SFAS No. 134 did
not have a material effect on our financial condition, but reduced the recorded
gain on sale by approximately $5.7 million pre-tax in the third and fourth
quarters of fiscal year 1999.
36
The calculation of the fair value of the residual interest is based
upon the present value of the future expected excess cash flows and utilizes
certain assumptions made by management at the time loans and leases are sold.
These assumptions include the discount rate used to calculate present value, the
rates of prepayment and default rates on the pool of loans. The rate of
prepayment of loans may be affected by a variety of economic and other factors,
including prevailing interest rates and the availability of alternative
financing to borrowers. The effect of those factors on loan and lease prepayment
rates may vary depending on the type of loan or lease. Estimates of prepayment
rates are made based on management's expectation of future prepayment rates,
which are based, in part, on the historical rate of repayment of the loans and
leases and other considerations. Although we believe we have made reasonable
estimates of prepayment rates and default assumptions, the actual prep