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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997
COMMISSION FILE NO.: 0-22193
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LIFE FINANCIAL CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 33-0743196
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
10540 MAGNOLIA AVENUE, SUITE B, RIVERSIDE, CALIFORNIA 92505
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(909) 637-4000
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, PAR VALUE $0.01 PER SHARE
(TITLE OF CLASS)
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The registrant (1) has filed all reports required to be filed by Section 13
or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days.
Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.
The aggregate market value of the voting stock held by non-affiliates of the
registrant, i.e., persons other than directors and executive officers of the
registrant is $119,140,640 and is based upon the last sales price as quoted on
The Nasdaq Stock Market for March 17, 1998.
As of March 17, 1998, the Registrant had 6,546,716 shares outstanding
(excluding treasury shares).
DOCUMENTS INCORPORATED BY REFERENCE
PORTIONS OF THE PROXY STATEMENT FOR THE 1998 ANNUAL MEETING OF STOCKHOLDERS
ARE INCORPORATED BY REFERENCE INTO PART III OF THIS FORM 10-K.
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INDEX
PAGE
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PART I
Item 1. Business....................................................... 1
Additional Item. Executive Officers of the Registrant.......... 46
Item 2. Properties..................................................... 47
Item 3. Legal Proceedings.............................................. 48
Item 4. Submission of Matters to a Vote of Security Holders............ 48
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters........................................................ 49
Item 6. Selected Financial Data........................................ 49
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.......................................... 51
Item 8. Financial Statements and Supplementary Data.................... 64
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure........................................... 99
PART III
Item 10. Directors and Executive Officers of the Registrant............. 99
Item 11. Executive Compensation......................................... 99
Item 12. Security Ownership of Certain Beneficial Owners and Management. 99
Item 13. Certain Relationships and Related Transactions................. 99
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-
K.............................................................. 99
SIGNATURES............................................................... 100
i
ITEM 1. BUSINESS
GENERAL
LIFE Financial Corporation (the "Company") is a Delaware chartered savings
and loan holding company, headquartered in Riverside, California. The Company
became the parent company of Life Bank (formerly "Life Savings Bank, Federal
Savings Bank") (the "Bank") pursuant to the holding company reorganization of
the Bank (the "Reorganization") undertaken in connection with the Company's
initial public offering of its Common Stock (the "IPO"). The Company completed
the IPO on June 30, 1997. Together with shares issued subsequent to that date
pursuant to the exercise of the underwriter's overallotment option, the
Company issued a total of 3,335,000 shares of Common Stock in the IPO at a
price of $11.00 per share. Net proceeds from the IPO amounted to $32.8
million.
The Company originates, purchases, sells, securitizes and services primarily
non-conventional mortgage loans principally secured by first and second
mortgages on one- to four-family residences. The Company makes Liberator
Series loans, which are for the purchase or refinance of residential real
property by borrowers who generally would not qualify for Fannie Mae ("FNMA")
or Freddie Mac ("FHLMC") loans ("sub-prime borrowers"), and Portfolio Series
loans, which are debt consolidation loans for borrowers whose credit history
qualifies them for FNMA and FHLMC loans ("Agency-Qualified Borrowers") with
loan-to-value ratios generally up to 125%. While the Company is currently
emphasizing the origination of Portfolio Series loans, it intends to market
both products as demand permits. Liberator Series and Portfolio Series loans
are the Company's "core products." In addition, to a much lesser extent, the
Company originates multi-family residential and commercial loans.
The Company conducts its business from thirteen locations: the Company's
corporate headquarters and Western regional lending center in Riverside,
California, two additional regional lending centers, one in Jacksonville,
Florida and one in the Denver, Colorado metropolitan area, the national
servicing center located in Riverside, California, and two bank branch offices
in San Bernardino and Riverside, California. In addition, the Company has
recently opened eight low-cost retail lending offices, and intends to enter
into leases for an additional six retail lending offices by the end of 1998,
located in the Southern California area. Such offices are expected to become
operational in 1998.
At December 31, 1997, the Company had consolidated total assets of $411.8
million, total deposits of $211.8 million and total stockholders' equity of
$54.8 million. During the year ended December 31, 1997, the Company originated
or purchased, through a network of approved correspondents and independent
mortgage brokers (the "Originators"), $773.1 million of non-conventional
mortgage products, and sold or securitized $509.7 million of such products.
The Bank's deposits are insured up to the maximum allowable amount by the
Savings Association Insurance Fund ("SAIF") of the Federal Deposit Insurance
Corporation ("FDIC"). The Company's headquarters are located at 10540 Magnolia
Avenue, Suite B, Riverside, California 92505, and its telephone number at that
location is (909) 637-4000.
On March 11, 1998, the Company entered into an Agreement and Plan of Merger
("Merger Agreement") with FIRSTPLUS Financial Group, Inc. ("FIRSTPLUS"),
pursuant to which the Company will be acquired by and become a wholly-owned
subsidiary of FIRSTPLUS. The Merger Agreement is subject to the receipt of
regulatory approval and the approval of shareholders of the Company. Under the
Merger Agreement, at the effective date of the merger, each outstanding share
of common stock of the Company will be converted into the right to receive
between 0.500 and 0.667 shares of FIRSTPLUS common stock, as calculated
pursuant to the Exchange Ratio outlined in the Merger Agreement.
HISTORICAL STRATEGY OF THE COMPANY
During the early 1990's, as a result of reduced employment levels and
corporate relocations in Southern California and the general weakness of the
national economy, the Company's market area experienced a
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weakening of real estate values and a reduction in home sales and
construction. When confronted with increased competition and nominal growth
during this same period, the Company's results of operations were adversely
impacted and the Company began to experience increases in total non-performing
loans held for investment. In response, in 1994, the Company retained new
management experienced in sub-prime lending to redirect its business focus,
revise its underwriting policies and procedures and enhance its related
servicing capabilities. A plan was developed pursuant to which the Company
reorganized its lending operations from that of a thrift emphasizing
traditional mortgage banking and portfolio lending to that of a diversified
financial services operation focusing on the origination for sale or
securitization, with servicing retained, of various loan products to include
Liberator Series loans, Portfolio Series loans, and, to a much lesser extent,
commercial and multi-family real estate loans. The Company also adopted
revised underwriting policies and instituted more aggressive procedures for
resolving problem loans and for reducing the level of non-performing assets.
As a result of these steps, the Company improved its profitability.
As part of the Company's strategic plan, the Bank developed an internal
structure of operating divisions, each with distinct objectives and management
focus. The five divisions include (i) the Financial Services Division which
emphasizes the wholesale origination of the Bank's core products; (ii) the
Income Capital Services Division which originates and sells commercial and
multi-family mortgage loans; (iii) the Retail Loan Division which concentrates
on offering loan products directly to the public primarily in the Bank's
primary market area; (iv) the Asset Management Division which services loans
and REO for both the Bank and for Loan Purchasers; and (v) the Banking
Division which offers depository services to the public.
CORPORATE STRUCTURE
The Company and the Bank consummated the Reorganization in June of 1997
whereby the Bank became a wholly-owned subsidiary of the Company. Management
believes that the holding company form of organization provides the Company
with more flexibility and a greater ability to compete with other financial
services companies in the market place. In addition, due to regulatory capital
limitations, the Bank is limited in the amount of investments in residuals and
restricted cash resulting from securitizations that it can retain. The Company
is not subject to such limitations, and thus will reduce the restrictions on
the Bank's regulatory capital by acquiring loans and creating the residuals as
part of a securitization.
CORE LENDING PRODUCTS
General. The Company originates, purchases, sell, securitizes and services
primarily non-conventional mortgage loans principally secured by first and
second mortgages on one- to four-family residences. The Company makes
Liberator Series loans, which are for the purchase or refinance of residential
real property by sub-prime borrowers, and Portfolio Series loans, which are
debt consolidation loans for Agency-Qualified Borrowers with loan-to-value
ratios generally up to 125%. While the Company is currently emphasizing the
origination of Portfolio Series loans, it intends to market both products as
demand permits. In addition, to a much lesser extent, the Company originates
multi-family residential and commercial loans.
The Company purchases and originates mortgage loans and other real estate
secured loans primarily through a network of Originators on a nationwide
basis. In addition, the Company has begun to open low-cost retail lending
offices. Except for a limited number of loans specifically originated for
retention in the Bank's portfolio as loans held for investment, loans
originated or purchased since 1994 through the Company's regional lending
centers are generally originated for sale in the secondary mortgage market
and, since the fourth quarter of 1996, in asset securitizations with servicing
retained by the Company.
Adjustable-Rate Mortgages. The Company's adjustable rate mortgage ("ARM")
products consist of both first and second mortgages. The repayment and
amortization terms on first mortgage ARMs are 360 months. The repayment and
amortization terms on second mortgage ARMs may be 300, 240 or 180 months.
Interest rates adjust every six or twelve months, and are tied to the six-
month LIBOR or to the 1-Year U.S. Treasury Index,
2
respectively. The periodic rate caps vary between 1% and 3% on each rate
change date. All ARM products are assumable, subject to new borrower
qualification, assumption agreements and fees. The lifetime rate cap on ARMs
is 6% to 7% above the initial rate. None of the ARM products permit negative
amortization. There are no fixed-rate conversion options on any of the ARM
products. Certain ARM products impose prepayment penalties and others do not.
Marketing. The Company's primary means of marketing its products is direct
contact between its account executives and Originators. Each of the Company's
27 account executives is responsible for maintaining and expanding existing
Originator relationships within the account executive's assigned territory
through personal contact and promotional materials. Each account executive is
typically responsible for approximately 20 key Originators and is expected to
have weekly contact with each of these Originators. In addition, each account
executive is responsible for up to 30 additional Originators with whom the
account executive will have frequent contact. Each account executive also
works to develop Originator relationships through "cold calls" and following
up on inquiries made by Originators to the Company's toll-free number. Each
account executive works as part of a team with one of the Company's loan
coordinators and assistant coordinators. Each loan coordinator and assistant
loan coordinator works with three or four account executives. The loan
coordinators and their assistants are responsible for inputting the new loans
into the Company's data systems and for shepherding the loans from the point
of origination through funding. After origination, the whole loan coordinators
and their assistants are available to talk to Originators on a daily basis.
Whole loan coordinators and their assistants are located in each of the
Company's regional lending centers.
The Company believes that the key element in developing, maintaining and
expanding its relationships with Originators is to provide the highest
possible level of product knowledge and customer service. Each account
executive receives comprehensive training prior to being assigned to a
territory. In most cases, training includes experience in the loan production
department so that the account executive will be familiar with all phases of
loan origination and production and will also become acquainted with the whole
loan coordination team. This training enables the account executive to quickly
review a loan application in order to identify the borrower's probable risk
classification and then assist the Originator in identifying the appropriate
product for the borrower, thereby enhancing the likelihood that the loan will
be approved at the rate and on the terms anticipated by the borrower. After a
loan package is submitted to the Company, the loan coordination team provides
assistance to the Originator throughout the process to complete the loan
transaction. Account executives, loan coordinators and assistant coordinators
are compensated based on the number and the dollar volume of loans funded. A
significant portion of a regional manager's compensation is tied to the
profitability of his or her regional lending center and includes a component
based on loan performance.
Origination and Purchase of Loans. Loans are originated both through the
Company's wholesale network of Originators and on a retail basis through the
Company's Retail Lending Division. The Company has also made bulk purchases of
loans from time to time and has recently hired a senior management employee
experienced in bulk purchases to gradually expand the Company's loan
purchases.
The Company's mortgage financing and servicing operations are conducted
primarily through regional lending centers located in Riverside, California,
Jacksonville, Florida and the Denver, Colorado metropolitan area. Over the
next nine months, the Company intends to open an additional low cost regional
lending center to better serve its Originators. This regional lending center
will be located in the Northeast sector of the United States. From its present
locations, the Company is able to originate or purchase its core products in
the District of Columbia and all 50 states with the exception of Louisiana,
Mississippi and Alaska.
3
The following table sets forth for the periods shown the aggregate dollar
amounts and the percentage of core products originated or purchased by the
Company in each state where 5.0% or more of the loans were originated or
purchased during the three months ended December 31, 1997:
FOR THE THREE MONTHS ENDED
----------------------------------------------------------------------------
DECEMBER 31, MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
1996 1997 1997 1997 1997
------------- ------------- -------------- -------------- --------------
$ % $ % $ % $ % $ %
------- ----- ------- ----- -------- ----- -------- ----- -------- -----
(DOLLARS IN THOUSANDS)
California.............. $20,434 29.5% $26,421 29.8% $ 32,827 24.3% $ 33,614 19.8% $ 71,853 22.3%
Virginia................ 5,961 8.6 5,884 6.6 7,489 5.5 9,575 5.6 19,842 6.2
Florida................. 4,897 7.1 3,405 3.8 7,995 5.9 6,946 4.1 19,038 5.9
Maryland................ 4,878 7.1 4,492 5.1 6,839 5.1 9,851 5.8 17,670 5.5
Other................... 32,990 47.7 48,437 54.7 80,057 59.2 110,151 64.7 193,166 60.1
------- ----- ------- ----- -------- ----- -------- ----- -------- -----
Total................. $69,160 100.0% $88,639 100.0% $135,207 100.0% $170,137 100.0% $321,569 100.0%
======= ===== ======= ===== ======== ===== ======== ===== ======== =====
The Company's geographic markets are currently divided into three regions,
with a completely self-contained mortgage banking team assigned to each
region. Each team is headed up by a regional manager and includes dedicated
account executives, loan coordinators and assistant coordinators,
underwriters, and other production personnel so that the team can originate
and produce loans in that region. This concept of regional processing teams,
which the Company believes is efficient but quite rare in the industry,
enables the Company to more effectively anticipate and respond to Originator
and borrower needs in each region. Management believes that the concept also
appeals to independent brokers who may be reluctant to deal with a larger,
more remote lender. Each regional team is connected to senior management in
Riverside, California by a computer link that enables senior management to
monitor all regional functions on a real time basis.
Management personnel staffing a regional lending center are trained in the
Company's Riverside office. For a period of six to twelve months after the
establishment of a regional lending center all loans originated through that
office are reunderwritten by staff at the Riverside office to assure quality
control. In addition, the quality control department and the Company's
internal auditor regularly visit the regional lending centers for quality
control purposes.
In recent years, the Company has focused on both Liberator Series loans and
Portfolio Series loans. While the Company is currently emphasizing the
origination of Portfolio Series loans, it intends to originate both types of
loans as demand permits.
Liberator Series loans are loans for the purchase or refinance of one- to
four-family residential real property by sub-prime borrowers and loans which
otherwise do not conform to FHLMC or FNMA guidelines ("conforming loans").
Loans to sub-prime borrowers are perceived by management as being advantageous
to the Company because they generally have higher interest rates and
origination and servicing fees and generally lower loan-to-value ratios than
conforming loans. In addition, management believes the Company has the
resources to adequately service loans acquired pursuant to this program as
well as the experience to resolve loans that become non-performing. The
Company has established specific underwriting policies and procedures,
invested in facilities and systems and developed correspondent relationships
with Originators throughout the country enabling it to develop its niche as an
originator and purchaser of one-to four-family residential loans to sub-prime
borrowers. Since the beginning of 1997, the Company has widely advertised its
NINA loan product, which is a limited documentation, lower loan-to-value loan
product within the Liberator Series loan portfolio. The Company intends to
continue to expand the volume of Liberator Series loans which it originates to
market areas throughout the country to sub-prime borrowers who meet its niche
lending criteria. Loans to sub-prime borrowers present a higher level of risk
of default than conforming loans because of the increased potential for
default by borrowers who may have had previous credit problems or who do not
have an adequate credit history. Loans to sub-prime borrowers also involve
additional liquidity risks, as these loans generally have a more limited
secondary market than conventional loans. The actual rates of delinquencies,
foreclosures and losses on loans to
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sub-prime borrowers could be higher under adverse economic conditions than
those currently experienced in the mortgage lending industry in general. While
the Company believes that the underwriting procedures and appraisal processes
it employs enable it to somewhat mitigate the higher risks inherent in loans
made to these borrowers, no assurance can be given that such procedures or
processes will afford adequate protection against such risks.
Portfolio Series loans, which are debt consolidation loans for Agency
Qualified Borrowers, are originated both on a wholesale basis through the
Company's Life Financial Services Division, and through its Retail Lending
Division. These loans are consumer-oriented loans secured by real estate,
primarily home equity lines of credit and second deeds of trust, generally for
up to 125% of the appraised value of the real estate underlying the aggregate
loans on the property. Although the loan-to-value ratio on Portfolio Series
loans is higher than that offered by other mortgage products, management
believes that the higher yield and the low level of credit risk of the
borrowers offsets the risks involved. In the event of a default on a Portfolio
Series loan by a borrower, there generally would be insufficient collateral to
pay off the balance of such loan and the Company, as holder of a second
position on the property, would likely lose a substantial portion, if not all,
of its investment. While the Company believes that the underwriting procedures
it employs enable it to somewhat mitigate the higher risks inherent in such
loans, no assurance can be given that such procedures will afford adequate
protection against such risks.
The following table sets forth the principal balance of each of the
Company's core loan products originated during the periods shown:
FOR THE THREE MONTHS ENDED
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DECEMBER 31, MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
1996 1997 1997 1997 1997
------------ --------- -------- ------------- ------------
(IN THOUSANDS)
Liberator Series (full
documentation)......... $39,465 $39,629 $ 39,589 $ 44,484 $ 63,262
Liberator Series
(NINA)(1).............. -- -- 7,803 21,410 26,719
Portfolio Series........ 29,695 49,010 87,815 104,243 231,588
------- ------- -------- -------- --------
Total................. $69,160 $88,639 $135,207 $170,137 $321,569
======= ======= ======== ======== ========
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(1) The Company did not originate a material amount of Liberator Series (NINA)
loans during the three months ended December 31, 1996 and March 31, 1997.
The following table sets forth selected information relating to originations
of Liberator Series loans during the periods shown:
FOR THE THREE MONTHS FOR THE THREE MONTHS FOR THE THREE MONTHS
ENDED ENDED ENDED
FOR THE THREE FOR THE THREE JUNE 30, 1997 SEPTEMBER 30, 1997 DECEMBER 31, 1997
MONTHS ENDED MONTHS ENDED -------------------- --------------------- ---------------------
DECEMBER 31, MARCH 31, FULL FULL FULL
1996 1997 DOCUMENTATION NINA DOCUMENTATION NINA DOCUMENTATION NINA
------------- ------------- ------------- ------ ------------- ------- ------------- -------
(DOLLARS IN
THOUSANDS)
Principal balance....... $39,465 $39,629 $39,589 $7,803 $44,484 $21,410 $63,262 $26,719
Average principal
balance per loan....... 85 100 81 103 91 114 88 118
Combined weighted
average initial loan-
to-value ratio......... 73.4% 72.8% 78.2% 69.0% 77.3% 73.1% 78.2% 74.4%
Percent of first
mortgage loans......... 85.4 91.8 88.8 100.0 87.4 98.5 90.4 99.6
Property securing loans:
Owner occupied......... 86.4 77.3 90.5 92.9 91.5 93.6 94.8 96.5
Non-owner occupied..... 13.6 22.7 9.5 7.1 8.5 6.4 5.2 3.5
Percentage fixed-rate... 44.2 35.6 42.4 24.1 33.4 23.1 42.5 26.7
Percentage ARMs......... 55.8 64.4 57.6 75.9 66.6 76.9 57.5 73.3
Weighted average
interest rate:
Fixed-rate............. 11.3 10.8 10.9 11.2 11.2 11.2 10.3 10.6
ARMs................... 9.6 9.1 10.0 10.0 9.4 9.3 9.4 9.1
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The following table sets forth selected information relating to originations
of Portfolio Series loans during the periods shown:
FOR THE FOR THE FOR THE FOR THE FOR THE
THREE MONTHS THREE MONTHS THREE MONTHS THREE MONTHS THREE MONTHS
ENDED ENDED ENDED ENDED ENDED
DECEMBER 31, MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
1996 1997 1997 1997 1997
------------ ------------ ------------ ------------- ------------
(DOLLARS IN THOUSANDS)
Principal balance....... $29,695 $49,010 $87,815 $104,243 $231,588
Average principal
balance per loan....... 31 32 33 32 34
Combined weighted
average initial
loan-to-value ratio.... 108.4% 107.7% 110.0% 109.5% 108.4%
Percent of first
mortgage loans......... 0.1 0.5 0.1 -- 0.2
Property securing loans:
Owner occupied........ 99.5 99.8 100.0 100.0 100.0
Non-owner occupied.... 0.5 0.2 -- -- --
Percentage fixed-rate... 96.3 96.0 98.0 94.5 92.9
Percentage ARMs......... 3.7 4.0 2.0 5.5 7.1
Weighted average
interest rate:
Fixed-rate............ 14.1 13.8 14.0 13.8 14.1
ARMs.................. 11.2 10.3 11.3 11.3 11.0
Use and Qualifications of Originators. The Company purchases loans from
select Originators throughout the country. Such Originators must be approved
by the Company prior to submitting loans to the Company. Pursuant to the
Company's approval process, each Originator is generally required to have a
specified minimum level of experience in originating non-conforming loans, and
provide representations, warranties, and buy-back provisions to the Company.
The Company provides clear and concise criteria regarding its well-defined
core products to Originators with whom it may do business. If, following a
period of training and relationship building, Originators consistently fail to
present a high level of loans meeting the Company's underwriting criteria, the
Company will cease to do business with them. As a result, the Company has
developed, since 1994, a core group of Originators who form its nationwide
network of Originators. The Company generally classifies the Originators with
which it does business into four classes with descending priority with regard
to the terms and the pricing of the loans the Company purchases from such
Originators.
JUNIOR THIRD PARTY MORTGAGE
CORRESPONDENTS CORRESPONDENTS ORIGINATORS BROKERS(1)
-------------- -------------- ----------- ----------
Net Worth(2).............. $250,000 $100,000 $50,000 N/A
Years in Business......... 2 2 2 N/A
Warehouse Credit Facility. Yes Yes No No
Errors and Omissions
Insurance................ $1.0 million No No No
Number Doing Business with
the Company at December
31, 1997................. 133 56 81 950
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(1) Mortgage brokers are those persons who do not meet the specific foregoing
criteria but have demonstrated to the Company, or have a reputation for,
the ability to originate real estate secured loans and have acceptable
credit and finance industry references.
(2) Correspondents provide audited financial statements prepared in accordance
with GAAP from which net worth is determined. Junior Correspondents and
Third Party Originators provide unaudited financial information from which
net worth is obtained.
6
The Company purchases substantially all loans on an individual basis from
qualified Originators. No single Originator accounted for more than 3.1% of
the loans originated by the Company for the year ended December 31, 1997. It
is the Company's general policy to limit the percentage of loans closed by any
single Originator to approximately 5.0% of loans closed in any given period.
Underwriting. The underwriting and quality control functions are managed
through the Company's administrative offices in Riverside, California. The
Company believes that its underwriting process begins with the experience of
its staff, the education of its network of Originators, the quality of its
correspondent relationships and its loan approval procedures. As an integral
part of its lending operation, the Company ensures that its underwriters
assess each loan application and subject property against the Company's
underwriting guidelines.
Personnel in the Company's regional lending centers review in its entirety
each loan application submitted by the Company, Originators or through bulk
purchases for approval. The Company conducts its own underwriting review of
each loan, including those loans originated for or purchased by it from its
Originators. Loan files are reviewed for completeness, accuracy and compliance
with the Company's underwriting criteria and applicable governmental
regulations. This underwriting process is intended to assess both the
prospective borrower's ability to repay the loan and the adequacy of the real
property security as collateral for the loan granted, tailored to the general
nature of the Portfolio Series and the Liberator Series loans, respectively.
Based on the initial review, the personnel in the regional lending center will
inform the Originators of additional requirements that must be fulfilled to
complete the loan file. The Company strives to process each loan application
received from its network of Originators as quickly as possible in accordance
with the Company's loan application approval procedures. Accordingly, most
loan applications receive decisions within 48 hours of receipt and generally
are funded within one day following satisfaction of all conditions for
approval of the loan which is typically seven business days after the initial
approval.
Each prospective borrower is required to complete a mortgage loan
application that may include (depending on the program requirement)
information detailing the applicant's liabilities, income, credit history,
employment history and personal information. Since most of the loan
applications are presented through the Company's network of Originators, the
Company completes an additional credit report on all applications received.
Such report typically contains information relating to such matters as credit
history with local and national merchants and lenders, installment debt
payments and any record of defaults, bankruptcies, repossessions or judgments.
This credit report is obtained through a sophisticated computer program that
accesses what management believes to be the most appropriate credit bureau in
a particular zip code and combines that information with the Company's own
credit risk score.
This application and review procedure is used by the Company to analyze the
applicant's creditworthiness (i.e., a determination of the applicant's ability
to repay the loan). Creditworthiness is assessed by examination of a number of
factors, including calculating a debt-to-income ratio obtained by dividing a
borrower's fixed monthly debt by the borrower's gross monthly income. Fixed
monthly debt generally includes (i) the monthly payment under any related
senior mortgages which will include calculations for insurance and real estate
taxes, (ii) the monthly payment on the loan applied for and (iii) other
installment debt, including, for revolving debt, the required monthly payment
thereon, or, if no such payment is specified, 3% of the balance as of the date
of calculation. Fixed monthly debt may not include any debt (other than
revolving credit debt) described above that matures within less than 10 months
of the date of calculation.
Prior to funding a loan, several procedures are used to verify information
obtained from an applicant. The applicant's outstanding balance and payment
history on any senior mortgage may be verified by calling the senior mortgage
lender. If the senior mortgage lender cannot be reached by telephone to verify
this information, the Originators may rely upon information provided by the
applicant, such as a recent statement from the senior lender and verification
of payment, such as canceled checks, or upon information provided by national
credit bureaus. In order to verify an applicant's employment status, the
Originators may obtain from the applicant recent tax returns or other tax
forms (e.g., W-2 forms) or current pay stubs or may telephone the applicant's
7
employer or obtain written verification from the employer. As in the case of
the senior mortgage lender verification procedures, if the employer will not
verify employment history over the telephone, the Company or other Originators
may rely solely on the other information provided by the applicant. The
Company does offer NINA loans at reduced loan-to-value ratios in lieu of
documenting cash flow and/or assets of the borrower. See "--Liberator Series
(NINA)" for further information on NINA loans.
Debt to income ratios for Portfolio Series mortgage loans generally do not
exceed 45%, but in certain instances where deemed appropriate by the Company,
the ratio may go as high as 50%. For Liberator Series mortgage loans, debt to
income ratios may vary depending upon a number of other factors used to
ascertain the creditworthiness of the borrower.
8
The general criteria currently used by the Company in classifying
prospective borrowers of its core loan products are summarized in the charts
below.
LIBERATOR SERIES (FULL DOCUMENTATION)
"Ax" RISK "A-" RISK "B" RISK "C" RISK "Cx" RISK
-------------- -------------- -------------- -------------- --------------
Maximum Loan-to-Value
Ratio:
Primary residence...... 95% 95% 80% 75% 65%
Secondary residence.... 90% 90% 70% 70% 65%
Investor property...... 90% 85% 70% 70% 65%
Home equity line of
credit................ 90% 90% 80% -- --
Debt Service to Income
Ratio................. 42-50% 42-50% 50-55% 50-60% 60%
Mortgage Credit......... Maximum one Maximum two Maximum four Maximum six Currently
30-day late 30-day late 30-day late 30-day late delinquent
payment in the payments in payments payments, two
last 12 months the last 12 and/or one 60- 60-day late
months day late payments
payment in the and/or one 90-
last 12 months day late
payment in
last 12 months
Installment Credit...... Maximum one No more than No more than No more than Sporadic
30-day late 30 days late 60 days late 90 days late payment
payment in the in last 12 on any account on any account pattern;
last 12 months; in last 12 in last 12 apparent
months; overall good months; months; disregard
maximum two credit; overall overall fair toward timely
30-day late maximum 25% average credit credit payments or
payments in of credit credit
the last 24 accounts standing
months delinquent in
last 24 months
Revolving Credit........ Maximum two No more than No more than No more than Sporadic
30-day late 30 days late 60 days late 90 days late payment
payments in in last 12 on any account on any account pattern;
the last 12 months; in last 12 in last 12 apparent
months; isolated 60- months; months; disregard
maximum three day late isolated minor isolated late toward timely
30-day late payment 90-day late payment over payments or
payments in allowed with payment 90 days credit
last 24 months compensating allowed with allowed with standing
factors; compensating compensating
maximum 25% factors factors
of credit
accounts
delinquent in
last 24 months
Bankruptcy Filings...... No bankruptcy No bankruptcy No bankruptcy No bankruptcy Discharged
in last 36 in last 24 in last 18 in last 12 within 12
months months months months months
preceding
application;
current
Chapter 13 or
foreclosure
acceptable
when paid in
full or cured
from loan
proceeds
Minimum Credit Score.... 670/650 620 550 500 less than 500
9
LIBERATOR SERIES (NINA)
"AX" RISK "A-" RISK "B" RISK "C" RISK "CX" RISK
-------------- -------------- -------------- -------------- --------------
Loan-to-Value Ratio:
Primary residence...... 90%(1) 75% 70% 70% 65%
Secondary residence.... 75% 70% 65% 65% 60%
Investor property...... 75% 70% 65% 65% 60%
Mortgage Credit......... Maximum one Maximum two Maximum four Maximum six Currently
30-day late 30-day late 30-day late 30-day late delinquent
payment in the payments in payments payments, two
last 12 the last 12 and/or one 60- 60-day late
months; no 30 months day late payments
days late payment in the and/or one 90-
payments in last 12 months day late
last 24 months payment in
for 90% last 12 months
Installment Credit...... Maximum one No more than No more than No more than Sporadic
30-day late 30 days late 60 days late 90 days late payment
payment in the in last 12 on any account on any account patterns;
last 12 months; within last 12 in last 12 apparent
months; overall good months; months; disregard
maximum two credit; overall overall fair toward timely
30-day late maximum 25% of average credit credit payments or
payments in credit credit
the last 24 accounts standing
months; no 30 delinquent in
days late last 24 months
payments in
last 12 months
for 90%
Revolving Credit........ Maximum two No more than No more than No more than Sporadic
30-day late 30 days late 60 days late 90 days late payment
payments in in last 12 on any account on any account patterns;
the last 12 months, in last 12 in last 12 apparent
months; isolated 60- months; months; disregard
maximum three day late isolated minor isolated late toward timely
30-day late payment 90-day late payment over payments or
payments in allowed with payment 90 days credit
last 24 compensating allowed with allowed with standing
months; no 30 factors; compensating compensating
days late maximum 25% of factors factors
payments in credit
last 24 months accounts
for 90% delinquent in
last 24 months
Bankruptcy Filings...... No bankruptcy No bankruptcy No bankruptcy No bankruptcy Discharged
in last 36 in last 24 within last 18 in last 12 within 12
months, none months months months months
in last 7 preceding
years for 90% application;
LTV current
Chapter 13 or
foreclosure
acceptable
when paid in
full or cured
from loan
proceeds
Minimum Credit Score.... 670/650 620 550 500 less than 500
- -------
(1) Purchase or rate term only, A+ credit required, credit score minimum of
670; all others maximum LTV at 80%.
10
PORTFOLIO SERIES
"A+" RISK "AX" RISK "A-" RISK
-------------- -------------- --------------
Loan-to-Value Ratio:
100% Second Mortgage............ 100% 100% 100%
125% Second Mortgage............ 125% 135% 135%
100% Home Equity Line of Credit. 100% 100% 100%
Debt Service to Income Ratio: 45-50% 45-50% 45-50%
100% Second Mortgage............
125% Second Mortgage............ 45-50% 45-50% 45-50%
100% Home Equity Line of Credit. 45-50% 45-50% 45-50%
Mortgage History:
100% Second Mortgage............ No 30-day late No 30-day late No 30-day late
payments in payments in payments in
last 36 months last 36 months last 12
months; one
30-day late
payment in
last 24 months
125% Second Mortgage............ No 30-day late No 30-day late No 30-day late
payments in payments in payments in
last 36 months last 36 months last 24 months
100% Home Equity Line of Credit. No 30-day late No 30-day late No 30-day late
payments in payments in payments in
last 36 months last 36 months last 12
months; one
30-day late
payment in
last 24 months
Bankruptcy Filings:
100% Second Mortgage............ None in last 5 None in last 5 None in last 3
years years years
125% Second Mortgage............ None in last 5 None in last 5 None in last 3
years years years
100% Home Equity Line of Credit. None in last 5 None in last 5 None in last 3
years years years
Minimum Credit Score:
100% Second Mortgage............ 700 670 640
125% Second Mortgage............ 700 670 640
100% Home Equity Line of Credit. 700 670 640
11
Loan Production by Borrower Risk Classification. The Company classifies
borrowers according to credit risk from A+ to Cx; however, the predominant
amount of its lending is to borrowers in categories A- or higher. The
following table sets forth information concerning the Company's principal
balance of fixed rate and adjustable rate loan production by borrower risk
classification for the periods shown:
FOR THE THREE MONTHS ENDED FOR THE THREE MONTHS ENDED
DECEMBER 31, 1996 MARCH 31, 1997
--------------------------------- ---------------------------------
WEIGHTED WEIGHTED
AVERAGE WEIGHTED AVERAGE WEIGHTED
PRODUCT/RISK % OF INTEREST AVERAGE % OF INTEREST AVERAGE
CLASSIFICATIONS VOLUME TOTAL RATE(1) MARGIN(2) VOLUME TOTAL RATE(1) MARGIN(2)
--------------- ------- ----- -------- --------- ------- ----- -------- ---------
(DOLLARS IN THOUSANDS)
Liberator Series (Full
documentation)
Ax...................... $18,925 48.0% 9.94% 5.24% $17,159 43.3% 9.35% 5.11%
A-...................... 8,790 22.3 10.16 5.52 9,241 23.3 9.85 5.52
------- ----- ------- -----
Total A- or better.... 27,715 70.3 -- -- 26,400 66.6 -- --
------- ----- ------- -----
B....................... 6,806 17.2 10.26 5.33 7,992 20.2 9.39 4.91
C....................... 2,026 5.1 11.16 5.68 2,555 6.4 10.98 5.77
Cx...................... 2,918 7.4 13.07 7.06 2,682 6.8 11.74 6.62
------- ----- ------- -----
Total................. $39,465 100.0% 10.34 5.46 $39,629 100.0% 9.74 5.31
======= ===== ======= =====
Portfolio Series
A+...................... $ 2,669 9.0% 13.58 2.50 $ 9,980 20.4% 13.22 1.74
Ax...................... 14,452 48.7 13.87 2.18 18,733 38.2 13.53 1.83
A-...................... 9,866 33.2 14.35 3.24 15,193 31.0 14.05 3.27
------- ----- ------- -----
Total A- or better.... 26,987 90.9 -- -- 43,906 89.6 -- --
------- ----- ------- -----
B+...................... 2,708 9.1 14.10 3.73 5,104 10.4 14.07 2.70
------- ----- ------- -----
Total................. $29,695 100.0% 14.03 2.74 $49,010 100.0% 13.68 2.32
======= ===== ======= =====
(Continued on following page.)
12
FOR THE THREE MONTHS ENDED FOR THE THREE MONTHS ENDED FOR THE THREE MONTHS ENDED
JUNE 30, 1997 SEPTEMBER 30, 1997 DECEMBER 31, 1997
--------------------------------- ---------------------------------- ----------------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE WEIGHTED AVERAGE WEIGHTED AVERAGE WEIGHTED
PRODUCT/RISK % OF INTEREST AVERAGE % OF INTEREST AVERAGE % OF INTEREST AVERAGE
CLASSIFICATIONS VOLUME TOTAL RATE(1) MARGIN(2) VOLUME TOTAL RATE(1) MARGIN(2) VOLUME TOTAL RATE(1) MARGIN(2)
--------------- ------- ----- -------- --------- -------- ----- -------- --------- -------- ----- -------- ---------
(DOLLARS IN THOUSANDS)
Liberator Series
(Full
documentation)
A+............... $ 47 0.1% 12.38% 7.00% $ 120 0.3% 9.67% 4.63% $ 797 1.3% 9.07% 5.13%
Ax............... 18,778 47.4 9.88 5.47 15,797 35.5 9.48 5.77 29,972 47.4 9.26 2.82
A-............... 9,663 24.4 10.03 6.05 16,059 36.1 9.76 6.17 17,525 27.7 9.59 3.79
------- ----- -------- ----- -------- -----
Total A- or
better.......... 28,488 71.9 -- -- 31,976 71.9 -- -- 48,294 76.4 -- --
------- ----- -------- ----- -------- -----
B+............... 119 0.3 9.75 -- 24 0.1 13.75 -- -- -- -- --
B................ 4,303 10.9 10.82 6.06 5,911 13.3 10.31 6.32 7,217 11.4 10.31 3.22
C................ 2,776 7.0 11.48 6.53 3,297 7.4 10.64 6.41 2,601 4.1 10.98 3.57
Cx............... 3,903 9.9 12.59 8.15 3,276 7.3 12.18 7.28 5,150 8.1 12.50 5.66
------- ----- -------- ----- -------- -----
Totals.......... $39,589 100.0% 10.40 6.08 $ 44,484 100.0% 9.98 6.14 $ 63,262 100.0% 9.81 3.42
======= ===== ======== ===== ======== =====
Liberator Series
(NINA)(3)
Ax............... $ 3,772 48.3% 9.56 5.33 $ 13,789 64.4% 9.20 5.54 $ 20,843 78.0 9.14 5.44
A-............... 2,325 29.8 10.14 6.05 3,188 14.9 9.81 6.30 2,947 11.0 9.89 6.14
------- ----- -------- ----- -------- -----
Total A- or
better.......... 6,097 78.1 -- -- 16,977 79.3 -- -- 23,790 89.0 -- --
------- ----- -------- ----- -------- -----
B................ 1,102 14.1 11.78 6.35 2,088 9.7 10.20 5.97 1,135 4.3 10.71 6.72
C................ 332 4.3 12.27 6.83 592 2.8 11.09 7.07 985 3.7 11.20 6.86
Cx............... 272 3.5 12.49 6.92 1,753 8.2 12.72 6.43 809 3.0 12.23 7.66
------- ----- -------- ----- -------- -----
Totals.......... $ 7,803 100.0% 10.27 5.82 $ 21,410 100.0% 9.73 5.77 $ 26,719 100.0% 9.46 5.63
======= ===== ======== ===== ======== =====
Portfolio Series
A+............... $19,086 21.7% 13.30 8.02 $ 23,250 22.3% 12.98 5.79 $ 49,461 21.3 13.03 4.12
Ax............... 27,954 31.8 13.85 6.50 31,914 30.6 13.49 6.50 92,605 40.0 13.79 5.15
A-............... 31,234 35.6 14.28 7.22 38,521 37.0 14.00 6.99 76,164 32.9 14.37 5.97
------- ----- -------- ----- -------- -----
Total A- or
better.......... 78,274 89.1 -- -- 93,685 89.9 -- -- 218,230 94.2 -- --
------- ----- -------- ----- -------- -----
B+............... 9,435 10.8 14.69 7.18 10,472 10.0 14.38 7.51 13,156 5.7 14.11 6.40
B................ 106 0.1 13.99 -- 86 0.1 12.27 6.88 202 0.1 11.50 3.38
------- ----- -------- ----- -------- -----
Total........... $87,815 100.0% 13.98 7.38 $104,243 100.0% 13.66 6.64 $231,588 100.0% 13.84 5.31
======= ===== ======== ===== ======== =====
- ----
(1) Weighted average interest rate includes both ARM loan products and fixed
rate loan products.
(2) Weighted average margin is based solely on ARM products.
(3) The Company did not originate a material amount of Liberator Series (NINA)
loans during the three months ended December 31, 1996 and March 31, 1997.
13
Appraisal. All mortgaged properties relating to mortgage loans where
collateral assessment is an integral part of the evaluation process are
appraised by state licensed or certified appraisers. All of the appraisals are
either performed or reviewed by appraisers or appraisal firms approved by the
Company's senior management. These appraisers are screened and actively
reviewed on a regular basis. Each approved appraiser must have a minimum of
$1.0 million of errors and omissions insurance. All appraisers are required to
assess the valuation of the property pursuant to U.S. Government Property
Analysis guidelines and conduct an economic analysis of the geographic region
in which the property is located. Once a loan application file is complete,
the file is reviewed to determine whether the property securing the loan
should undergo a desk or field review. This determination is made based on the
loan-to-value ratio of the underlying property and the type of loan or loan
program. If after the initial desk review, the underwriter requires additional
information with regard to the appraised value of the property, a field review
may also be conducted. The Company requires the appraiser to address
neighborhood conditions, site and zoning status and the condition and
valuation of improvements. Following each appraisal, the appraiser prepares a
report which (when appropriate) includes a reproduction cost analysis based on
the current cost of constructing a similar building and a market value
analysis based on recent sales of comparable homes in the area. Title
insurance policies are required on all first mortgage liens and second liens
$100,000 and over, with a limited judgment lien report required on all second
lien loans under $100,000.
For Liberator Series loans, because of the sub-prime creditworthiness of the
borrowers, the evaluation of the value of the property securing the loans and
the ratio of loans secured by such property to its value become of greater
importance in the underwriting process. The specific procedures and criteria
utilized in the appraisal process range from a desk review, a field review, to
a second appraisal, depending on the size of the loan and its loan-to-value
ratio.
The value of the mortgaged property has lesser importance with respect to
the Portfolio Series loans in light of their high loan-to-value ratios. As a
result, Portfolio Series loans generally have little or no equity in the
mortgaged property available to repay the loan if it is in default. For
Portfolio Series loans, the Company accepts the homeowner/mortgagee's "as
stated" value on loans to $35,000. On loans in excess of $35,000 to a maximum
of $50,000, the Company requires a current tax assessment, a statistical
appraisal or a HUD-1 conformed closing statement where purchase of the subject
property has occurred within the previous 12 months. For loans in excess of
$50,000, a drive-by appraisal including comparable analysis on a FHLMC Form
704 is required.
Qualified property inspection firms are also utilized for annual property
inspections on all properties 45 days or more delinquent. Property inspections
are intended to provide updated information concerning occupancy, maintenance
and changes in market conditions.
Loan Approval Procedures and Authority. The Board of Directors establishes
the lending policies of the Company and delegates authority and responsibility
for loan approvals to the Loan Committee and specified officers of the
Company. All real estate loans must be approved by a quorum of the designated
committee or by the designated individual or individuals.
14
All loans underwritten by the Company require the approval and signature of
two underwriters. Where there are exceptions to the Company's underwriting
criteria, the loan must be unanimously approved by the underwriter,
supervisory underwriter and the Senior Vice President of the Company or, if
not unanimously approved, by the Company's President and Chief Executive
Officer. It has been the Bank's policy to adhere strictly to its underwriting
standards with few exceptions. Additionally, the following committees, groups
of officers and individual officers are granted the authority to approve and
commit the Company to the funding of the following categories of loans:
LEVEL OF APPROVAL
-----------------------------------------------------------
LOAN COMMITTEE
ONE STAFF TWO STAFF LOAN AND BOARD OF
TYPE OF LOAN UNDERWRITER UNDERWRITERS COMMITTEE DIRECTORS
------------ -------------- -------------- -------------- --------------
Mortgage loans held for
sale................... -- $1.0 million -- More than $1.0
or less(1) million
Mortgage loans held for
investment............. -- $250,000 or More than $550,000 or
less $250,000 more
but less than
$550,000
Other loans............. Personal loans All other All other All other
secured by loans $25,000 loans more loans in
Bank deposits or less than $25,000 excess of
but less than $50,000
$50,000
- --------
(1) Loans in excess of $500,000 require approval by an executive officer in
addition to approval by two underwriters.
The Bank will not make loans-to-one borrower that are in excess of
regulatory limits. Pursuant to Office of Thrift Supervision ("OTS")
regulations, loans-to-one borrower cannot exceed 15% of the Bank's unimpaired
capital and surplus. At December 31, 1997, the Bank's loans to one borrower
limit equaled $3.6 million. See "--Regulation--Federal Savings Institution
Regulation--Loans-to-One Borrower."
LOAN SALES AND ASSET SECURITIZATIONS
Loans are sold by the Company through securitizations and whole loan sales.
With the exception of customary provisions relating to breaches of
representations and warranties, loans securitized or sold by the Company are
sold without recourse to the Company and generally are sold with servicing
retained. For the years ended December 31, 1997, 1996 and 1995, the Company
sold $94.4 million, $154.6 million, and $126.9 million in loans, respectively.
For the years ended December 31, 1997 and 1996, the Company securitized $415.4
million and $51.9 million, respectively. No loans were securitized for the
year ended December 31, 1995.
In a securitization, the Company will generally transfer a pool of loans to
a trust with the Company retaining the excess cash flows, known as residuals,
from the securitization which consist of the difference between the interest
rate of the mortgages and the coupon rate of the securities after adjustment
for servicing and other costs such as trustee fees and credit enhancement
fees. The cash generally will be used to repay advances on lines of credit
used to finance the pool of loans that were acquired by the Company.
Generally, the holders of the securities from the asset securitization are
entitled to receive scheduled principal collected on the pool of securitized
loans and interest at the pass-through interest rate on the certificate
balance. The residual asset represents the subordinated right to receive cash
flows from the pool of securitized loans after payment of the required amounts
to the holders of the securities and the costs associated with the
securitization. The Company recognizes gain on sale of the loans in the
securitization, which represents the excess of the estimated fair value of the
residuals, net of closing and underwriting costs, less the allocated cost
basis of the loans sold in the fiscal quarter in which such loans are sold.
Management believes that it has made reasonable estimates of the fair value of
the residual interests on its balance sheets. Concurrent with recognizing such
gain on sale, the Company records the residual interests as assets on its
balance sheet. The recorded value of these residual interests are amortized as
cash distributions are received from the trust holding the respective loan
pool and are marked to market on a quarterly basis. The fair values of such
residuals are based in part on market interest rates
15
and projected loan prepayment and credit loss rates. Increases in interest
rates or higher than anticipated rates of loan prepayments or credit losses of
these or similar securities may require the Company to write down the value of
such residuals and result in a material adverse effect on the Company's
results of operations and financial condition. During the year ended December
31, 1997, the Company revalued the 1997-1A residual and recorded a pre-tax
unrealized loss of $2.1 million due to higher-than-expected prepayment speeds.
The Company is not aware of an active market for the residuals. No assurance
can be given that the residuals could in fact be sold at their carrying value,
if at all.
The Company may arrange for credit enhancement for a transaction to achieve
an improved credit rating on the securities issued if this improves the level
of profitability or cash flow generated by such transaction. This credit
enhancement may take the form of an insurance and indemnity policy, insuring
the holders of the securities of timely payment of the scheduled pass-through
of interest and principal. In addition, the pooling and servicing agreements
that govern the distribution of cash flows from the loan pool included in a
transaction typically require over-collateralization as an additional means of
credit enhancement. Over-collateralization may in some cases also require an
initial deposit, the sale of loans at less than par or retention in the trust
of collections from the pool until a specified over-collateralization amount
has been attained. In the case of the Company's securitizations to date, the
over-collateralization has been in the form of a cash deposit. The purpose of
the over-collateralization is to provide a source of payment to investors in
the event of certain shortfalls in amounts due to investors. These amounts are
subject to increase up to a reserve level as specified in the related
securitization documents. Cash amounts on deposit are invested in certain
instruments as permitted by the related securitization documents. To the
extent amounts on deposit exceed specified levels, distributions are made to
the holders of the residual interest; and at the termination of the related
trust, any remaining amounts on deposit are distributed to the holders of the
residual interest. Losses resulting from defaults by borrowers on the payment
of principal or interest on the loans in a securitization will reduce the
over-collateralization to the extent that funds are available and may result
in a reduction in the value of the residual interest.
16
The Company has completed four securitizations, one during the fourth
quarter of 1996, one during the first quarter of 1997, one during the third
quarter of 1997 and one during the fourth quarter of 1997. The characteristics
and results of these securitizations are as follows:
1996-1 1997-1A 1997-1B
--------------------------- ------------------------ -------------------------------------
Type of loan
securitized..... Fixed Rate Liberator Adjustable Rate Fixed Rate Liberator
Series and Portfolio Series Liberator Series Series and Portfolio Series
Weighted average
coupon.......... 13.32% 9.45% 13.02%
Amount of
certificates
issued.......... $55.0 million $38.5 million $61.5 million
Pass-through
rate............ 6.95% 1 month LIBOR plus 21 bp 7.49%
Amount of loans
securitized(1).. $51.9 million $33.6 million $46.5 million
Credit
enhancement..... MBIA Insurance MBIA Insurance MBIA Insurance
Corporation Corporation Corporation
Initial funding
of reserve
accounts........ $1.6 million $941,000 $3.1 million
Required reserve
level to be
funded.......... 9.0% of original 5.5% of original 10.6% of original
outstanding balance of outstanding balance of outstanding balance of
loans loans loans
Gain on sale of
loans........... $4.3 million $5.7 million(2) $5.7 million(2)
Gain on sale of
loans as a
percent of loans
sold............ 8.29% 7.12%(2) 7.12%(2)
Estimated
prepayment
speed........... 17.0% H.E.P. (3) 25.0% C.P.R. (3)(4) 17.0% H.E.P.
Discount factor. 13.5% 13.5% 13.5%
Annual estimated
loss assumption. 1.5% 0.5% 0.5% of Liberator Series
loans; 1.5% of Portfolio Series loans
Servicing fees.. 0.50% for the first six 0.65% for the first 1.00% on fixed rate loans sold
months and 1.00% thereafter twelve months and 1.00%
thereafter
Rating.......... AAA/Aaa (S&P/Moody's) AAA/Aaa (S&P/Moody's) AAA/Aaa (S&P/Moody's)
1997-2 1997-3
-------------------------- --------------------------
Type of loan
securitized..... Fixed Rate Portfolio Fixed Rate
Series Portfolio Series
Weighted average
coupon.......... 13.64% 13.86%
Amount of
certificates
issued.......... $123.8 million $250.0 million
Pass-through
rate............ 7.12%(5) 7.62%
Amount of loans
securitized(1).. $100.9 million $187.4 million
Credit
enhancement..... Loan overcollateralization Loan overcollateralization
Initial funding
of reserve
accounts........ $1.3 million None
Required reserve
level to be
funded.......... 7.0% of original 6.3% of original
outstanding outstanding
balance of loans balance of loans
Gain on sale of
loans........... $9.4 million $10.7 million
Gain on sale of
loans as a
percent of loans
sold............ 9.33% 5.69%
Estimated
prepayment
speed........... 12.0% H.E.P. 14.0% H.E.P.
Discount factor. 13.5% 13.5%
Annual estimated
loss assumption. 2.0% 2.5%
Servicing fees.. 1.00% 1.00%
Rating.......... (6) (7)
- ----
(1) For 1996-1, an additional $3.1 million was funded during quarter ended
March 31, 1997 which created a gain on sale of loans of $267,000. For 1997-
1A, $4.9 million was funded in April 1997. For 1997-1B, $15.0 million was
funded in April 1997. All of these prefunded amounts were sold under the same
terms and conditions as set forth in the table above.
(2) The combined gain on sales of loans for 1997-1A and 1997-1B was $5.7
million. The percentages are based on the combined 1997-1A and 1997-1B
securitizations.
(3) Home Equity Prepayment ("H.E.P.") and Constant Prepayment Rate ("C.P.R.")
are methods of estimating prepayment speeds.
(4) This prepayment assumption was revised during the third quarter of 1997
resulting in an unrealized loss to the Company of $787,000.
(5) Weighted average rate.
(6) Each of the Senior Notes were rated AAA/Aaa (Fitch/Moody's), the Class M-1
Notes were rated AA/A2, the Class M-2 Notes were rated A/A2 and the Class
B notes were rated BBB/Baa3.
(7) Each of the Senior Notes were rated AAA/Aaa (Fitch/Moody's), the Class M-1
Notes were rated AA/Aa2, the Class M-2 Notes were rated A/A2 and the Class
B Notes were rated BBB/Baa2.
17
The following table presents the actual loss and prepayment history as of
December 31, 1997 for the securitizations conducted by the Company, except for
the 1997-3 securitization, which was completed during December 1997 and for
which meaningful data was not available as of that date:
1996-1 1997-1A 1997-1B 1997-2
------ ------- ------- ------
Lifetime actual loss percentage............... 0.75% -- % 0.43% 0.08%
Lifetime prepayments as a percentage of loans
securitized annualized....................... 14.45 43.72 8.18 5.53
The actual loss and prepayment history information provided above are not
necessarily indicative of loss and prepayment results that may be experienced
over the duration of the securitization.
Although the Company will continue to sell whole loans, it plans to sell a
significant portion of its loans in the future through securitizations.
Securitizations are expected to increase the Company's cash flow thereby
allowing the Company to increase its loan acquisition and origination volume.
Securitizations are also expected to reduce the risks associated with interest
rate fluctuations and provide access to longer term funding sources. The
Company currently intends to conduct regular securitizations either through
private placements or in public offerings. There can be no assurance that the
Company will be able to successfully implement this strategy in the future.
To the extent that loans are not sold in securitizations, whole loans will
be sold pursuant to purchase, sale and servicing agreements negotiated with
Loan Purchasers to purchase loans meeting the Company's underwriting criteria.
At December 31, 1997 there were outstanding commitments to deliver mortgage
loans in the amount of $62.6 million. The Company retains the servicing rights
on the majority of loans sold. However, the Company also sells loans on a
servicing released basis and may continue to subservice the loans for a fee
for a period of time. The Company sells loans to a number of different
investors with which it does business. As such, management believes that no
one relationship with a Loan Purchaser constitutes the predominant source of
sales for the Company and the Company does not rely on any specific entities
for sales of its loans.
COMMERCIAL REAL ESTATE AND MULTI-FAMILY REAL ESTATE LENDING
Consistent with its strategy of developing niche lending markets, the
Company has begun to increase its efforts to originate and purchase multi-
family and commercial real estate loans both in its primary market area and
throughout the United States. Specifically, the Company has begun to target
the market for borrowers seeking loans in the range of $50,000 to $1.5
million, subject to the Bank's loans-to-one borrower limit, currently $3.6
million, which are secured by multi-family properties or properties used for
commercial business purposes such as small office buildings, light industrial
or retail facilities. Since the Company has been able to acquire such loans at
a discount and expects to be able to continue to acquire such loans at a
discount or low premium, management believes that the origination and
subsequent sale of commercial and multi-family real estate loans will increase
the Company's cash flow. The Company has streamlined and standardized its
processing of commercial and multi-family real estate loans with a view to
sale in the secondary market or securitization. Since 1994, substantially all
commercial and multi-family real estate loans originated by the Company have
been sold in the secondary market without recourse. Although there can be no
assurances in this regard, management intends to gradually expand these
operations, thereby adding a source of revenue for the Company as well as
providing loans for future securitizations. There can be no assurances,
however, that any such securitization will be completed in the future.
Securitization of commercial and multi-family real estate loans is
significantly less standardized and streamlined than securitization of one- to
four-family residential mortgage loans.
Management believes that it has the infrastructure in place to safely
diversify its product line into this niche market. Two of the Company's senior
executive officers, Daniel L. Perl and Joseph R. L. Passerino, have combined
experience of approximately 27 years in commercial and multi-family real
estate lending and have developed substantial relationships with commercial
and multi-family real estate originators throughout the United States. In
addition, the Company works primarily with a select group of approximately 100
mortgage
18
brokers nationwide with specifically delineated credentials. The Company also
works with four correspondents and expects to expand that number of approved
correspondents to 15 in the near future. Commercial and multi-family real
estate loan correspondents in the Company's network must have a net worth of
at least $1.0 million, a two to three year history of funding and servicing
multi-family and commercial real estate loans and errors and omissions
insurance of at least $1.0 million. In addition, an on-site inspection of the
facilities of each of these correspondents is conducted by the Bank's Senior
Vice President. Where loans are originated by other than this pre-approved
group of correspondents, the Company will underwrite the loan. The Company
also works with a contract appraiser with nationwide experience in appraising
commercial and multi-family real estate loans who appraises or reviews the
appraisals on all such properties.
The Company's policy is to not make commercial or multi-family real estate
loans to borrowers who are in bankruptcy, foreclosure, have loans more than 30
days delinquent or other combinations of credit weaknesses unacceptable to the
Company. The Company targets high to medium credit quality borrowers. The
Company's underwriting procedures provide that commercial real estate loans
may be made in amounts up to 70% of the appraised value of the property
depending on the borrower's creditworthiness. Multi-family real estate loans
may be made in amounts up to 75% of the appraised value of the property.
Commercial real estate loans and multi-family real estate loans may be either
fixed rate or adjustable rate loans. These loans include prepayment penalties
if repaid within the first three to five years. When evaluating a commercial
or multi-family real estate loan, the Company considers the net operating
income of the property and the borrower's expertise, credit history and
personal cash flows. The Company has generally required that the properties
securing commercial real estate and multi-family real estate loans have debt
service coverage ratios (the ratio of net operating income to debt service) of
at least 120%. The largest commercial real estate loan in the Company's held
for sale portfolio at December 31, 1997 was $776,000 and is secured by a five-
unit office building in Venice, California while the largest multi-family real
estate loan in the Company's held for sale portfolio at December 31, 1997 was
$1.2 million secured by a 39 unit multi-family property located in Yucaipa,
California. At December 31, 1997 the Company's commercial real estate
portfolio was $16.8 million, or 5.36% of total gross loans, $10.7 million of
which were held for sale. The Company's multi-family real estate portfolio at
that same date was $10.7 million, or 3.41% of total gross loans, $8.6 million
of which were held for sale.
Repayment of multi-family and commercial real estate loans generally is
dependent, in large part, on sufficient income from the property to cover
operating expenses and debt service. The Company attempts to offset the risks
associated with multi-family and commercial real estate lending by primarily
lending to individuals who will be actively involved in the management of the
property and generally to individuals who have proven management experience,
and by making such loans with lower loan-to-value ratios than one- to four-
family loans.
HISTORICAL AND LOCAL LENDING PORTFOLIO
The Company's portfolio of loans held for investment (the "historical loan
portfolio") was primarily originated prior to 1994. Such loans generally
consist of adjustable rate one- to four-family loans and adjustable rate
multi-family and commercial real estate loans. The Company's gross historical
loan portfolio has decreased in size from $48.0 million at December 31, 1994
to $31.7 million at December 31, 1997. The largest loan in the Company's held
for investment portfolio at December 31, 1997 was $582,000 secured by a hotel
located in San Bernardino, California. At December 31, 1997, substantially all
of the Company's historical loan portfolio was secured by properties located
in California. For a discussion of loss experience on the historical and local
lending portfolio, see "--Lending Overview--Allowance for Loan Losses" and "--
Non-Accrual and Past Due Loans."
CONSUMER AND OTHER LENDING
The Company's consumer and other loans generally consist of overdraft lines
of credit, commercial business loans and unsecured personal loans. At December
31, 1997, the Company's consumer and other loan portfolio was $6.9 million or
2.21% of total gross loans. Of this amount, $6.3 million consisted of
unsecured home improvement loans purchased from a single originator in March
1997. These loans were purchased as part of management's evaluation of new
product lines for possible future growth.
19
LOAN SERVICING
Through December 31, 1993, the Company's loan servicing portfolio consisted
solely of loans originated directly by the Company and retained for investment
or sold, primarily as participations, to others. Commencing in January of 1994
through June of 1995, the Company purchased mortgage servicing rights on FNMA
and FHLMC loans in order to expand the size of its loan servicing department
and to further develop its loan servicing capabilities. The entire FHLMC
servicing portfolio was resold in December 1995. Effective July 1, 1995, with
the adoption of Statement of Financial Accounting Standards ("SFAS") No. 122,
which required the Company to capitalize the value of originated mortgage
servicing rights, the Company began to retain substantially all servicing
rights on loans sold. In addition, the Company intends to retain the servicing
rights to the loans it securitizes. The pooling and servicing agreements
related to the securitizations completed to date contain provisions with
respect to the maximum permitted loan delinquency rates and loan default rates
which, if exceeded, would allow the termination of the Company's right to
service the related loans. Servicing rights were $8.5 million at December 31,
1997. At December 31, 1997, the Company serviced $832.4 million of loans of
which $536.7 million were serviced for others. There can be no assurance that
the Company's estimates used to determine the fair value of mortgage servicing
rights will remain appropriate for the life of the loans sold or the
securitizations. If actual loan prepayments or delinquencies exceed the
Company's estimates, the carrying value of the Company's mortgage servicing
rights may have to be written down through a charge against earnings. The
Company cannot write up such assets to reflect slower than expected
prepayments, although slower prepayments may increase future earnings as the
Company will receive cash flows in excess of those anticipated. Fluctuations
in interest rates may also result in a write-down of the Company's mortgage
servicing rights in subsequent periods. During 1997 the Company recorded a
write-down of $1.3 million on mortgage servicing rights as a result of higher
than anticipated prepayment speeds on adjustable rate mortgage loans.
The loan servicing and collections department has increased in size from
four persons at December 31, 1994 to 28 persons at December 31, 1997. Within
this department, personnel have experience in both sub-prime lending and also
in managing the Company's non-performing loans in its historical local lending
portfolio. This experience was gained in part during the economic downturn in
Southern California and resulted in a low loss experience for the Company. See
"--Lending Overview--Allowance for Loan Losses." The head of the servicing
department has more than 24 years of experience in loan servicing and
collections, including responsibility for a $10.0 billion portfolio of
approximately 255,000 loans and a staff of 70 people. During the first quarter
of 1998, substantial space in Riverside, California has been leased for the
loan servicing and collections operations. The Company has enhanced its
telephonic systems by purchasing a power dialing system, which became
operational in the first quarter of 1998. In addition, the Company intends to
enhance its computer systems by adding document imaging, which creates an
image of each document in a loan file accessible through the Company's wide
area network. This system is expected to become operational in the second
quarter of 1998.
The Company's loan servicing activities include (i) the collection and
remittance of mortgage loan payments, (ii) accounting for principal and
interest and other collections and expenses, (iii) holding and disbursing
escrow or impounding funds for real estate taxes and insurance premiums, (iv)
inspecting properties when appropriate, (v) contacting delinquent borrowers,
and (vi) acting as fiduciary in foreclosing and disposing of collateral
properties. The Company receives a servicing fee for performing these services
for others.
While most of the Company's servicing portfolio is generated through its
origination and purchase activities, when economically attractive, the Company
has, from time to time, made bulk purchases of mortgage servicing rights from
financial institutions. The Company does not intend to make significant bulk
purchases of servicing rights in the near future but may do so depending on
market opportunities. The mortgage loans underlying the servicing rights
retained by the Company have been historically underwritten by the Company.
These servicing rights were either originated by mortgage brokers or purchased
through various programs from correspondents or junior correspondents. The
costs to acquire servicing are based on the present value of the estimated
future servicing revenues, net of the expected servicing expenses, for each
acquisition. Major factors impacting the value of servicing rights include
contractual service fee rates, projected mortgage prepayment speed, projected
20
delinquencies and foreclosures, projected escrow, agency and fiduciary funds
to be held in connection with such servicing and the projected benefit to be
realized from such funds.
In addition to weekly loan delinquency meetings which are attended by
members of senior management, the loan committee of the Board of Directors
generally performs a monthly review of all delinquent loans 90 days or more
past due. In addition, management reviews on an ongoing basis all delinquent
loans. The procedures taken by the Company with respect to delinquencies vary
depending on the nature of the loan and period of delinquency. When a borrower
fails to make a required payment on a loan, the Company takes a number of
steps to have the borrower cure the delinquency and restore the loan to
current status. The Company generally sends the borrower a written notice of
non-payment within ten days after the loan is first past due. In the event
payment is not then received, additional letters and phone calls generally are
made. If the loan is still not brought current, the Company generally sends a
notice of the intent to foreclose 25 days after the loan is first past due. If
the borrower does not cure the delinquency and it becomes necessary for the
Company to take legal action, which typically occurs after a loan is
delinquent at least 30 days or more, the Company will commence foreclosure
proceedings against any real property that secures the loan. If a loan remains
delinquent on the 45th day, a property inspection will be made to verify
occupancy, determine the condition of the property and as an attempt to
contact the borrower in person. If a foreclosure action is instituted and the
loan is not brought current, paid in full, or refinanced before the
foreclosure sale, the real property securing the loan generally is sold at
foreclosure. The Company's procedures for repossession and sale of consumer
collateral are subject to various requirements under state consumer protection
laws.
Regulation and practices in the United States regarding the liquidation of
properties (e.g., foreclosure) and the rights of the mortgagor in default vary
greatly from state to state. Loans originated or purchased by the Company are
secured by mortgages, deeds of trust, trust deeds, security deeds or deeds to
secure debt, depending upon the prevailing practice in the state in which the
property securing the loan is located. Depending on local law, foreclosure is
effected by judicial action and/or non-judicial sale, and is subject to
various notice and filing requirements. If foreclosure is effected by judicial
action, the foreclosure proceedings may take several months.
In general, the borrower, or any person having a junior encumbrance on the
real estate, may cure a monetary default by paying the entire amount in
arrears plus other designated costs and expenses incurred in enforcing the
obligation during a statutorily prescribed reinstatement period. Generally,
state law controls the amount of foreclosure expenses and costs, including
attorneys' fees, which may be recovered by a lender.
There are a number of restrictions that may limit the Company's ability to
foreclose on a property. A lender may not foreclose on the property securing a
junior mortgage loan unless it forecloses subject to each senior mortgage, in
which case the junior lender or purchaser at such a foreclosure sale will take
title to the property subject to the lien securing the amount due on the
senior mortgage. Moreover, if a borrower has filed for bankruptcy protection,
a lender may be stayed from exercising its foreclosure rights. Also, certain
states provide a homestead exemption that may restrict the ability of a lender
to foreclose on residential property.
21
Credit Quality of Servicing Portfolio. The following table illustrates the
Company's delinquency and default experience with respect to its loan
servicing portfolio:
AT DECEMBER 31,
-------------------------------------------------------------------------------------------------------------
1997 1996 1995
--------------------------------------- --------------------------------------- -----------------------------
NUMBER OF % OF % OF NUMBER OF % OF % OF NUMBER OF % OF
LOANS/ LOANS PRINCIPAL SERVICING LOANS/ LOANS PRINCIPAL SERVICING LOANS/ LOANS PRINCIPAL
PROPERTIES SERVICED BALANCE PORTFOLIO PROPERTIES SERVICED BALANCE PORTFOLIO PROPERTIES SERVICED BALANCE
---------- -------- --------- --------- ---------- -------- --------- --------- ---------- -------- ---------
(DOLLARS IN THOUSANDS)
Delinquency
percentage(1)(2)
30-59 days...... 282 1.46% $ 9,356 1.12% 10 0.26% $ 860 0.36% 22 0.74% $ 2,118
60-89 days...... 148 0.76 3,664 0.44 -- -- -- -- 9 0.30 482
90 days and
over............ 333 1.72 3,128 0.38 3 0.08 143 0.06 10 0.33 762
------ ---- -------- ---- ----- ---- -------- ---- ----- ---- --------
Total
delinquency..... 763 3.94% $ 16,148 1.94% 13 0.34% $ 1,003 0.42% 41 1.37% $ 3,362
====== ==== ======== ==== ===== ==== ======== ==== ===== ==== ========
Default
percentage(3)
Foreclosure..... 52 0.27% $ 6,269 0.75% 56 1.48% $ 6,279 2.64% 7 0.23% $ 793
Bankruptcy...... 49 0.25 2,814 0.34 9 0.24 778 0.33 2 0.07 288
Real estate
owned(4)........ 33 0.17 3,509 0.42 9 0.24 1,197 0.50 8 0.27 1,221
------ ---- -------- ---- ----- ---- -------- ---- ----- ---- --------
Total default... 134 0.69% $ 12,592 1.51% 74 1.96% $ 8,254 3.47% 17 0.57% $ 2,302
====== ==== ======== ==== ===== ==== ======== ==== ===== ==== ========
Total servicing
portfolio........ 19,359 $832,393 3,781 $237,958 2,986 $253,711
====== ======== ===== ======== ===== ========
% OF
SERVICING
PORTFOLIO
---------
Delinquency
percentage(1)(2)
30-59 days...... 0.83%
60-89 days...... 0.19
90 days and
over............ 0.30
---------
Total
delinquency..... 1.32%
=========
Default
percentage(3)
Foreclosure..... 0.32%
Bankruptcy...... 0.11
Real estate
owned(4)........ 0.48
---------
Total default... 0.91%
=========
Total servicing
portfolio........
- ----
(1) The delinquency percentage represents the number and outstanding principal
balance of loans for which payments are contractually past due, exclusive
of loans in foreclosure, bankruptcy, real estate owned or forbearance.
(2) The past due period is based on the actual number of days that a payment
is contractually past due. A loan as to which a monthly payment was due
60-89 days prior to the reporting period is considered 60-89 days past
due, etc.
(3) The default percentage represents the number and outstanding principal
balance of loans in foreclosure, bankruptcy or real estate owned.
(4) An "REO Property" is a property acquired and held as a result of
foreclosure or deed in lieu of foreclosure.
22
LENDING OVERVIEW
Loan Portfolio Composition. At December 31, 1997, the Company's gross loans
outstanding totaled $312.5 million, of which $280.9 million, or 89.9%, were
held for sale and $31.7 million, or 10.1%, were held for investment. The types
of loans that the Company may originate are subject to federal and state law
and regulations. Interest rates charged by the Company on loans are affected
by the demand for such loans and the supply of money available for lending
purposes and the rates offered by competitors. These factors are, in turn,
affected by, among other things, economic conditions, monetary policies of the
federal government, including the Federal Reserve Board, and legislative tax
policies.
The following table sets forth the composition of the Company's loan
portfolio in dollar amounts and as a percentage of the portfolio at the dates
indicated.
AT DECEMBER 31,
---------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
----------------- ---------------- ---------------- --------------- ---------------
PERCENT PERCENT PERCENT PERCENT PERCENT
OF OF OF OF OF
AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL AMOUNT TOTAL
-------- ------- ------- ------- ------- ------- ------- ------- ------- -------
(DOLLARS IN THOUSANDS)
Real estate(1):
Residential:
One- to four-family.... $278,205 89.02% $54,275 78.67% $54,007 84.04% $53,755 82.62% $55,841 83.01%
Multi-family........... 10,653 3.41 4,752 6.89 2,412 3.75 2,685 4.12 2,296 3.41
Commercial............. 16,763 5.36 9,659 14.00 7,522 11.71 8,131 12.50 8,389 12.47
Other loans:
Loans secured by
deposit accounts...... 165 0.05 177 0.25 186 0.29 213 0.33 396 0.59
Unsecured commercial
loans................. 63 0.02 67 0.10 70 0.11 197 0.30 190 0.28
Unsecured consumer
loans................. 6,675 2.14 65 0.09 63 0.10 84 0.13 162 0.24
-------- ------ ------- ------ ------- ------ ------- ------ ------- ------
Total gross loans.... 312,524 100.00% 68,995 100.00% 64,260 100.00% 65,065 100.00% 67,274 100.00%
-------- ====== ------- ====== ------- ====== ------- ====== ------- ======
Less (plus):
Deferred loan
origination (costs)
fees and (premiums)
discounts............. (8,393) (543) (298) 56 109
Allowance for estimated
loan losses........... 2,573 1,625 1,177 832 436
-------- ------- ------- ------- -------
Loans receivable,
net................. $318,344 $67,913 $63,381 $64,177 $66,729
======== ======= ======= ======= =======
- --------
(1) Includes second trust deeds.
23
Loan Maturity. The following table shows the contractual maturity of the
Bank's gross loans at December 31, 1997. There were $280.9 million of loans
held for sale, gross, at December 31, 1997. The table does not reflect
prepayment assumptions.
AT DECEMBER 31, 1997
----------------------------------------------
ONE- TO TOTAL
FOUR- MULTI- OTHER LOANS
FAMILY FAMILY COMMERCIAL LOANS RECEIVABLE
-------- ------- ---------- ------ ----------
(DOLLARS IN THOUSANDS)
Amounts due:
One year or less............... $ 17,675 $ -- $ 310 $ 248 $ 18,233
After one year:
More than one year to three
years........................ 1,025 61 1,359 455 2,900
More than three years to five
years........................ 475 503 4,674 2,496 8,148
More than five years to 10
years........................ 1,388 2,383 3,166 3,577 10,514
More than 10 years to 20
years........................ 63,566 2,696 1,063 -- 67,325
More than 20 years............ 194,076 5,010 6,191 127 205,404
-------- ------- ------- ------ --------
Total amount due............ 278,205 10,653 16,763 6,903 312,524
-------- ------- ------- ------ --------
Less (plus):
Unamortized discounts
(premiums), net.............. (6,813) -- -- -- (6,813)
Deferred loan origination fees
(costs)...................... (1,849) 121 148 -- (1,580)
Allowance for estimated loan
losses....................... 1,206 66 150 1,151 2,573
-------- ------- ------- ------ --------
Total loans, net............ 285,661 10,466 16,465 5,752 318,344
-------- ------- ------- ------ --------
Loans held for sale, net...... 264,954 8,513 10,601 5,200 289,268
-------- ------- ------- ------ --------
Loans held for investment,
net.......................... $ 20,707 $ 1,953 $ 5,864 $ 552 $ 29,076
======== ======= ======= ====== ========
The following table sets forth at December 31, 1997, the dollar amount of
gross loans receivable contractually due after December 31, 1998, and whether
such loans have fixed interest rates or adjustable interest rates. The
Company's adjustable-rate mortgage loans require that any payment adjustment
resulting from a change in the interest rate be made to both the interest and
payment in order to result in full amortization of the loan by the end of the
loan term, and thus, do not permit negative amortization.
DUE AFTER DECEMBER 31, 1998
----------------------------
FIXED ADJUSTABLE TOTAL
-------- ---------- --------
(DOLLARS IN THOUSANDS)
Real estate loans:
Residential:
One- to four-family......................... $107,354 $153,176 $260,530
Multi-family................................ 9,280 1,373 10,653
Commercial................................... 6,196 10,257 16,453
Other loans.................................. 6,655 -- 6,655
-------- -------- --------
Total gross loans receivable.............. $129,485 $164,806 $294,291
======== ======== ========
24
The following tables set forth the Company's loan originations, purchases,
sales and principal repayments for the periods indicated:
FOR THE YEAR ENDED
DECEMBER 31,
--------------------------
1997 1996 1995
-------- -------- --------
(DOLLARS IN THOUSANDS)
Gross loans(1):
Beginning balance............................... $ 68,995 $ 64,260 $ 65,065
Loans originated:
One- to four-family(2)........................ 341,294 100,745 38,259
Multi-family.................................. 18,019 2,976 --
Commercial.................................... 13,631 7,172 --
Other loans................................... 837 126 358
-------- -------- --------
Total loans originated...................... 373,781 111,019 38,617
Loans purchased(3)............................. 399,326 111,534 96,155
-------- -------- --------
Total loans originated and purchased.......... 773,107 222,553 134,772
-------- -------- --------
Total....................................... 842,102 286,813 199,837
Less:
Principal repayments........................... 17,597 9,184 6,719
Sales of loans................................. 94,379 154,620 126,875
Securitizations of loans....................... 415,368 51,944 --
Transfer to REO................................ 2,234 2,070 1,983
-------- -------- --------
Total loans................................. 312,524 68,995 64,260
Loans held for sale............................ 280,859 30,454 21,397
-------- -------- --------
Ending balance loans held for investment........ $ 31,665 $ 38,541 $ 42,863
======== ======== ========
- --------
(1) Gross loans includes loans held for investment and loans held for sale.
(2) Includes second trust deeds.
(3) Loans purchased consist predominantly of one- to four-family residential
Liberator Series and Portfolio Series loans.
Delinquencies and Classified Assets. Federal regulations and the Bank's
Classification of Assets Policy require that the Bank utilize an internal
asset classification system as a means of reporting problem and potential
problem assets. The Bank has incorporated the OTS internal asset
classifications as a part of its credit monitoring system. The Bank currently
classifies problem and potential problem assets as "Substandard," "Doubtful"
or "Loss" assets. An asset is considered "Substandard" if it is inadequately
protected by the current net worth and paying capacity of the obligor or of
the collateral pledged, if any. "Substandard" assets include those
characterized by the "distinct possibility" that the insured institution will
sustain "some loss" if the deficiencies are not corrected. Assets classified
as "Doubtful" have all of the weaknesses inherent in those classified
"Substandard" with the added characteristic that the weaknesses present make
"collection or liquidation in full," on the basis of currently existing facts,
conditions, and values, "highly questionable and improbable." Assets
classified as "Loss" are those considered "uncollectible" and of such little
value that their continuance as assets without the establishment of a specific
loss allowance is not warranted. Assets which do not currently expose the
insured institution to sufficient risk to warrant classification in one of the
aforementioned categories but possess weaknesses are required to be designated
"Special Mention."
When an insured institution classifies one or more assets, or portions
thereof, as Substandard or Doubtful, under current OTS policy the Bank is
required to consider establishing a general valuation allowance in an amount
deemed prudent by management. The general valuation allowance, which is a
regulatory term, represents a loss allowance which has been established to
recognize the inherent credit risk associated with lending and investing
25
activities, but which, unlike specific allowances, has not been allocated to
particular problem assets. When an insured institution classifies one or more
assets, or portions thereof, as "Loss," it is required either to establish a
specific allowance for losses equal to 100% of the amount of the asset so
classified or to charge off such amount.
A savings institution's determination as to the classification of its assets
and the amount of its valuation allowances is subject to review by the OTS
which can order the establishment of additional general or specific loss
allowances. The OTS, in conjunction with the other federal banking agencies,
adopted an interagency policy statement on the allowance for loan and lease
losses. The policy statement provides guidance for financial institutions on
both the responsibilities of management for the assessment and establishment
of adequate allowances and guidance for banking agency examiners to use in
determining the adequacy of general valuation allowances. Generally, the
policy statement recommends that institutions have effective systems and
controls to identify, monitor and address asset quality problems; that
management has analyzed all significant factors that affect the collectibility
of the portfolio in a reasonable manner; and that management has established
acceptable allowance evaluation processes that meet the objectives set forth
in the policy statement. As a result of the declines in local and regional
real estate market values and the significant losses experienced by many
financial institutions in prior years, there has been a greater level of
scrutiny by regulatory authorities of the loan portfolios of financial
institutions undertaken as part of the examination of institutions by the OTS
and the FDIC. While the Bank believes that it has established an adequate
allowance for estimated loan losses, there can be no assurance that
regulators, in reviewing the Bank's loan portfolio, will not request the Bank
to materially increase at that time its allowance for estimated loan losses,
thereby negatively affecting the Bank's financial condition and earnings at
that time. Although management believes that an adequate allowance for
estimated loan losses has been established, actual losses are dependent upon
future events and, as such, further additions to the level of allowances for
estimated loan losses may become necessary.
The Bank's Internal Asset Review Committee reviews and classifies the Bank's
assets quarterly and reports the results of its review to the Board of
Directors. The Bank classifies assets in accordance with the management
guidelines described above. REO is classified as Substandard. The following
table sets forth information concerning loans, REO and total assets classified
as substandard at December 31, 1997. At December 31, 1997 the Bank had $4.0
million of assets classified as Special Mention, $6.8 million of assets
classified as Substandard, $560,000 of assets classified as Doubtful and
$171,000 of assets classified as Loss. As of December 31, 1997, assets
classified as Special Mention include 61 loans totaling $4.0 million secured
by one- to four-family residential properties. At December 31, 1997, the
largest loan classified as Special Mention had a loan balance of $226,000 and
is secured by a one- to four-family residential property located in Encinitas,
California. As set forth below, as of December 31, 1997, assets classified as
Substandard, Doubtful and Loss include 334 loans totaling $5.9 million.
AT DECEMBER 31, 1997
---------------------------------------------------------------------------------------
TOTAL SUBSTANDARD, DOUBTFUL
LOANS REO AND LOSS ASSETS
---------------------------- ----------------------------- ----------------------------
GROSS NET NUMBER OF GROSS NET NUMBER OF GROSS NET NUMBER OF
BALANCE BALANCE(1) LOANS BALANCE BALANCE(1) PROPERTIES BALANCE BALANCE(1) ASSETS
------- ---------- --------- ------- ---------- ---------- ------- ---------- ---------
(DOLLARS IN THOUSANDS)
Residential:
One- to four-family.... $4,831 $4,660 45 $1,471 $1,471 16 $6,302 $6,131 61
Multi-family........... -- -- -- 48 48 1 48 48 1
Commercial.............. 131 131 1 -- -- -- 131 131 1
Other loans............. 1,084 1,084 288 -- -- -- 1,084 1,084 288
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Total loans........... $6,046 $5,875 334 $1,519 $1,519 17 $7,565 $7,394 351
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