ITEM 1. BUSINESS
GENERAL
First Investors Financial Services Group, Inc. (the "Company") is a consumer finance company engaged in both the purchase of receivables originated by franchised automobile dealers and originating loans directly to consumers in connection with the sale of new and late-model used vehicles. The Company specializes in lending to consumers with impaired credit profiles. The Company does not utilize off-balance sheet securitization to finance its Receivables Held for Investment. As of April 30, 2000, the Company had Receivables Held for Investment in the aggregate principal amount of $231,696,539, having an effective yield of 16.0% and a net interest spread to the Company of 9.3% (net of cost of funds and other carrying costs).
HISTORY
The Company was organized in 1989 by Tommy A. Moore, Jr. and Walter A. Stockard to conduct an automobile finance business, with Mr. Moore providing the operating expertise and Mr. Stockard and members of his family furnishing the initial financial support. During the first three years of the Company's existence, its operations consisted primarily of purchasing and pooling receivables for resale to financial institutions and others. In March 1992, the Company obtained additional capital from a group of private investors and decided to expand its operations and reorient its business. Instead of acquiring receivables for resale, the Company adopted a strategy of purchasing receivables for retention.
On October 2, 1998, the Company completed the acquisition of First Investors Servicing Corporation ("FISC") formally known as Auto Lenders Acceptance Corporation from Fortis, Inc. Headquartered in Atlanta, Georgia, FISC was engaged in essentially the same business as the Company and additionally performs servicing and collection activities on a portfolio of receivables acquired for investment as well as on a portfolio of receivables acquired and sold pursuant to two asset securitizations. As a result of the acquisition, the Company increased the total dollar value on its balance sheet of receivables, acquired an interest in certain trust certificates related to the asset securitizations and acquired certain servicing rights along with furniture, fixtures, equipment and technology to perform the servicing and collection functions for the portfolio of receivables under management.
INDUSTRY
The automobile finance industry is the second largest consumer finance market in the United States. Most automobile financing is provided by captive finance subsidiaries of major automobile manufacturers, banks, thrifts, credit unions and independent finance companies such as the Company. The overall industry is generally segmented according to the type of vehicle sold (new vs. used), the nature of the dealership (franchised vs. independent) and the credit characteristics of the borrower (prime vs. non-prime). The non-prime market is comprised of individuals who are relatively high credit risks and who have limited access to traditional financing sources, generally due to unfavorable past credit experience, low income or limited financial resources and/or the absence or limited extent of prior credit history.
ORIGINATING DEALER BASE
GENERAL. The Company primarily purchases receivables from the new and used car departments of dealers operating under franchises from the major automobile manufacturers. The Company does not generally do business with "independent" dealers who operate used car lots with no manufacturer affiliation. No dealer or group of dealers (who are affiliated with each other through common ownership) accounted for more than 5% of the receivables owned by the Company at
April 30, 2000, and no dealer or group of related dealers originated more than 5% of the receivables held by the Company at that date. The volume and frequency of receivable purchases from particular dealers vary widely with the size of the dealerships as well as market and competitive factors in the various dealership locations.
LOCATION OF DEALERS. Approximately 17% of the dealers with whom the Company has agreements are located in Texas, where the Company has operated since 1989. The Company commenced operations in Utah and Idaho in 1992 and has since expanded its dealership base into 23 additional states.
The following table summarizes, with respect to each state in which the Company operates, the date operations commenced, the number of dealers with whom the Company had agreements in such state as of April 30, 2000, and the number of receivables (and percentage of total receivables), outstanding as of these dates which were originated by the Company from dealers in such state during the last two fiscal years:
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(1) Includes dealers located in California, Connecticut, Florida, Iowa, Idaho, Illinois, Indiana, Kentucky, Nebraska, New Jersey and South Carolina.
MARKETING REPRESENTATIVES. The Company utilizes a system of regional marketing representatives to recruit, enroll and train new dealers as well as to maintain relationships with the Company's existing dealers. The representatives are full-time employees who reside in the region for which they are responsible.
In addition to soliciting and enrolling new dealers, the regional representatives assist new dealers in assimilating the Company's system of credit application submission, review, acceptance and funding, as well as dealing with routine dealer relations on a daily basis. The role of the regional representatives is generally limited to marketing the Company's core finance programs and maintaining relationships with the Company's originating dealer base. The representatives do not enter into or modify dealer agreements on behalf of the Company, do not participate in credit evaluation or loan funding decisions and do not handle funds belonging to the Company or its dealers. Each representative reports to, and is supervised by, the Company's marketing manager in Houston.
In 1997, the Company established a telemarketing department to supplement the efforts of its marketing representatives in the field. The telemarketing staff (Dealer Sales Representatives) are located in Houston and are primarily responsible for (i) new loan volume in rural areas or states in which the Company cannot justify a field marketing representative, (ii) customer service support for marketing representatives who typically cover large geographic areas, and (iii) customer support for the bank alliance partners (see "Financing Programs").
It has been the policy of the Company to avoid the establishment of branch offices because it believes that the expenses and administrative burden of such offices are generally unjustified. Moreover, in view of the availability of modern data transmission technology, the Company has concluded that the critical functions of credit evaluation and loan origination are best performed and controlled on a centralized basis from its Houston facility. Accordingly, as the marketing representative system has operated satisfactorily, the Company does not plan to create branch offices in the future.
FINANCING PROGRAMS
The Company originates loans from three sources: (i) dealer indirect (the "core program"), (ii) alliance referrals and (iii) consumer direct utilizing the Internet and direct marketing. The core program generates approximately 85% of the Company's current volume and consists of loans purchased directly from dealerships in states not covered under the alliance agreement. Alliance referrals represent approximately 7% of current originations and consist of indirect loan applications which are declined by the Company's alliance partner, National City Bank, N.A. and forwarded to the Company for consideration. Consumer direct originations involve applications for credit obtained through either direct marketing efforts or through the Company's Internet initiative from consumers who are seeking to acquire a vehicle or refinance an existing automobile loan.
Credit applications generated by each of the above sources are forwarded to the Company's centralized credit department in Houston with decisions made based on the Company's standard underwriting guidelines and credit scoring model. The internal credit decision and acceptance process is essentially the same regardless of the origination source. Third party originators have no credit approval authority and are subject to individual contracts which specify the obligations of the parties. Essentially all of the Company's receivables are acquired on a non-recourse basis.
In addition to purchasing receivables from dealers under the core program as they are originated or making loans directly to consumers, the Company has also acquired seasoned receivables in bulk portfolio acquisitions or from other third party originators and may continue to do so from time to time.
The Company had active dealership agreements with 2,007 dealers at April 30, 2000. These are non-exclusive agreements terminable at any time by either party and they require no specific volume levels. The agreements with the core program dealers contain customary representations and warranties concerning title to the receivables sold, validity of the liens on the underlying vehicles, compliance with applicable laws and related matters. Although the dealers are obligated to repurchase receivables which do not conform to these warranties, under the core program the dealers do not guarantee collectability or obligate themselves to repurchase receivables solely because of payment default. The receivables are purchased at par or at prices that may reflect a discount or premium depending on the annual percentage rates of particular receivables and the Company's assessment of relative credit risk. The pricing and credit terms upon which the Company agrees to acquire receivables is governed by the Company's credit policy and a credit score generated by the Company's proprietary, empirical based scoring model.
CREDIT EVALUATION
GENERAL. In connection with the origination of a receivable for purchase by the Company, the Company follows systematic procedures designed to eliminate unacceptable risks. This involves a
three-step process whereby (i) the creditworthiness of the borrower and the terms of the proposed transaction are evaluated and either approved, declined or modified by the Company's credit verification department, (ii) the loan documentation and collateralization is reviewed by the Company's funding department, and (iii) additional collateral verification procedures and customer interviews are conducted by the Company. During the course of this process, the Company's credit verification and funding personnel coordinate closely with the finance and insurance departments of the dealers tendering receivables or with individuals to whom the Company lends directly. The Company has developed various financing programs under which it approves loans that vary in pricing and loan terms depending on the relative credit risk determined for each loan. Credit or default risk is evaluated by the Company's loan officers in conjunction with a proprietary, empirical based credit scoring model developed based on the Company's 11 year database of non-prime lending results.
COLLATERAL VERIFICATION. As a condition to the purchase of each receivable originated by the Company, the Company performs an individual audit evaluation consisting of personal telephonic interviews with each vehicle purchaser to verify the details of the credit application and to confirm that the material terms of the sale conform to the purchaser's understanding of the transaction. The Company will purchase a receivable under its core program only after receipt and review of a satisfactory audit report.
SERVICING
The Company believes that competent, attentive and efficient loan servicing is as important as sound credit evaluation for purposes of assuring the integrity of a receivable.
Since its inception in 1989 until July, 1999, the Company had a servicing relationship with General Electric Capital Corporation ("GECC") an affiliate of General Electric Corporation. The division of GECC which serviced the Company's receivables operates primarily as a servicer of automobile installment loans and is one of the largest such servicers in the United States. The Company's relationship with GECC was governed by a servicing agreement entered into in October 1992 although the Company had done business with GECC under previous agreements since 1989. Under the agreement, GECC was responsible for all aspects of loan servicing and collections with the exception of the disposition of repossessed vehicles, which was the responsibility of the Company.
Servicing fees paid by the Company to GECC represented a variable cost that increased in proportion to the volume of receivables carried. During its two fiscal years ended April 30, 2000, the Company incurred servicing and related fees in the amount of $2,350,741 and $434,572, respectively.
In July 1999, the Company elected to terminate the servicing agreement with GECC in connection with the transfer of the servicing and collection activities on the receivables to the Company's internal servicing and collection platform. Under a separate agreement, GECC will continue to perform certain functions such as forwarding to the Company any payments, information, documents and other information received related to the Company's accounts.
PORTFOLIO CHARACTERISTICS
GENERAL. In selecting receivables for inclusion in its portfolio, the Company seeks to identify potential borrowers whom it regards as creditworthy despite credit histories that limit their access to traditional sources of consumer credit. In addition to personal credit qualifications, the Company attempts to assure that the characteristics of the automobile sold and the terms of the sale are likely to result in a consistently performing receivable. These considerations include amount financed, monthly payments required, duration of the loan, age of the automobile, mileage on the automobile and other factors.
CUSTOMER PROFILE. The Company's primary goal in credit evaluation is to make loans to customers having stable personal situations, predictable incomes and the ability and inclination to perform their obligations in a timely manner. Many of the Company's customers are persons who
have experienced credit difficulties in the past by reason of illness, divorce, job loss, reduction in pay or other adversities, but who appear to the Company to have the capability and commitment to meet their obligations. Through its credit evaluation process, the Company seeks to distinguish these persons from those applicants who are chronically poor credit risks. Certain information concerning the Company's obligors for the past two fiscal years (based on credit information compiled at the time of the loan origination) is set forth in the following table:
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(1) Includes military personnel and persons residing with relatives.
PORTFOLIO PROFILE. In order to manage the risks associated with the relatively high yields available in the non prime market, the Company endeavors to maintain a receivables portfolio having characteristics that, in its judgment, reflect an optimal balance between achievable yield and acceptable risk. The following table sets forth certain information concerning the composition of the Company's portfolio as of the end of the past two fiscal years:
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(1) Calculated on the basis of number of receivables outstanding as of the date indicated.
(2) Because the actual life of many receivables will differ from the stated term by reason of prepayments and defaults, data reflecting the average stated term of receivables included in a portfolio will not correspond with actual average life.
FINANCING ARRANGEMENTS
GENERAL. At the time the Company acquires receivables, they are financed by transferring them, at an amount equal to the outstanding principal balance, to one of two wholly-owned special-purpose
financing subsidiaries, F.I.R.C, Inc. ("FIRC") or First Investors Auto Capital Corporation ("FIACC"). FIRC maintains a $65 million revolving bank facility with Bank of America, First Union National Bank and Wells Fargo Bank (Texas), (the "FIRC credit facility"). FIACC maintains a $25 million commercial paper warehouse facility with Variable Funding Capital Corporation ("VFCC"), a commercial paper conduit administered by First Union National Bank (the "FIACC commercial paper facility"). Together, these two facilities provide warehouse financing for the initial purchase of receivables. The Company selects the warehouse facility to be utilized for a specific funding based primarily upon the remaining availability under the respective facilities. In addition, a wholly-owned special-purpose financing subsidiary, First Investors Auto Receivables Corporation ("FIARC") has a $135 million conduit finance facility with Enterprise Funding Corporation ("Enterprise"), a commercial paper conduit administered by Bank of America, (the "FIARC commercial paper facility") which allows the Company to refinance borrowings under the FIRC credit facility in order to maintain sufficient capacity to acquire new receivables. Together, these warehouse credit facilities provide $225 million in financing capacity to fund the purchase and long-term financing of receivables. When necessary, the Company will transfer receivables from the warehouse credit facilities and issue additional term notes.
FIRC CREDIT FACILITY. As designated receivables are originated by the Company and transferred to FIRC, they are immediately pledged to a commercial bank that serves as the collateral agent for the bank lenders. The FIRC credit facility has a borrowing base that, subject to certain adjustments, permits FIRC to draw advances up to the outstanding principal balance of qualified receivables but not in excess of the present facility limit of $65 million. Uninsured losses on receivables, or certain other events adversely affecting the collectability of receivables, can result in their ineligibility for inclusion in the borrowing base, and in the event that the Company's advances exceed the borrowing base the Company must prepay the credit line until the imbalance is corrected.
Under the FIRC credit facility the Company has three interest rate options: (i) the Bank of America prime rate in effect from time to time, (ii) a rate equal to .5% above the "LIBOR" rate (the average U.S. dollar deposit rate prevailing from time to time in the London interbank market) for selected advance terms, or (iii) any other short-term fixed interest rate agreed upon by the Company and the lenders. The Company is also required to pay periodic facility fees as well as an annual agency fee, and to maintain certain collection reserves. This facility is secured by the pledge of all of the receivables financed, as well as the related escrow accounts and all of the capital stock of FIRC. Collections of principal and interest on the Company's receivables are remitted directly to the collateral agent for application to the payment of interest due on the credit facility and certain other charges, with the balance of collections then being distributed to the Company.
The current term of the FIRC credit facility expires on September 30, 2000, at which time the outstanding balance will be payable in full, subject to certain notification provisions allowing the Company a period of six months in order to endeavor to refinance the facility in the event of termination. The term of this facility has been extended on ten occasions since its inception in October, 1992. The Company is currently in discussions with its lenders regarding the renewal and extension of this facility. Management considers its relationship with the lenders under this facility to be satisfactory and has no reason to believe that this credit facility will not be renewed. If the facility was not renewed however, or if material changes were made to its terms and conditions, it could have a material adverse effect on the Company.
FIARC COMMERCIAL PAPER FACILITY. When a sufficient number of receivables have been accumulated under the FIRC credit facility, they may be refinanced under the FIARC commercial paper facility through a transfer of a group of specified receivables from FIRC to FIARC. FIARC's purchase is funded through borrowings under the commercial paper facility equal to 90% of the aggregate principal balance of the receivables transferred. The remaining 10% of funds required to repay borrowings under the FIARC credit facility are advanced by the Company in the form of an equity contribution to FIARC. Enterprise funds the advance to FIARC through the issuance, by an affiliate of Enterprise, of commercial paper (indirectly secured by the receivables) to institutional or public investors. The Company is not a guarantor of, or otherwise a party to, such commercial paper.
At April 30, 2000, the maximum borrowings available under the commercial paper facility was $135 million. The Company's interest cost is based on Enterprise's commercial paper rates for specific maturities plus .30%. In addition, the Company is required to pay periodic facility fees and other costs related to the issuance of commercial paper.
As collections are received on the transferred receivables they are remitted directly to a collection account maintained by the collateral agent for the FIARC commercial paper facility. From that account, a portion of the collected funds are distributed to Enterprise in an amount equal to the principal reduction required to maintain the 90% advance rate and to pay carrying costs and related expenses, with the balance released to the Company. In addition to the 90% advance rate, FIARC must maintain a 1% cash reserve as additional credit support for the facility.
In March 1999, the Company increased its commercial paper facility, with Enterprise, which is credit enhanced by a surety bond issued by MBIA Insurance Corporation from $105 million to $135 million. The new facility expires on August 15, 2000. If the facility were terminated, no new receivables could be transferred to FIARC from FIRC and the receivables financed under the commercial paper facility would be allowed to amortize. The Company is currently in discussions with its lenders regarding the renewal and extension of this facility. Management considers its relationship with the lenders under this facility to be satisfactory and has no reason to believe that this credit facility will not be renewed. If the facility was not renewed however, or if material changes were made to its terms and conditions, it could have a material adverse effect on the Company.
FIACC COMMERCIAL PAPER FACILITY. On January 1, 1998, FIACC entered into a $25 million commercial paper conduit facility with VFCC, a commercial paper conduit administered by First Union National Bank, to fund the acquisition of additional receivables generated under certain of the Company's financing programs. FIACC acquires receivables from the Company and may borrow up to 88% of the face amount of receivables, which are pledged as collateral for the commercial paper borrowings. VFCC funds the advance to FIACC through the issuance of commercial paper (indirectly secured by the receivables) to institutional or public investors. The Company is not a guarantor of, or otherwise a party to, such commercial paper. At April 30, 2000, the maximum borrowings available under the facility were $25 million. The Company's interest cost is based on VFCC's commercial paper rates for specific maturities plus .55%. In addition, the Company is required to pay periodic facility fees of .25% on the unused portion of this facility.
As collections are received on the transferred receivables, they are remitted to a collection account maintained by the collateral agent for the FIACC commercial paper facility. From that account, a portion of the collected funds are distributed to VFCC in an amount equal to the principal reduction required to maintain the 88% advance rate and to pay carrying costs and related expenses, with the balance released to the Company. In addition to the 88% advance rate, FIACC must maintain a 2% cash reserve as additional credit support for the facility.
The current term of the facility expires on December 31, 2000. If the facility was not extended, no new receivables could be transferred to FIACC and the receivables pledged as collateral would be allowed to amortize. The Company presently intends to seek an extension of this arrangement prior to its expiration.
TERM NOTES. On January 24, 2000, the Company, through its indirect, wholly owned subsidiary First Investors Auto Owner Trust 2000-A ("Auto Trust") completed the issuance of $167,969,000 of 7.174% asset-backed notes ("Notes"). The Notes are secured by a pool of automobile receivables totaling $174,968,641, which were previously owned by FIRC, FIARC and FIACC. Proceeds from the issuance, which totaled $167,967,690 were used to repay all outstanding borrowings under the FIARC and FIACC commercial paper facilities, to reduce the outstanding borrowings under the FIRC credit facility, to pay transaction fees related to the Note issuance and to fund a cash reserve account of 2% or $3,499,373 which will serve as a portion of the credit enhancement for the transaction. The Notes bear interest at 7.174% and require monthly principal reductions sufficient to reduce the balance of the Notes to 96% of the outstanding balance of the underlying receivables pool. The final maturity of the Notes is February 15, 2006. As of April 30, 2000, the outstanding principal balance on the Notes
was $151,104,279. A surety bond issued by MBIA Insurance Corporation provides credit enhancement for the Note holders. Additional credit support is provided by the cash reserve account, which equals 2% of the original balance of the receivables pool and a 4% over-collateralization requirement. In the event that certain asset quality covenants are not met, the reserve account target level will increase to 6% of the then current principal balance of the receivables pool.
ACQUISITION FACILITY. On October 2, 1998, the Company, through its indirect, wholly-owned subsidiary, FIFS Acquisition Funding Company LLC (FIFS Acquisition), entered into a $75 million non-recourse bridge financing facility with VFCC to finance the Company's acquisition of FISC. Contemporaneously with the Company's purchase of FISC, FISC transferred certain assets to FIFS Acquisition, consisting primarily of (i) all receivables owned by FISC as of the acquisition date, (ii) FISC's ownership interest in certain trust certificates and subordinated spread or cash reserve accounts related to two asset securitizations previously conducted by FISC, and (iii) certain other financial assets, including charged-off accounts owned by FISC as of the acquisition date. These assets, along with a $1 million cash reserve account funded at closing, serve as the collateral for the bridge facility. The facility bears interest at VFCC's commercial paper rate plus 2.35% and expires on July 31, 2000. Under the terms of the facility, all cash collections from the acquired receivables or cash distributions to the certificate holder under the securitizations are applied to pay FISC a servicing fee in the amount of 3% on the outstanding balance of all owned or managed receivables and then to pay interest on the facility. Excess cash flow available after servicing fees and interest payments are utilized to reduce the outstanding principal balance on the indebtedness. In addition, one-third of the servicing fee paid to FISC is also utilized to reduce principal outstanding on the indebtedness. The Company is currently negotiating with First Union to refinance the acquisition facility over an extended term sufficient to amortize the outstanding balance of the indebtedness through collections of the underlying receivables and trust certificates. It is anticipated that the permanent financing will consist of issuing various tranches of notes, to be held by VFCC, which will contain distinct principal amortization requirements and interest rates. The Company anticipates no material change in the weighted average interest rate under the permanent financing. It is anticipated, however, that a partnership will be created to purchase FIFS, Acquisition assets and issue the notes. The partnership interests will be held by the Company and First Union and will enable the partners to share excess cash flow generated by the remaining assets. The amount of excess cash to be received by First Union will vary depending upon the timing and amount of such cash flows. To the extent that the facility is not finalized prior to the expiration date, the Company intends to seek a short-term extension to allow for the completion of the term financing. The Company has no reason to believe that VFCC will not grant such an extension or that an agreement to refinance the bridge loan will not be reached prior to the then final maturity of the bridge facility. If the facility were not extended, the remaining outstanding principal balance would be due at maturity.
WORKING CAPITAL FACILITY. The Company also maintains a $13.5 million working capital line of credit with Bank of America and First Union National Bank that is utilized for working capital and general corporate purposes. Borrowings under this facility bear interest at the Company's option of (i) Bank of America's prime lending rate, or (ii) a rate equal to 3.0% above the LIBOR rate for the applicable interest period. In addition, the Company is also required to pay periodic facility fees, as well as an annual agency fee. The current expiration of the facility is September 30, 2000. If the lender elected not to renew, any outstanding borrowings would be amortized over a one-year period. The Company is currently in discussions with its lenders regarding the renewal and extension of this facility. Management considers its relationship with the lenders under this facility to be satisfactory and has no reason to believe that this credit facility will not be renewed. If the facility was not renewed however, or if material changes were made to its terms and conditions, it could have a material adverse effect on the Company.
On September 20, 1999, the Company entered into an unsecured promissory note with a director and shareholder of the Company under which the Company borrowed $2.5 million to fund its working capital requirement. The note was repaid in full on December 20, 1999 with the proceeds from borrowings under the increased working capital facility.
LOAN COVENANTS. The documentation governing each of the Company's financing arrangements contains numerous covenants relating to the Company's business, the maintenance of credit enhancement insurance covering the receivables (if applicable), the observance of certain financial covenants, the avoidance of certain levels of delinquency experience, and other matters. The breach of these covenants, if not cured within the time limits specified, could precipitate events of default that might result in the acceleration of the FIRC credit facility and working capital facility or the termination of the commercial paper facilities. Through the operation of the collateral agency arrangements described above, which are in the nature of a "lock-box" security device covering the collection of principal and interest on almost all of the Company's receivables, such a default could cause the immediate termination of the Company's primary sources of liquidity. The Company is currently in compliance with all covenants governing these financing arrangements.
INTEREST RATE MANAGEMENT. The Company's warehouse credit facilities bear interest at floating interest rates which are reset on a short-term basis while the secured term Notes bear interest at a fixed rate of interest. The Company's receivables bear interest at fixed rates which do not generally vary with the change in interest rates. Since a primary contributor to the Company's profitability is its ability to manage its net interest spread, the Company seeks to maximize the net interest spread while minimizing exposure to changes in interest rates. In connection with managing the net interest spread, the Company may periodically enter into interest rate swaps or caps to minimize the effects of market interest rate fluctuations on the net interest spread. To the extent that the Company has outstanding floating rate borrowings or has elected to convert a portion of its borrowings from fixed rates to floating rates, the Company will be exposed to fluctuations in short-term interest rates.
The Company was previously a party to a swap agreement with Bank of America pursuant to which the Company's interest rate was fixed at 5.565% on a notional amount of $120 million. The swap agreement expired on January 12, 2000. In connection with the issuance of the Notes, the Company entered into a swap agreement with Bank of America pursuant to which the Company pays a floating rate equal to the prevailing one month LIBOR rate plus 0.505% and receives a fixed rate of 7.174% from the counterparty. The initial notional amount of the swap was $167,969,000 which amortizes in accordance with the expected amortization of the Notes. Final maturity of the swap is February 15, 2006.
On October 2, 1998, in connection with the $75 million acquisition facility, the Company, through FIFS Acquisition, entered into a series of hedging instruments with First Union National Bank designed to hedge floating rate borrowings under the acquisition facility against changes in market rates. Accordingly, the Company entered into two interest rate swap agreements, the first in the initial notional amount of $50.1 million (Swap A) pursuant to which the Company's interest rate is fixed at 4.81%; and, the second in the initial notional amount of $24.9 million (Swap B) pursuant to which the Company's interest rate is fixed at 5.50%. The notional amount outstanding under each swap agreement amortizes based on an implied amortization of the hedged indebtedness. Swap A has a final maturity of December 30, 2002 while Swap B matured on February 20, 2000. The Company also purchased two interest rate caps which protect the Company and the lender against any material increases in interest rates which may adversely affect any outstanding indebtedness which is not fully covered by the aggregate notional amount outstanding under the swaps. The first cap agreement enables the Company to receive payments from the counterparty in the event that the one-month commercial paper rate exceeds 4.81% on a notional amount that increases initially and then amortizes based on the expected difference between the outstanding notional amount under Swap A and the underlying indebtedness. The interest rate cap expires December 20, 2002 and the cost of the cap is amortized in interest expense for the period. The second cap agreement enables the Company to receive payments from the counterparty in the event that the one-month commercial paper rate exceeds 6% on a notional amount that increases initially and then amortizes based on the expected difference between the outstanding notional amount under Swap B and the underlying indebtedness. The interest rate cap expires February 20, 2002 and the cost of the cap is imbedded in the fixed rate applicable to Swap B.
CREDIT ENHANCEMENT -- FIRC CREDIT FACILITY. In order to obtain a lower cost of funding, the Company has agreed under the FIRC credit facility to maintain credit enhancement insurance covering all of its receivables pledged as collateral under this facility. The facility lenders are named as additional insureds under these policies. The coverages are obtained on each receivable at the time it is purchased by the Company and the applicable premiums are prepaid for the life of the receivable. Each receivable is covered by three separate credit insurance policies, consisting of basic default insurance under a standard auto loan protection policy (known as "ALPI" insurance) together with certain supplemental coverages relating to physical damage and other risks. These coverages are carried solely by the Company at its expense and neither the vehicle purchasers nor the dealers are charged for the coverages and they are usually unaware of their existence. The Company's ALPI insurance policy is written by National Union Fire Insurance Company of Pittsburgh ("National Union"), which is a wholly-owned subsidiary of American International Group. As of April 30, 2000, National Union had been assigned a rating of A+ + by A.M. Best Company, Inc.
The premiums that the Company paid during its past fiscal year for its three credit enhancement insurance coverages, which consist primarily of the basic ALPI insurance, represented approximately 3.9% of the principal amount of the receivables acquired during the year. Aggregate premiums paid for ALPI coverage alone during the three fiscal years ended April 30, 2000 were $2,860,491, $3,537,416 and $5,344,975, respectively, and accounted for 3.8%, 3.2% and 3.8% of the aggregate principal balance of the receivables acquired during such respective periods.
Prior to establishing its relationship with National Union in March 1994, the Company's ALPI policy was provided by another third-party insurer. In April 1994 the Company organized First Investors Insurance Company (the "Insurance Affiliate") under the captive insurance company laws of the State of Vermont. The Insurance Affiliate is an indirect wholly-owned subsidiary of the Company and is a party to a reinsurance agreement whereby the Insurance Affiliate reinsures 100% of the risk under the Company's ALPI insurance policy. At the time each receivable is insured by National Union, the risk is automatically reinsured to its full extent and approximately 96% of the premium paid by the Company to National Union with respect to such receivable is ceded to the Insurance Affiliate. When a loss covered by the ALPI policy occurs, it is paid by National Union after the claim is processed, and National Union is then reimbursed in full by the Insurance Affiliate. As of April 30, 2000, gross premiums had been ceded to the Insurance Affiliate by National Union in the amount of $18,550,243 and, since its formation, the Insurance Affiliate reimbursed National Union for aggregate reinsurance claims in the amount of $5,501,351. In addition to the monthly premiums and liquidity reserves of the Insurance Affiliate, a trust account is maintained by National Union to secure the Insurance Affiliates obligations for losses it has reinsured.
The result of the foregoing reinsurance structure is that National Union, as the "fronting" insurer under the captive arrangement, is unconditionally obligated to the Company's credit facility lenders for all losses covered by the ALPI policy and the Company, through its Insurance Affiliate, is obligated to indemnify National Union for all such losses. As of April 30, 2000, the Insurance Affiliate had capital and surplus of $851,656 and unencumbered cash reserves of $2,738,198 in addition to the $1,386,328 trust account.
The ALPI coverage, as well as the Insurance Affiliates' liability under the Reinsurance Agreement, remains in effect for each receivable that is pledged as collateral under the warehouse credit facility. Once receivables are transferred from FIRC to FIARC and financed under the commercial paper facility, ALPI coverage and the Insurance Affiliate's liability under the Reinsurance Agreement is cancelled with respect to the transferred receivables. Any unearned premium associated with the transferred receivables is returned to the Company. The Company believes the losses its Insurance Affiliate will be required to indemnify will be less than the premiums ceded to it. However, there can be no assurance that losses will not exceed the premiums ceded and the capital and surplus of the Insurance Affiliate.
CREDIT ENHANCEMENT -- FIARC COMMERCIAL PAPER FACILITY. Prior to October 1996, the ALPI Policy, through the structure outlined above, served as credit enhancement for both the bank warehouse credit facility and the commercial paper facility. In October 1996, in connection with the
increase in the commercial paper facility to $105 million, the Company elected to diversify its credit enhancement mechanisms, obtaining a surety bond from MBIA Insurance Corporation to enhance the commercial paper facility and retaining the ALPI Policy to enhance the FIRC warehouse facility. The surety bond provides payment of principal and interest to Enterprise in the event of a payment default by FIARC. MBIA is paid a surety premium equal to 0.35% per annum on the average outstanding borrowings under the facility. The surety bond was issued for an initial term of two years and has been extended to August 15, 2000. Termination of the surety bond would result in a default under the commercial paper facility. The Company presently intends to seek an extension of this arrangement in conjunction with the facility renewal.
CREDIT ENHANCEMENT -- FIACC COMMERCIAL PAPER FACILITY. Under the structure of the FIACC commercial paper facility, no third-party credit insurance or surety bond is required. Credit enhancement is provided in the form of the 88% advance rate and 2% cash reserve requirement.
CREDIT ENHANCEMENT -- TERM NOTES. The Term Notes issued in January 2000 are enhanced by a surety bond issued by MBIA Insurance Corporation. The surety bond provides payment of principal and interest to the noteholders in the event of payment default by the 2000-A Trust. MBIA is paid a surety premium equal to 0.35% per annum on the outstanding balance of the Term Notes. The surety bond was issued for the term of the underlying notes, which mature on February 15, 2006.
DELINQUENCY AND CREDIT LOSS EXPERIENCE
The Company's results of operations, financial condition and liquidity may be adversely affected by nonperforming receivables. The Company seeks to manage its risk of credit loss through (i) prudent credit evaluations, (ii) risk management activities, (iii) effective collection procedures, and (iv) by maximizing recoveries on defaulted loans. The allowance for credit losses of $2,133,994 as of April 30, 2000 and $1,529,651 as of April 30, 1999 as a percentage of Receivables Held for Investment of $231,696,539 as of April 30, 2000 and $179,807,957 as of April 30, 1999 was .9% at April 30, 2000 and April 30, 1999.
With respect to Receivables Acquired for Investment, the Company has established a nonaccretable loss reserve to cover expected losses over the remaining life of the receivables. As of April 30, 2000 and 1999, the nonaccretable loss reserve as a percentage of Receivables Acquired for Investment was 17.3% and 20.6%, respectively. The nonaccretable portion represents the excess of the loan's scheduled contractual principal and contractual interest payments over its expected cash flows.
The following table sets forth certain information regarding the Company's delinquency and charge-off experience over its last two fiscal years (dollars in thousands):
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(1) Amounts of delinquent receivables outstanding and total delinquencies as a percentage of outstanding receivables for the 1999 period are based on gross receivables balances, which include principal outstanding plus unearned interest income.
The total number of delinquent accounts (30 days or more) as a percentage of the number of outstanding receivables for the Company's portfolio of Receivables Acquired for Investment and Securitized Receivables was 8.7% and 3.4% as of April 30, 2000, and 1999, respectively.
The Company believes that the fundamental factors in minimizing delinquencies are prudent loan origination procedures, the initial contact with customers made by Company personnel (described above under "Credit Evaluation") and attentive servicing of receivables. In addition, based on its experience, the Company believes that delinquency risk can be reduced to some degree by more conservative loan structures which limit loan terms and loan-to-value ratios and by managing the composition of its portfolio to include a relatively large proportion of receivables arising from the sale of new or late-model used cars. These vehicles are less likely to experience mechanical problems during the initial 24 months of the loan (which is the period of highest delinquency risk) and the purchasers of such vehicles appear to have a relatively higher commitment to loan performance than the purchasers of older used automobiles. Therefore, the Company (unlike many of its competitors in the sub-prime market) concentrates on financing new and late-model used cars to the extent practicable. In view of the popularity in recent years of new automobile leasing programs sponsored by manufacturers and franchised dealers, the Company believes that large numbers of late-model used automobiles will be available for sale over the near term as these vehicles come "off lease". As of April 30, 2000, approximately 23% of the receivables that had been acquired by the Company related to new vehicles and approximately 77% of the receivables arose from the sale of used vehicles. Of the Company's Receivables Held for Investment at that date, approximately 77% originated from the sale of vehicles that were either new or no more than two model years old at the time of sale.
SECURITIZATION
Many finance companies similar to the Company engage in "securitization" transactions whereby receivables are pooled and conveyed to a trust or other special purpose entity, with interests in the entity being sold to investors. As the pooled receivables amortize, finance charge collections are passed through to the investors at a specified rate for the life of the pool and an interest in collections exceeding the specified rate is retained by the sponsoring finance company. For accounting purposes, the sponsor often recognizes as revenue the discounted present value of this excess interest as estimated over the life of the pool. This revenue, or "gain on sale", is recognized for the period in which the transaction occurs.
The Company does not use off-balance sheet financing structures for receivables originated by the Company and therefore, recognizes interest income on the accrual method over the life of the receivables rather than recording gains when those receivables are sold. The Company does not currently intend to engage in off-balance sheet securitization transactions resulting in gains on sale of receivables.
In connection with the acquisition of FISC in October 1998, the Company obtained interests in two securitizations of automobile receivables (as further described in Note 2 in the Notes to Consolidated Financial Statements).
EMPLOYEES
The Company had 177 employees as of April 30, 2000, including 61 located at its headquarters in Houston, 107 located at its loan servicing center in Atlanta and 9 regional marketing representatives. The Company's employees are covered by group health insurance, but the Company has no pension, profit-sharing or bonus plans or other material benefit programs. Effective May 1, 1994, the Company adopted a participant-directed 401(k) retirement plan for its employees. An employee becomes eligible to participate in the plan immediately upon employment. The Company pays the administrative expenses of the 401(k) plan. The Company also matches a percentage of each participant's voluntary contributions up to a maximum voluntary contribution of 3% of the participant's compensation. In fiscal year 2000, the Company made matching contributions to the 401(k) plan of $31,954. Prior to fiscal year 2000, no matching contributions were made. The Company has no collective bargaining agreements and considers its employee relations to be satisfactory.
INFORMATION SYSTEMS
The Company utilizes advanced information management systems including a fully integrated software program designed to expedite each element in the receivables acquisition process, including the entry and verification of credit application data, credit analysis and the communication of credit decisions to originating dealers. The Company also utilizes a number of analytical tools in managing credit risk including an empirical scoring model, trend and discriminant analysis and pricing models which are designed to optimize yield given an expected default rate.
The servicing and collection platform, acquired by the Company through the FISC acquisition, is provided by a software package and the system is designed to provide support for all collections and servicing activities including billing, collection process management, account activity history, repossession management, loan accounting information and payment posting. The Company also utilizes an auto dialer software which interfaces with the system and serves as an efficiency tool in the collection process.
Both the front-end and back-end platforms are highly compatible from an integration standpoint with all loans boarded electronically following funding from the origination system to the collection system.
In addition to its two primary operating systems, the Company also utilizes third-party software in its accounting, human resources, and data management functions, all of which are products well known in the marketplace.
The Company's information technology group is headquartered in Atlanta with additional personnel located in Houston. Primary responsibilities include network administration, hardware and software maintenance and reporting. The Company believes that its data processing and information management capacity is sufficient to accommodate significantly increased volumes of receivables without material additional capital expenditures for this purpose. See Management's Discussion and Analysis -- Year 2000 Issue.
COMPETITION
The business of direct and indirect lending for the purchase of new and used automobiles is intensely competitive in the United States. Such financing is provided by commercial banks, thrifts, credit unions, the large captive finance companies affiliated with automobile manufacturers, and many independent finance companies such as the Company. Many of these competitors and potential competitors have significantly greater financial resources than the Company and, particularly in the case of the captive finance companies, enjoy ready access to large numbers of dealers. The Company believes that a number of factors including historical market orientations, traditional risk-aversion preferences and in some cases regulatory constraints, have discouraged many of these entities from entering the non-prime sector of the market where the Company operates. However, as competition intensifies, these well-capitalized concerns could enter the market, and the Company could find itself at a competitive disadvantage.
The non-prime market in which the Company operates also consists of a number of both large and mid-sized independent finance companies doing business on a local, regional or national basis including some which are affiliated with captive finance companies or large insurance groups. Reliable data regarding the number of such companies and their market shares is unavailable; however, the market is highly fragmented and intensely competitive.
REGULATION
The operations of the Company are subject to regulation, supervision and licensing under various federal and state laws and regulations. State consumer protection laws, motor vehicle installment sales acts and usury laws impose ceilings on permissible finance charges, require licensing of finance companies as consumer lenders, and prescribe many of the substantive provisions of the retail installment sales contracts that the Company purchases. Federal consumer credit statutes and regulations primarily require disclosure of credit terms in consumer finance transactions, although rules adopted by the Federal Trade Commission (including the so-called holder-in-due-course rule)
also affect the substantive rights and remedies of finance companies purchasing automobile installment sales contracts.
The Company's business requires it to hold consumer lending licenses issued by individual states, under which the Company is subject to periodic examinations. State consumer credit regulatory authorities generally enjoy broad discretion in the revocation and renewal of such licenses and the loss of one or more of these could adversely affect the Company's operations.
In addition to specific licensing and consumer regulations applicable to the Company's business, the Company's ability to enforce and collect its receivables is limited by several laws of general application including the Fair Debt Collection Practices Act, Federal bankruptcy laws and the Uniform Commercial Codes of the various states. These and similar statutes govern the procedures, and in many instances limit the rights of creditors, in connection with asserting defaults, repossessing and selling collateral, realizing on the proceeds thereof, and enforcing deficiencies.
The Company's insurance subsidiary is subject to regulation by the Department of Banking, Insurance and Securities of the State of Vermont. The plan of operation of the subsidiary, described above under "Financing Arrangements" and "Credit Enhancement", was approved by the Department and any material changes in those operations would likewise require the Department's approval. The subsidiary is subject to minimum capital and surplus requirements, restrictions on dividend payments, annual reporting, and periodic examination requirements.
The Company believes that its operations comply in all material respects with the requirements of laws and regulations applicable to its business. These requirements, and the interpretations thereof, change from time to time and are not uniform among the states in which the Company operates. The Company retains a specialized consumer credit legal counsel that engages and supervises local legal counsel in each state where the Company does business, to monitor compliance on an ongoing basis and to respond to changes in applicable requirements as they occur.
ITEM 2.
ITEM 2. PROPERTIES
The Company's principal physical properties are its data processing and communications equipment and furniture and fixtures, all of which the Company believes to be adequate for its intended use.
The Company's offices in suburban Houston consist of approximately 11,752 square feet on the first and seventh floor of an eight-story office building. This space is held under a lease requiring average annual rentals of approximately $165,000 and expiring on February 28, 2003, with an option to renew for five years at the market rate then prevailing.
The Company's offices in suburban Atlanta consist of approximately 30,747 square feet on the sixth and seventh floor of an eight-story office building. This space is held under a lease requiring average annual rentals of approximately $575,000 and expiring on December 31, 2001, with an early termination option by either party any time on or after June 30, 2000. The Company did exercise this early termination option and entered into a new lease of approximately 27,467 square feet on the third and fourth floor of a four-story office building. The space is held under a lease requiring average annual rentals of approximately $557,000 and expiring on June 30, 2007, with an option to renew for two consecutive five-year periods at the market rate then prevailing.
The Company owns no real property.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
The Company is not a party to any material litigation and is currently not aware of any threatened litigation that could have a material adverse effect on the Company's business, results of operations or financial condition.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the Company's securities holders during the fourth quarter of the past fiscal year.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANTS' COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
The Company's common stock has been traded on the Nasdaq National Market System, under the symbol FIFS since the completion of the Company's initial public offering on October 4, 1995. High and low bid prices of the common stock are set forth below for the periods indicated.
As of June 30, 2000, there were approximately 40 shareholders of record of the Company's common stock. The number of beneficial owners is unknown to the Company at this time.
The Company has not declared or paid any cash dividends on its common stock since its inception. The payment of cash dividends in the future will depend on the Company's earnings, financial condition and capital needs and on other factors deemed pertinent by the Company's Board of Directors. It is currently the policy of the Board of Directors to retain earnings to finance the operation and expansion of the Company's business and the Company has no plans to pay any cash dividends on the common stock in the foreseeable future.
ITEM 6.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated financial data of the Company for the five fiscal years ended April 30, 2000, has been derived from the audited consolidated financial statements of the Company and should be read in conjunction with such statements (dollars in thousands, except share data).
(FOOTNOTES ON FOLLOWING PAGE)
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(1) The Company purchases credit enhancement insurance from third-party insurers which covers the risk of loss upon default and certain other risks. Until March 1994, such insurance and dealer reserves absorbed substantially all credit losses. In May 1994, the Company established a captive insurance subsidiary to reinsure certain risks under the credit enhancement insurance coverage for all receivables acquired in March 1994 and thereafter. Beginning in October 1996, the Company limited the extent of the receivables covered by credit enhancement insurance to those receivables financed under the FIRC credit facility. Receivables financed under the other credit facilities are uninsured. Accordingly, the Company is exposed to credit losses on receivables which are either uninsured or reinsured by its captive insurance subsidiary and must provide an allowance for such losses.
(2) The nonvoting cumulative preferred stock had a par value of $1.00 per share and was entitled to receive cumulative cash dividends of $.07 per share on May 31, 1995, and on the last day of each succeeding November and May thereafter. The nonvoting cumulative preferred stock was redeemable at the option of the Company, either in whole or in part, upon receiving written consent of the holders of at least 65 % of the shares. In May 1995, the Board of Directors approved the redemption of the nonvoting cumulative preferred stock for $960,000 plus dividends accruing through the date of redemption. The premium of $160,000 over the stated redemption price was consideration for the holders' consent for the redemption and was recorded as a reduction of retained earnings. Proceeds from the offering of Common Stock were used to redeem all of the outstanding nonvoting cumulative preferred stock.
(3) Basic and Diluted net income per common share amounts are calculated based on net income available to common shareholders after preferred dividends, if any, and in the case of the year ended April 30, 1996, the premium paid to the holders of the 1993 preferred stock upon its redemption divided by the weighted average number of shares outstanding, adjusted for the 3-for-1 stock split.
(4) On October 2, 1998, the Company completed the acquisition of FISC. FISC was engaged in essentially the same business as the Company and additionally performs servicing and collection activities on a portfolio of receivables for investment as well as on a portfolio of receivables acquired and sold pursuant to two asset securitizations. The transaction was treated as a purchase for accounting purposes and results of operations are included in the Company's consolidated financial statements beginning on October 2, 1998.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
GENERAL
Net income for the year ended April 30, 2000, was $2,963,535 or $0.53 per common share. Net income for the year ended April 30, 1999, was $2,001,842 or $0.36 per common share. This represents an increase of 48% in net income and 47% in earnings per common share.
OVERVIEW
The Company is a consumer finance company engaged in both the purchase of receivables originated by franchised automobile dealers and originating loans directly to consumers in connection with the sale of new and late-model used vehicles. The Company specializes in lending to consumers with impaired credit profiles. At April 30, 2000, the Company had a network of 2,007 franchised dealers in 26 states from which it regularly purchases receivables at the time of origination. The Company also maintained alliance partnerships with a large regional bank and an Internet market firm from which it receives referral applications for credit consideration. While the Company intends to continue to geographically diversify its receivables portfolio, approximately 29% of Receivables Held for Investment at April 30, 2000 represent receivables acquired from dealers or originated to consumers located in Texas.
From its inception in 1989 through October 1992, the business strategy of the Company was to purchase, pool and sell receivables to third-party investors and to recognize gains associated with those sales on a current basis. In November 1992, the Company decided that it could achieve a more stable and predictable income stream through acquiring and retaining receivables for net interest income recognized over the life of the receivables. The primary element in this strategy is access to institutional financing in sufficient magnitudes and at rates enabling the Company to purchase significant volumes of receivables and retain them at a funding cost allowing an adequate net interest margin between portfolio yield and cost of funds. Through the utilization of flexible secured credit facilities and comprehensive credit insurance, the Company has been able to access financing on terms permitting it to implement this strategy and to pursue it successfully through the present time. Management believes that continued pursuit of this strategy will enable the Company to sustain its growth and maintain a stable earnings stream on a relatively conservative basis.
Therefore, since November 1992, the primary source of the Company's revenues has been interest income from receivables retained as investments, while its primary cost has been interest expense arising from the financing of the Company's investment in such receivables. The profitability of the Company during this period has been determined by the growth of the receivables portfolio and effective management of net interest income and fixed operating expenses. In addition, on October 2, 1998, the Company completed the acquisition of First Investors Financial Servicing Corporation ("FISC") formally known as Auto Lenders Acceptance Corporation from Fortis, Inc. Headquartered in Atlanta, Georgia, FISC was engaged in essentially the same business as the Company and additionally performs servicing and collection activities on a portfolio of receivables acquired for investment as well as on a portfolio of receivables acquired and sold pursuant to two asset securitizations. As a result of the acquisition, the Company increased the total dollar value on its balance sheet of receivables, acquired an interest in certain trust certificates and interest strips related to the asset securitizations and acquired certain servicing rights along with furniture, fixtures, equipment and technology to perform the servicing and collection functions for the portfolio of receivables under management. FISC performs servicing and collection functions on a $289.1 million portfolio of loans, including loans serviced for others, originated in 31 states.
The following table summarizes the Company's growth in receivables and net interest income for the last two fiscal years (dollars in thousands):
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(1) Represents receivables previously owned by FISC which were sold in connection with two asset securitizations and on which the Company retains the servicing rights to those receivables.
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(1) Amounts shown are net of amortization of premium and deferred fees.
(2) Includes facility fees and fees on the unused portion of the credit facilities.
The following table sets forth information with regard to the Company's net interest spread, which represents the difference between the effective yield on Receivables Held for Investment and the Company's average cost of debt utilized to fund these receivables, and its net interest margin (averages based on month-end balances):
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(1) Represents interest income as a percentage of average Receivables Held for Investment outstanding.
(2) Represents interest expense as a percentage of average debt outstanding.
(3) Represents yield on Receivables Held for Investment less average cost of debt.
(4) Represents net interest income as a percentage of average Receivables Held for Investment outstanding.
The Company intends to increase its acquisition of receivables by expanding its dealer base in existing states served, by expanding its dealer base into new states, by generating additional loan volume through alliances with major banks and by increasing direct to consumer lending. To the extent that the Company's receivables acquisitions exceed the extinguishment of receivables through principal payments, payoffs or defaults, its receivables portfolio and interest income will continue to increase. The following table summarizes the activity in the Company's receivables portfolio (dollars in thousands):
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(1) Represents gross receivable balances for fiscal 1999, which include principal outstanding plus unearned interest income.
Receivables may be paid earlier than their contractual term, primarily due to prepayments and liquidation of collateral after defaults. See "Delinquency and Credit Loss Experience".
ANALYSIS OF NET INTEREST INCOME
Net interest income is the difference between interest earned from the receivables portfolio and interest expense incurred on the credit facilities used to acquire the receivables. Net interest income increased to $23.8 million in 2000, an increase of 30% and 95% when compared to amounts reported in 1999 and 1998. The increase resulted primarily from the growth of the receivables held for investment and contributions to interest income from the receivables acquired for investment and trust certificates.
The amount of net interest income is the result of the relationship between the average principal amount of receivables held and average rate earned thereon and the average principal amount of debt incurred to finance such receivables and the average rates paid thereon. Changes in the principal amount and rate components associated with the receivables and debt can be segregated to analyze the periodic changes in net interest income. The following table analyzes the changes attributable to the principal amount and rate components of net interest income (dollars in thousands):
RESULTS OF OPERATIONS
FISCAL YEAR ENDED APRIL 30, 2000, COMPARED TO FISCAL YEAR ENDED APRIL 30, 1999 (DOLLARS IN THOUSANDS)
INTEREST INCOME. Interest income for 2000 increased by $9,200, or 30% over 1999, primarily as a result of an increase in the average principal balance of Receivables Held for Investment of 34% from 1999 to 2000 and the increase in interest income on Receivables Acquired for Investment and Investment in Trust Certificates of 17%. The increase in interest income on Receivables Acquired for Investment and Investment in Trust Certificates is attributable to a full twelve-month period for fiscal 2000 as compared to a seven-month period for fiscal 1999 from the FISC acquisition in October 1998. This is offset by a 41% decline in the average principal balances of the Receivables Acquired for Investment and Investment in Trust Certificates for 2000 as compared to 1999.
INTEREST EXPENSE. Interest expense for 2000 increased by $3,728, or 29%, over 1999. An increase in the weighted average borrowings outstandings under credit and term facilities of 33% resulted in $3,766 of this difference. The remaining difference is primarily due to a 33% decrease in the average outstanding borrowing for the FISC acquisition facility. This decrease is offset by a full twelve-month period for the acquisition facility in fiscal 2000 compared to seven months for fiscal 1999. Lastly, the weighted average cost of debt to fund Receivables Held for Investment increased to 6.7% for the year ended April 30, 2000 compared to 6.5% for the year ended April 30, 1999.
NET INTEREST INCOME. Net interest income increased by $5,472 in 2000, an increase of 30% over 1999. The increase resulted primarily from the growth in Receivables Held for Investment and the contributions to interest income from the Receivables Acquired for Investment and Investment in Trust Certificates.
PROVISION FOR CREDIT LOSSES. The provision for credit losses for 2000 increased by $1,753, or 38%, over 1999, as a result in the growth of Receivables Held for Investment and the maintenance of an allowance for credit losses of .9% of outstanding receivables. Net charge-offs increased from $4,330 in fiscal 1999 to $5,810 in fiscal 2000, also as a result of the increase in Receivables Held for Investment.
SERVICING INCOME. Represents servicing income received on loan receivables previously sold by FISC in connection with two asset securitization transactions. Under these transactions, FISC, as servicer, is entitled to receive a fee of 3% on the outstanding principal balance of the securitized receivables plus reimbursement for certain costs and expenses incurred as a result of its collection
activities. Servicing income increased 8% for fiscal 2000 as compared to fiscal 1999. This increase results from a full twelve months activity for 2000 compared to the seven months from the acquisition date of October 1998 to April 1999 for fiscal 1999. This increase is offset by a 46% decline in the average outstanding principal balance of the securitized loans during 2000 as compared to 1999.
LATE FEES AND OTHER INCOME. Late fees and other income primarily represents late fees collected from customers on past due accounts, collections on certain FISC assets which had previously been charged off by the Company, and interest income earned on short-term marketable securities and money market instruments. Late fees and other income increased to $2,728 in 2000 from $1,594 in 1999 mainly attributable to the growth in Receivables Held for Investment and an increased emphasis on collection of late fees since the Company began servicing its own loans in July 1999.
SERVICING FEE EXPENSES. Servicing fees consist of fees paid by the Company to General Electric Credit Corporation with which the Company had a servicing relationship on its Receivables Held for Investment. Effective July 6, 1999, the Company began servicing its portfolio in-house and terminated the General Electric arrangement. Thus, beginning in July 1999, the Company incurred no third party servicing expenses.
SALARIES AND BENEFIT EXPENSES. Salaries and benefits increased from $6,030 in 1999 to $9,413 in 2000, an increase of $3,383 or 56%. The increase is a result of increasing staff levels to support an increase in the Company's receivables portfolio, an expansion of its geographic territory and an increase in staffing levels as a result of the acquisition of FISC and the resulting assumption of loan servicing activities. Contributing to the increase is the inclusion of a full twelve-month period for FISC in fiscal 2000 as compared to only seven months for fiscal 1999. As of April 30, 2000, the Company had 177 employees compared to 148 as of April 30, 1999.
OTHER INTEREST EXPENSE. Other interest expense increased $613, or 114%, for the year ended April 30, 2000 over the year ended April 30, 1999. The increase is related to an increase in the average borrowings outstanding under the working capital facility of 130% and an increase in the average borrowing rate.
OTHER EXPENSES. Other expenses increased 31% in fiscal 2000. The increase is primarily due to including a full twelve-month period for FISC in fiscal 2000 compared to only seven months in 1999.
INCOME BEFORE PROVISION FOR INCOME TAXES. During 2000, income before provision for income taxes increased by $1,514, or 48% from 1999 as a result of the positive factors discussed above.
FISCAL YEAR ENDED APRIL 30, 1999, COMPARED TO FISCAL YEAR ENDED APRIL 30, 1998 (DOLLARS IN THOUSANDS)
INTEREST INCOME. Interest income for 1999 increased by $11,027, or 55%, over 1998, primarily as a result of an increase in the average principal balance of Receivables Held for Investment of 25% from 1998 to 1999 and the contribution to interest income made by the Receivables Acquired for Investment and the Trust Certificates acquired pursuant to the FISC acquisition. In addition, the interest income was positively influenced for the year ended April 30, 1999, by a .1% increase in effective yield. Management attributes the increase in yield to increases in the interest rates charged on its financing programs in the fourth quarter and to a decrease in the percentage of Receivables Held for Investment on which rate participation is paid to dealers as incentive to utilize the Company's financing programs.
INTEREST EXPENSE. Interest expense for 1999 increased by $4,948, or 63%, over 1998. An increase in the weighted average borrowings outstanding under secured credit facilities of 25% resulted in $1,989 of this difference. Interest expense associated with the $75 million acquisition facility also contributed to the increase. Weighted average cost of debt for secured credit facilities remained flat.
NET INTEREST INCOME. Net interest income increased by $6,079 in 1999, an increase of 50% over 1998. The increase resulted primarily from the growth in Receivables Held for Investment and contributions to interest income from the Receivables Acquired for Investment and Trust Certificates.
PROVISION FOR CREDIT LOSSES. The provision for credit losses for 1999 increased by $760, or 19%, over 1998, as a result of an increase in net charge-offs from $3,884 in fiscal year 1998 to $4,330 in fiscal year 1999. The increase in charge-offs is attributable to the growth in the Receivables Held for Investment, an increase in the number of loans that are seasoned nine to 24 months, which is generally where the highest percentage of repossessions occur and lower recovery amounts on the sale of the vehicle collateral.
SERVICING INCOME. Represents servicing income received on loan receivables previously sold by FISC in connection with two asset securitization transactions. Under these transactions, FISC, as servicer, is entitled to receive a fee of 3% on the outstanding balance of the principal balance of securitized receivables plus reimbursement for certain costs and expenses incurred as a result of its collection activities. Under the terms of the securitizations, the servicer may be removed upon breach of its obligations under the servicing agreements, the deterioration of the underlying receivables portfolios in violation of certain performance triggers or the deteriorating financial condition of the servicer. Servicing income was $1,200 for the year 1999.
LATE FEES AND OTHER INCOME. Late fees and other income increased to $1,594 in 1999 from $617 in 1998 which primarily represents late fees collected from customers on past due accounts, collections on certain FISC assets which had previously been charged-off by the Company and interest income earned on short-term marketable securities and money market instruments.
SERVICING FEE EXPENSES. Servicing fee expenses increased $513, or 28%, from 1998 to 1999. Servicing fees consist primarily of fees paid by the Company to General Electric Credit Corporation with which the Company has a servicing relationship on its Receivables Held for Investment. Since these costs vary with the volume of receivables serviced, this increase was primarily attributable to the increase in the number of receivables serviced in the Receivables Held for Investment, which increased by 3,499, or 28%, from 1998 to 1999.
SALARIES AND BENEFIT EXPENSES. Salaries and benefits increased from $2,639 in 1998 to $6,030 in 1999, an increase of $3,391 or 128%. The increase is a result of expansion of the Company's operation as a result of an increase in its receivables portfolio, expansion of its geographic territory and an increase in staffing levels as a result of the acquisition of FISC. As of April 30, 1999, the Company had 148 employees as compared to 66 as of April 30, 1998.
OTHER INTEREST EXPENSE. Other interest expense increased $429 for the year ended April 30, 1999 over the year ended April 30, 1998. The increase was primarily due to an increase in the average borrowings outstanding under the working capital facility of $375,000 in fiscal 1998 to $4,681,667 in fiscal 1999.
OTHER EXPENSES. Other expenses for 1999 increased 80% from 1998. The increase is a result of an expansion of the Company's asset base and an increase in the volume of applications for credit processed by the Company in the 1999 period versus the comparable period and operating costs associated with the acquired company which were not applicable to the prior year period.
INCOME BEFORE PROVISION FOR INCOME TAXES. During 1999, income before provision for income taxes increased by $1,224, or 63%, from 1998 as a result of the positive factors discussed above.
LIQUIDITY AND CAPITAL RESOURCES
SOURCES AND USES OF CASH FLOWS. The Company's business requires significant cash flow to support its operating activities. The principal cash requirements include (i) amounts necessary to acquire receivables from dealers and fund required reserve accounts, (ii) amounts necessary to fund premiums for credit enhancement insurance or other credit enhancement required by the Company's financing programs, and (iii) amounts necessary to fund costs to retain receivables, primarily interest
expense and servicing fees. The Company also requires a significant amount of cash flow for working capital to fund fixed operating expenses, primarily salaries and benefits.
The Company's most significant cash flow requirement is the acquisition of receivables. The Company paid $141.3 million for receivables acquired to be held for investment for 2000 compared to $114.3 million in 1999.
The Company funds the purchase price of receivables through a combination of three warehouse facilities. The FIRC credit facility generally permits the Company to borrow up to the outstanding principal balance of qualified receivables, but not to exceed $65 million. The FIACC commercial paper facility generally allows the Company to borrow up to 88% of the outstanding principal balance of the receivables, but not to exceed $25 million. Receivables that have accumulated in the FIRC credit facility may be transferred to the FIARC commercial paper facility at the option of the Company. The FIARC commercial paper facility provides an additional financing source up to $135 million. Additionally, the Company has transferred receivables from the warehouse credit facilities and issued Term Notes. Substantially all of the Company's receivables are pledged to collateralize these credit facilities and Term Notes.
The Company's most significant source of cash flow is the principal and interest payments received from the receivables portfolios. The Company received such payments in the amount of $118.2 million in 2000 and $88.7 million in 1999. Such cash flow funds repayment of amounts borrowed under the FIRC credit and commercial paper facilities and other holding costs, primarily interest expense and servicing and custodial fees. During fiscal years 2000 and 1999, the Company required net cash flow, respectively, of $55.5 million and $47.1 million (cash required to acquire receivables held for investment net of principal payments on receivables) to fund the growth of its receivables portfolio. The Company has relied on borrowed funds to provide the source of cash flow to fund such growth.
CAPITALIZATION. Since the change in business strategy to retaining receivables in November 1992, the Company has financed its acquisition of such receivables primarily through two related credit facilities. The Company's equity was not a significant factor in its capitalization until the completion of the Company's initial public offering of common stock in October 1995, resulting in net proceeds of $18.5 million. However, the Company expects to continue to rely primarily on its credit facilities to acquire and retain receivables. The Company believes its existing credit facilities have adequate capacity to fund the increase of the receivables portfolio expected in the foreseeable future. While the Company has no reason to believe that these facilities will not continue to be available, their termination could have a material adverse effect on the Company's operations if substitute financing on comparable terms was not obtained.
FIRC CREDIT FACILITY. The primary source of acquisition financing for Receivables Held for Investment has been through a syndicated warehouse credit facility agented by Bank of America. The FIRC credit facility currently provides for maximum borrowings, subject to certain adjustments, up to the outstanding principal balance of qualified receivables, but not to exceed the current facility limit of $65 million. Borrowings under the FIRC credit facility bear interest pursuant to certain indexed variable rate options at the election of the Company or any other short-term fixed interest rate agreed upon by the Company and the lenders. The Company bases its selection of the interest rate option primarily on its expectations of market interest rate fluctuations, the timing and the amount of the required funding and the period of time it anticipates requiring the funding prior to transfer to the FIARC commercial paper facility. The FIRC credit facility provides for a term of one year, matures September 30, 2000, at which time the outstanding principal balance will be payable in full, although there are provisions allowing the Company a period of six months to refinance the facility in the event that it is not renewed. Borrowings under the FIRC credit facility were $65,000,000 and $59,540,000 at April 30, 1999 and 2000, respectively.
The Company is currently in discussions with its lenders regarding the renewal and extension of this facility. Management considers its relationship with the lenders under this facility to be satisfactory and has no reason to believe that this credit facility will not be renewed. If the facility was not renewed however, or if material changes were made to its terms and conditions, it could have a material adverse effect on the Company.
FIARC COMMERCIAL PAPER FACILITY. The Company has indirect access to the commercial paper market through a $135 million commercial paper conduit facility with Enterprise Funding Corporation ("Enterprise"), a commercial paper conduit managed by Bank of America. Receivables that have accumulated in the FIRC credit facility may be transferred to the FIARC commercial paper facility by transferring a specific group of receivables to a discrete special purpose financing subsidiary and pledging those receivables as collateral. Receivables are generally transferred from the FIRC credit facility to the FIARC commercial paper facility to refinance them on a longer term basis at interest rates based on commercial paper rates and to provide additional borrowing capacity under the FIRC credit facility. Borrowings under this commercial paper facility bear interest at the commercial paper rate plus .30%. The current term of the FIARC commercial paper facility expires on August 15, 2000. If the FIARC commercial paper facility were terminated, no new receivables could be transferred from the FIRC credit facility to Enterprise; however, the then outstanding receivables would continue to be financed until fully amortized. At April 30, 1999 and 2000, the Company had borrowings of $90,735,214 and $18,004,889, respectively, outstanding under the commercial paper facility.
The Company is currently in discussions with its lenders regarding the renewal and extension of this facility. Management considers its relationship with the lenders under this facility to be satisfactory and has no reason to believe that this credit facility will not be renewed. If the facility was not renewed however, or if material changes were made to its terms and conditions, it could have a material adverse effect on the Company.
FIACC COMMERCIAL PAPER FACILITY. On January 1, 1998, FIACC entered into a $25 million commercial paper conduit facility with VFCC, a commercial paper conduit administered by First Union National Bank, to fund the acquisition of additional receivables generated under certain of the Company's financing programs. FIACC acquires receivables from the Company and may borrow up to 88% of the face amount of receivables, which are pledged as collateral for the commercial paper borrowings. VFCC funds the advance to FIACC through the issuance of commercial paper (indirectly secured by the receivables) to institutional or public investors. The Company is not a guarantor of, or otherwise a party to, such commercial paper. The maximum borrowings available under the facility are $25 million. The Company's interest cost is based on VFCC's commercial paper rates for specific maturities plus 0.55%. In addition, the Company is required to pay periodic facility fees of 0.25% on the unused portion of this facility.
As collections are received on the transferred receivables, they are remitted to a collection account maintained by the collateral agent for the FIACC commercial paper facility. From that account, a portion of the collected funds are distributed to VFCC in an amount equal to the principal reduction required to maintain the 88% advance rate and to pay carrying costs and related expenses, with the balance released to the Company. In addition to the 88% advance rate, FIACC must maintain a 2% cash reserve as additional credit support for the facility.
There were no outstanding borrowings at April 30, 2000. At April 30, 1999, borrowings were $20,814,203 under the FIACC commercial paper facility.
The current term of the FIACC commercial paper facility expires on December 31, 2000. If the facility was terminated, no new receivables could be transferred to FIACC and the receivables pledged as collateral would be allowed to amortize.
TERM NOTES. On January 24, 2000, the Company, through its indirect, wholly owned subsidiary First Investors Auto Owner Trust 2000-A ("Auto Trust") completed the issuance of $167,969,000 of 7.174% asset-backed notes ("Notes"). The Notes are secured by a pool of automobile receivables
totaling $174,968,641, which were previously owned by FIRC, FIARC and FIACC. Proceeds from the issuance, which totaled $167,967,690 were used to repay all outstanding borrowings under the FIARC and FIACC commercial paper facilities, to reduce the outstanding borrowings under the FIRC credit facility, to pay transaction fees related to the Note issuance and to fund a cash reserve account of 2% or $3,499,373 which will serve as a portion of the credit enhancement for the transaction. The Notes bear interest at 7.174% and require monthly principal reductions sufficient to reduce the balance of the Notes to 96% of the outstanding balance of the underlying receivables pool. The final maturity of the Notes is February 15, 2006. As of April 30, 2000, the outstanding principal balance on the Notes was $151,104,279. A surety bond issued by MBIA Insurance Corporation provides credit enhancement for the Note holders. Additional credit support is provided by the cash reserve account, which equals 2% of the original balance of the receivables pool and a 4% over-collateralization requirement. In the event that certain asset quality covenants are not met, the reserve account target level will increase to 6% of the then current principal balance of the receivables pool.
The following table summarizes borrowings under the warehouse credit facility, the FIARC and FIACC commercial paper facilities and the Term Notes (dollars in thousands):
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(1) Based on interest rates, facility fees, surety bond fees and hedge instruments applied to borrowings outstanding at period-end.
(2) Based on month-end balances.
ACQUISITION FACILITY. On October 2, 1998, the Company, through its indirect, wholly-owned subsidiary, FIFS Acquisition Funding Company LLC ("FIFS Acquisition"), entered into a $75 million non-recourse bridge financing facility with VFCC, an affiliate of First Union National Bank, to finance the Company's acquisition of FISC. Contemporaneously with the Company's purchase of FISC, FISC transferred certain assets to FIFS Acquisition, consisting primarily of (i) all receivables owned by FISC as of the acquisition date, (ii) FISC's ownership interest in certain trust certificates and subordinated spread or cash reserve accounts related to two asset securitizations previously conducted by FISC, and (iii) certain other financial assets, including charged-off accounts owned by FISC as of the acquisition date. These assets, along with a $1 million cash reserve account funded at closing serve as the collateral for the bridge facility. The facility bears interest at VFCC's commercial paper rate plus 2.35%. Under the terms of the facility, all cash collections from the receivables or cash distributions to the certificate holder under the securitizations are first applied to pay FISC a servicing fee in the amount of 3% on the outstanding balance of all owned or managed receivables and then to pay interest on the facility. Excess cash flow available after servicing fees and interest payments are utilized to reduce the outstanding principal balance on the indebtedness. In addition, one-third of the servicing fee paid to FISC is also utilized to reduce principal outstanding on the indebtedness. The bridge facility expires on July 31, 2000. The Company is currently negotiating with First Union to refinance the acquisition facility over an extended term sufficient to amortize the outstanding balance of the indebtedness through collections of the underlying receivables and trust certificates. It is anticipated that the permanent financing will consist of issuing various tranches of notes, to be held by VFCC, which will contain distinct principal amortization requirements and interest rates. The Company anticipates no material change in the weighted average interest rate under the permanent
financing. It is anticipated, however, that a partnership will be created to purchase FIFS, Acquisition assets and issue the notes. The partnership interests will be held by the Company and First Union and will enable the partners to share excess cash flow generated from the remaining assets. The amount of excess cash to be received by First Union will vary depending upon the timing and amount of such cash flows. To the extent that the facility is not finalized prior to the expiration date, the Company intends to seek a short-term extension to allow for the completion of the term financing. The Company has no reason to believe that VFCC will not grant such an extension or that an agreement to refinance the bridge loan will not be reached prior to the then final maturity of the bridge facility. If the facility were not extended, the remaining outstanding principal balance would be due at maturity.
WORKING CAPITAL FACILITY. The Company also maintains a $13.5 million working capital line of credit with Bank of America and First Union National Bank that is utilized for working capital and general corporate purposes. This facility was increased to $13.5 million in December 1999. Borrowings under this facility bear interest at the Company's option of (i) Bank of America's prime lending rate, or (ii) a rate equal to 3.0% above the LIBOR rate for the applicable interest period. In addition, the Company is also required to pay period facility fees, as well as an annual agency fee. The expiration of the facility is September 30, 2000. If the lender elected not to renew, any outstanding borrowings would be amortized over a one-year period. At April 30, 1999 and 2000, there was $7,235,000 and $13,300,000 outstanding under this facility.
The Company is currently in discussions with its lenders regarding the renewal and extension of this facility. Management considers its relationship with the lenders under this facility to be satisfactory and has no reason to believe that this credit facility will not be renewed. If the facility was not renewed however, or if material changes were made to its terms and conditions, it could have a material adverse effect on the Company.
INTEREST RATE MANAGEMENT. The Company's secured credit facilities bear interest at floating interest rates which are reset on a short-term basis while the secured Term Notes bear interest at a fixed rate of interest. The Company's receivables bear interest at fixed rates which do not generally vary with the change in interest rates. Since a primary contributor to the Company's profitability is its ability to manage its net interest spread, the Company seeks to maximize the net interest spread while minimizing exposure to changes in interest rates. In connection with managing the net interest spread, the Company may periodically enter into interest rate swaps or caps to minimize the effects of market interest rate fluctuations on the net interest spread. To the extent that the Company has outstanding floating rate borrowings or has elected to convert a portion of its borrowings from fixed rates to floating rates, the Company will be exposed to fluctuations in short-term interest rates.
The Company was previously a party to a swap agreement with Bank of America pursuant to which the company's interest rate was fixed at 5.565% on a notional amount of $120 million. The swap agreement expired on January 12, 2000. In connection with the issuance of the Notes, the Company entered into a swap agreement with Bank of America pursuant to which the Company pays a floating rate equal to the prevailing one month LIBOR rate plus 0.505% and receives a fixed rate of 7.174% from the counterparty. The initial notional amount of the swap was $167,969,000 which amortizes in accordance with the expected amortization of the Notes. Final maturity of the swap is February 15, 2006. During the years ended April 30, 2000, 1999 and 1998 amounts paid pursuant to the Company's interest rate management products were not material in relation to interest expense in the aggregate nor did they have a material impact on the Company's weighted average costs of funds during such periods.
On October 2, 1998, in connection with the $75 million acquisition facility, the Company, through FIFS Acquisition, entered into a series of hedging instruments with First Union National Bank designed to hedge floating rate borrowings under the acquisition facility against changes in market rates. Accordingly, the Company entered into two interest rate swap agreements, the first in the initial notional amount of $50.1 million (Swap A) pursuant to which the Company's interest rate is fixed at 4.81%; and, the second in the initial notional amount of $24.9 million (Swap B) pursuant to which the
Company's interest rate is fixed at 5.50%. The notional amount outstanding under each swap agreement amortizes based on an implied amortization of the hedged indebtedness. Swap A has a final maturity of December 20, 2002 while Swap B matured on February 20, 2000. The Company also purchased two interest rate caps which protect the Company and the lender against any material increases in interest rates which may adversely affect any outstanding indebtedness which is not fully covered by the aggregate notional amount outstanding under the swaps. The first cap agreement enables the Company to receive payments from the counterparty in the event that the one-month commercial paper rate exceeds 4.81% on a notional amount that increases initially and then amortizes based on the expected difference between the outstanding notional amount under Swap A and the underlying indebtedness. The interest rate cap expires December 20, 2002 and the cost of the cap is amortized in interest expense for the period. The second cap agreement enables the Company to receive payments from the counterparty in the event that the one-month commercial paper rate exceeds 6% on a notional amount that increases initially and then amortizes based on the expected difference between the outstanding notional amount under Swap B and the underlying indebtedness. The interest rate cap expires February 20, 2002 and the cost of the cap is imbedded in the fixed rate applicable to Swap B.
DELINQUENCY AND CREDIT LOSS EXPERIENCE
The Company's results of operations, financial condition and liquidity may be adversely affected by nonperforming receivables. The Company seeks to manage its risk of credit loss through (i) prudent credit evaluations, (ii) risk management activities, (iii) effective collection procedures, and (iv) by maximizing recoveries on defaulted loans. An allowance for credit losses of $2,133,994 as of April 30, 2000 and $1,529,651 as of April 30, 1999 as a percentage of the Receivables Held for Investment of $231,696,539 as of April 30, 2000 and $179,807,957 as of April 30, 1999 was .9% at April 30, 2000 and April 30, 1999.
With respect to Receivables Acquired for Investment, the Company has established a nonaccretable loss reserve to cover expected losses over the remaining life of the receivables. As of April 30, 2000 and 1999, the nonaccretable loss reserve as a percentage of Receivables Acquired for Investment was 17.3% and 20.6%, respectively. The nonaccretable portion represents the excess of the loan's scheduled contractual principal and contractual interest payments over its expected cash flows.
The Company considers a loan to be delinquent when the borrower fails to make a scheduled payment of principal and interest. Accrual of interest is suspended when the payment from the borrower is over 60 days past due. Generally, repossession procedures are initiated 60 to 90 days after the payment default.
Under its financing programs, the Company retains the credit risk associated with the receivables acquired. Historically, the Company has purchased credit enhancement insurance from third party insurers which covers the risk of loss upon default and certain other risks. Until March 1994, such insurance absorbed substantially all credit losses. In April 1994, the Company established a captive insurance subsidiary to reinsure certain risks under the credit enhancement insurance coverage for all receivables acquired in March 1994 and thereafter. In addition, receivables financed under the FIARC and FIACC commercial paper facilities and receivables financed under the FIAIC Term Notes do not carry default insurance. Provisions for credit losses of $6,414,572 and $4,661,000 have been recorded for the years ended April 30, 2000 and 1999, respectively for losses on receivables which are either uninsured or which are reinsured by the Company's captive insurance subsidiary.
The allowance for credit losses represents management's estimate of losses for receivables that have become impaired. In making this estimate, management analyzes portfolio characteristics in the light of its underwriting criteria, delinquency and repossession statistics, historical loss experience, and size, quality and concentration of the receivables, as well as external factors such as future economic outlooks. The allowance for credit losses is based on estimates and qualitative evaluations and ultimate losses will vary from current estimates. These estimates are reviewed periodically and as
adjustments, either positive or negative, become necessary, are reported in earnings in the period they become known.
The following table summarizes the status and collection experience of all receivables acquired by the Company (dollars in thousands):
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(1) Amounts of delinquent receivables outstanding and total delinquencies as a percentage of outstanding receivables are based on gross receivables balances, which include principal outstanding plus unearned interest income.
The total number of delinquent accounts (30 days or more) as a percentage of the number of outstanding receivables for the Company's portfolio of Receivables Acquired for Investment and Managed Receivables was 8.7% and 3.4% as of April 30, 2000 and 1999, respectively.
MARKET RISK
The market risk discussion and the estimated amounts generated from the analysis that follows are forward-looking statements of market risk assuming certain adverse market conditions occur. Actual results in the future may differ materially due to changes in the Company's product and debt mix, developments in the financial markets, and further utilization by the company of risk-mitigating strategies such as hedging.
The Company's operating revenues are derived almost entirely from the collection of interest on the receivables it retains and its primary expense is the interest that it pays on borrowings incurred to purchase and retain such receivables. The Company's credit facilities bear interest at floating rates which are reset on a short-term basis, whereas its receivables bear interest at fixed rates which do not generally vary with changes in interest rates. The Company is therefore exposed primarily to market risks associated with movements in interest rates on its credit facilities. The Company believes that it takes the necessary steps to appropriately reduce the potential impact of interest rate increases on the Company's financial position and operating performance.
The Company relies almost exclusively on revolving credit facilities to fund its origination of receivables. Periodically, the Company will transfer receivables from a revolving to a term credit facility. Currently all of the Company's credit facilities in combination with various swaps bear interest at floating rates tied to either a commercial paper index or LIBOR.
As of April 30, 2000, the Company had $192.3 million of floating rate secured debt outstanding considering the effect of swap and cap agreements. For every 1% increase in commercial paper rates or LIBOR, annual after-tax earnings would decrease by approximately $1,250,000, assuming the Company maintains a level amount of floating rate debt and assuming an immediate increase in rates.
YEAR 2000 ISSUE
The transition to the year 2000 date change was made without significant problems or interruption of business activity. The Company had implemented programs to assess the impact of the year 2000 date change on software and related technologies. Testing and modifications of the Company's critical information systems were completed prior to December 31, 1999. The Company did not incur any significant costs relating to year 2000 issues.
FORWARD LOOKING INFORMATION
Statements and financial discussion and analysis included in this report that are not historical are considered to be forward-looking in nature. Forward-looking statements involve a number of risks and uncertainties that may cause actual results to differ materially from anticipated results. Specific factors that could cause such differences include unexpected fluctuations in market interest rates; changes in economic conditions; or increases or changes in the competition for loans. Although the Company believes that the expectations reflected in the forward-looking statements presented herein are reasonable, it can give no assurance that such expectations will prove to be correct.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Consolidated Financial Statements of the Company included in this Form 10-K are listed under Item 14(a). The Company is not required to file any supplementary financial data under this item.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS
Information responsive to this item appears under the caption "Election of Directors" in the Company's Proxy Statement for the 2000 Annual Meeting of Shareholders expected to be held September 7, 2000, which is to be filed with the Securities and Exchange Commission, and is incorporated herein by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
Information responsive to this item appears under the caption "Summary Compensation Table" in the Company's Proxy Statement for the 2000 Annual Meeting of Shareholders expected to be held September 7, 2000, which is to be filed with the Securities and Exchange Commission, and is incorporated herein by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information responsive to this item appears under the caption "Security Ownership of Management and Certain Beneficial Owners" in the Company's Proxy Statement for the 2000 Annual Meeting of Shareholders expected to be held September 7, 2000, which is to be filed with the Securities and Exchange Commission, and is incorporated herein by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information responsive to this item appears under the caption "Certain Transactions" in the Company's Proxy Statement for the 2000 Annual Meeting of Shareholders expected to be held September 7, 2000, which is to be filed with the Securities and Exchange Commission, and is incorporated herein by reference.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) (1)(2) FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
See Index to Consolidated Financial Statements on Page.
(3) EXHIBITS
(b) REPORTS ON FORM 8-K
None.
SIGNATURES
Pursuant to the requirements of the Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Annual Report on Form 10-K to be signed on its behalf by the undersigned thereunto duly authorized.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of First Investors Financial Services Group, Inc. and in the capacities and on the date indicated.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE ---- Report of Independent Public Accountants.................................
Consolidated Balance Sheets as of April 30, 1999 and 2000................
Consolidated Statements of Operations for the Years Ended April 30, 1998, 1999 and 2000..........................................
Consolidated Statements of Shareholders' Equity for the Years Ended April 30, 1998, 1999 and 2000..........................................
Consolidated Statements of Cash Flows for the Years Ended April 30, 1998, 1999 and 2000..........................................................
Notes to Consolidated Financial Statements...............................
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Shareholders of First Investors Financial Services Group, Inc.:
We have audited the accompanying consolidated balance sheets of First Investors Financial Services Group, Inc. (a Texas corporation) and subsidiaries as of April 30, 1999 and 2000, and the related consolidated statements of operations, shareholders' equity and cash flows for each of the three years in the period ended April 30, 2000. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of First Investors Financial Services Group, Inc. and subsidiaries as of April 30, 1999 and 2000, and the results of their operations and their cash flows for each of the three years in the period ended April 30, 2000, in conformity with accounting principles generally accepted in the United States.
ARTHUR ANDERSEN LLP
Houston, Texas June 29, 2000
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS -- APRIL 30, 1999 AND 2000
The accompanying notes are an integral part of these consolidated financial statements.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE YEARS ENDED APRIL 30, 1998, 1999 AND 2000
The accompanying notes are an integral part of these consolidated financial statements.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY FOR THE YEARS ENDED APRIL 30, 1998, 1999 AND 2000
The accompanying notes are an integral part of these consolidated financial statements.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED APRIL 30, 1998, 1999 AND 2000
The accompanying notes are an integral part of these consolidated financial statements.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS APRIL 30, 1998, 1999 AND 2000
1. THE COMPANY
ORGANIZATION. First Investors Financial Services Group, Inc. (First Investors or the Company) was established to serve as a holding company for First Investors Financial Services, Inc. (FIFS) and FIFS's wholly owned subsidiaries, First Investors Insurance Company (FIIC), First Investors Auto Receivables Corporation (FIARC), F.I.R.C., Inc. (FIRC), First Investors Auto Capital Corporation (FIACC), First Investors Servicing Corporation (FISC) formerly known as, Auto Lenders Acceptance Corporation (ALAC), First Investors Auto Investment Corp. and FIFS Acquisition Funding Corp. LLC. First Investors, together with its subsidiaries, is hereinafter referred to as the Company.
FIFS began operations in May 1989 and is principally involved in the business of acquiring and holding for investment retail installment contracts and promissory notes secured by new and used automobiles and light trucks (receivables) originated by factory authorized franchised dealers. As of April 30, 2000, approximately 29 percent of receivables held for investment had been originated in Texas. The Company currently operates in 26 states.
FIIC was organized under the captive insurance company laws of the state of Vermont for the purpose of reinsuring certain credit enhancement insurance policies which have been written by unrelated third party insurance companies.
On October 2, 1998, the Company completed the acquisition of FISC and the operations of FISC are included in the consolidated results of the Company since the date of acquisition. See Note 15. Headquartered in Atlanta, Georgia, FISC was engaged in essentially the same business as the Company and additionally performs servicing and collection activities on a portfolio of receivables acquired for investment as well as on a portfolio of receivables acquired and sold pursuant to two asset securitizations. As a result of the acquisition, the Company increased the total dollar value on its balance sheet of receivables, acquired an interest in certain trust certificates related to the asset securitizations and acquired certain servicing rights along with furniture, fixtures, equipment and technology to perform the servicing and collection functions for the portfolio of receivables under management. The Company performs servicing and collection functions on loans originated from 31 states on a Managed Receivables Portfolio of $289.1 million.
2. SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION. The consolidated financial statements include the accounts of First Investors and its subsidiaries. All significant intercompany accounts and transactions have been eliminated.
USE OF ESTIMATES. The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The most significant estimates used by the Company relate to the allowance for credit losses and nonaccretable difference. See Notes 3 and 4. Actual results could differ from those estimates.
RECEIVABLES HELD FOR INVESTMENT. The Company acquires automobile loans from dealers and originates loans directly to consumers. Fees and expenses of originating the loan are capitalized and amortized in accordance with Statement of Financial Accounting Standards ("SFAS") No. 91, "Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases". The basis in the receivables includes the costs to acquire the
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
receivables from the dealer, plus or minus any fees paid or received related to the purchase of the receivables.
Receivables are generally acquired from dealers at a premium or discount from the principal amounts financed by the borrower. This premium or discount is negotiated by the Company and the dealers. Included in the carrying amount of receivables is the insurance premium paid to third-party insurers, net of any premiums ceded to FIIC for reinsurance. The Company amortizes the difference between the principal balance of the receivables and its carrying amount over the expected remaining life of the receivables using the interest method.
RECEIVABLES ACQUIRED FOR INVESTMENT. In connection with loans that were acquired in a portfolio purchase, the Company estimates the amount and timing of undiscounted expected future principal and interest cash flows. For certain purchased loans, the amount paid for a loan reflects the Company's determination that it is probable the Company will be unable to collect all amounts due according to the loan's contractual terms. Accordingly, at acquisition, the Company recognizes the excess of the loan's scheduled contractual principal and contractual interest payments over its expected cash flows as an amount that should not be accreted. The remaining amount, representing the excess of the loan's expected cash flows over the amount paid, is accreted into interest income over the remaining life of the loan. Additionally, accretion of yield expected to be paid to others is recorded as a reduction of interest income.
Over the life of the loan, the Company continues to estimate expected cash flows. The Company evaluates whether the present value of any decrease in the loan's actual or expected cash flows should be recorded as a loss provision for the loan. For any material increases in estimated cash flows, the Company adjusts the amount of accretable yield by reclassification from nonaccretable difference. The Company then adjusts the amount of periodic accretion over the loan's remaining life. See Note 4.
INVESTMENT IN TRUST CERTIFICATES. Through the acquisition of FISC, the Company obtained interests in two securitizations of automobile receivables. Automobile receivables were transferred to a trust (ALAC Automobile Receivables Trust), which issued notes and certificates representing undivided ownership interests in the trusts. The Company owns trust certificates and interest-only residuals from each of these trusts which are classified as Investment in Trust Certificates. Additionally, the Company owns spread accounts held by the trustee for the benefit of the trust's noteholders. Such amounts are classified as Restricted Cash.
Trust certificates are interests in the securitized receivables which are subordinated to the noteholders interests. These certificates represent a credit enhancement in order for the securitization to achieve a specific rating from the credit rating agencies.
Interest-only residuals result from excess cash flows of the securitizations. Interest-only residuals are computed as the differential between the weighted average interest rate earned on the automobile receivables securitized and the rate paid to the noteholders and certificate-holders, net of contractual servicing fees to be paid to the Company. The resulting differential represents an asset in the period in which the automobile receivables are securitized equal to the present value of estimated future excess interest cash flows adjusted for anticipated prepayments and losses.
Trust certificates and interest-only residuals are valued at the present value of expected future cash flows using discount rates that the Company expects to yield. These discount rates are the result of the purchase price of the interests and the expected future cash flows. Interests are recorded at amortized cost. If actual cash flows are less than expected cash flows, the Company will write down the value of the interests. If actual cash flows exceed expected cash flows, additional yield will be recognized on a prospective basis. The Company utilized prepayment speeds, loss rate and discount
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
rate assumptions to determine the fair value of the trust certificates and interest-only residuals. During 2000 and 1999, the assumptions used were:
INCOME RECOGNITION. The Company accrues interest income monthly based upon contractual terms using the effective interest method. Interest income also includes additional amounts received upon early payoffs of certain receivables attributable to the difference between the principal balance of the receivables calculated using the Rule of 78's method and the principal balance of the receivables calculated using the effective interest method. When a receivable becomes two months past due, income accrual is suspended until the payments become current. Other income includes late charge fees and is recognized as collected.
ALLOWANCE FOR CREDIT LOSSES. For receivables financed under the FIRC credit facility, the Company purchases credit enhancement insurance from third-party insurers which covers the risk of loss upon default and certain other risks. Until March 1994, such insurance and dealer reserves absorbed substantially all credit losses. In April 1994, the Company established a captive insurance subsidiary to reinsure the credit enhancement insurance coverage. The credit enhancement insurance coverage for all receivables acquired in March 1994 and thereafter has been reinsured by FIIC. Beginning in October 1996, all receivables recorded by the Company were covered by credit enhancement insurance while pledged as collateral for the FIRC credit facility. Once receivables are transferred to the FIARC commercial paper facility, credit enhancement insurance is cancelled. In addition, no default insurance is purchased for core receivables originated and financed under the FIACC commercial paper facility. Accordingly, the Company is exposed to credit losses for all receivables either reinsured by FIIC or uninsured and provides an allowance for such losses.
The allowance for credit losses represents management's estimate of losses for receivables that have become impaired. Management analyzes the receivable portfolio characteristics as compared to its underwriting criteria, delinquency and repossession statistics, historical loss experience, size, quality and concentration characteristics of the receivable portfolio, as well as external factors such as future economic outlooks.
The automobile purchasers in the non-prime market segment are individuals with impaired credit profiles who often have little or no personal savings. In most cases such purchasers' ability to remit payments as required by the terms of the receivables is entirely dependent on their continued employment and stability of household and medical expenses. Job losses or events which cause a significant increase in household or medical expenses could result in defaults on their consumer debts. A prolonged economic recession resulting in widespread unemployment in this wage-earning sector could cause a significant rise in delinquencies and charge-offs, which would adversely affect the Company. Although the Company considers its allowance to be adequate, there can be no assurance that it would suffice in the event of a sustained period of economic distress. The allowance for credit losses is based on estimates and qualitative evaluations, and ultimate losses will vary from current estimates. These estimates are reviewed periodically and, as adjustments, either positive or negative, become necessary, they are reported in earnings in the period they become known.
SERVICING AGREEMENT. From its inception until July 1999, the Company was a party to a servicing agreement with General Electric Capital Corporation (GECC) under which GECC performed certain loan servicing and collection activities with respect to the Company's portfolio of Receivables
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Held for Investment. Servicing fees were paid monthly to GECC based on the number of receivables being serviced during the period plus certain reimbursable expenses including legal and third party recovery costs. Due from servicer primarily represents unremitted principal and interest payments and proceeds from the sale of repossessed collateral. In July 1999, the Company elected to terminate the servicing agreement with GECC in connection with the transfer of the servicing and collection activities on the receivables to the Company's internal servicing and collection platform.
FUNDS HELD UNDER REINSURANCE AGREEMENT. The Company provides financial assurance for the third party insurance company it reinsures by maintaining premiums ceded to it in a restricted trust account for the benefit of the third party insurance company. The reinsurance agreement provides, among other things, that the funds held can be withdrawn by the third party insurance company due to an insolvency of the Company or to reimburse the third party insurance company for the Company's share of losses paid by the third party insurance company pursuant to the reinsurance agreement.
ASSETS HELD FOR SALE. The Company commences repossession procedures against the underlying collateral when the Company determines that collection efforts are likely to be unsuccessful. Upon repossession, the receivable is written down to the estimated fair value of the collateral, less the cost of disposition and plus the expected recoveries from third-party insurers, through a charge to the allowance for credit losses. Additionally, the repossessed collateral is reclassified to assets held for sale.
DEFERRED FINANCING COSTS. The Company defers financing costs and amortizes the costs related to the FIRC credit facility over a 45 month period which represents the committed term of such facility. Additionally, the Company amortizes the costs related to the respective commercial paper facilities and Term Notes over the estimated average life of the receivables financed as the provisions of such facility provide that receivables assigned to such facility would be allowed to amortize should the facilities not be extended.
SERVICING INCOME. Servicing income is recognized on loan receivables previously sold by FISC in connection with two asset securitization transactions. Under these transactions, FISC, as servicer, is entitled to receive a fee of 3% on the outstanding principal balance of securitized receivables plus reimbursement for certain costs and expenses incurred as a result of its collection activities. Under the terms of the securitizations, the servicer may be removed upon breach of its obligations under the servicing agreements, the deterioration of the underlying receivables portfolios in violation of certain performance triggers or the deteriorating financial condition of the servicer.
OTHER OPERATING EXPENSES. Other operating expenses include primarily professional fees, service bureau fees, telephone, postage, and rent.
INCOME TAXES. The Company follows SFAS No. 109, which prescribes that deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates applied to taxable income in the years in which those temporary differences are expected to be recovered or settled. Under SFAS No. 109, the effect on deferred tax assets and liabilities of a change in tax rates is recognized in the period that includes the enactment date.
INTEREST RATE SWAP AND CAP AGREEMENTS. The Company enters into interest rate swap and cap agreements to maximize net interest income while managing the exposure of floating interest rates under the terms of its credit facilities or Term Notes (see Note 7). The Company endeavors to maintain the effectiveness of the interest rate swap or cap agreements by selecting products with dollar denominated notional principal amounts, interest rate indices and interest reset periods similar
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
to its credit facilities or Term Notes. The differentials paid or received on interest rate agreements are accrued and recognized currently as adjustments to interest expense. Premiums paid or received on these agreements, if any, are amortized to interest expense over the term of the related agreement. Gains and losses on early terminations of interest rate swap and cap agreements are included in the carrying amount of the related debt and amortized as yield adjustments over the estimated remaining term of the swap.
EMPLOYEE STOCK OPTIONS. The Company accounts for its stock-based compensation under Accounting Principles Board (APB) Opinion No. 25 "Accounting for Stock Issued to Employees." Under this accounting method, no compensation expense is recognized in the consolidated statements of operations if no intrinsic value of the option exists at the date of grant. The Company has made annual pro forma disclosures of net income and earnings per share as if the stock based compensation awards were based on the fair value of the awards at the date of grant. See Note 12.
DERIVATIVES. In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". SFAS No. 133 establishes accounting and reporting standards requiring that every derivative instrument (including certain derivative instruments embedded in other contracts) be recorded in the balance sheet as either an asset or liability at its fair value. The Statement requires that changes in the derivative's fair value be recognized currently in earnings unless specific hedge accounting criteria are met. In June 2000, the FASB issued SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging Activities -- an Amendment of FASB Statement No. 133." The Company will adopt SFAS No. 133 concurrently with SFAS No. 138 effective for its fiscal year beginning May 1, 2001. Management has not yet quantified the impact of adopting SFAS No. 133 on the consolidated financial statements. However, the Statement could increase volatility in earnings.
INTERNAL USE SOFTWARE COSTS. In March 1998, the American Institute of Certified Public Accountants issued Statement of Position (SOP) 98-1, "Accounting For The Costs Of Computer Software Developed Or Obtained For Internal Use". This SOP specifies certain costs of computer software developed or obtained for internal use that should be capitalized. The Company capitalizes external direct costs of materials and services consumed in developing internal-use computer software and payroll costs for employees who devote time to developing internal-use computer software, in accordance with SOP 98-1.
EARNINGS PER SHARE. Earnings per share amounts are calculated based on net income available to common shareholders divided by the weighted average number of shares of common stock outstanding (see Note 12 and Note 14).
FURNITURE AND EQUIPMENT. Furniture and equipment are carried at cost, less accumulated depreciation. Depreciable assets are amortized using the straight-line method over the estimated useful lives (two to five years) of the respective assets.
CASH AND SHORT-TERM INVESTMENTS. The Company considers all investments with a maturity of three months or less when purchased to be short-term investments and treated as cash equivalents. See Note 5 for components of restricted cash.
RECLASSIFICATIONS. Certain reclassifications have been made to the 1998 and 1999 amounts to conform with the 2000 presentation.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
3. RECEIVABLES HELD FOR INVESTMENT
The receivables generally have terms of 60 months and are collateralized by the underlying vehicles. Net receivable balances consisted of the following at April 30, 1999 and 2000:
At April 30, 2000, the weighted average remaining term of the receivable portfolio is 46 months and the weighted average contractual interest rate is 17.5 percent. Principal payments expected to be received on the receivable portfolio, assuming no defaults and that payments are received in accordance with contractual terms, are summarized in the following table. Receivables may pay off prior to contractual due dates, primarily due to defaults and early payoffs.
Activity in the allowance for credit losses for the years ended April 30, 1999 and 2000, was as follows:
4. RECEIVABLES ACQUIRED FOR INVESTMENT
Loans purchased at a discount relating to credit quality were included in the balance sheet amounts of Receivables Acquired for Investment as follows as of April 30, 1999 and 2000:
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The carrying amount of Receivables Acquired for Investment are net of accretable yield and nonaccretable difference. Nonaccretable difference represents contractual principal and interest payments that the Company has estimated that it would be unable to collect.
Nonaccretable difference eliminations represent contractual principal and interest payments that the Company has determined that it would be unable to collect. The increase in accretable yield in 2000 includes a reclassification from nonaccretable difference for cash flows expected to be collected in excess of those previously expected.
Principal payments expected to be received on the receivable portfolio, assuming no defaults and that payments are received in accordance with contractual terms, are summarized in the following table. Receivables may pay off prior to contractual due dates, primarily due to defaults and early payoffs.
5. RESTRICTED CASH
The components of restricted cash at April 30, 1999 and 2000, are as follows:
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
6. DEFERRED FINANCING COSTS AND OTHER ASSETS
The components of deferred financing costs and other assets at April 30, 1999 and 2000, are as follows:
7. DEBT
The Company finances the acquisition of its receivables portfolio through three warehouse credit facilities. The Company's credit facilities provide for one year terms and have been renewed annually. Management of the Company believes that the credit facilities will continue to be renewed or extended or that it would be able to secure alternate financing on satisfactory terms; however, there can be no assurance that it will be able to do so. In January 2000, the Company issued $168 million in asset-backed notes secured by a pool of receivables. Proceeds from the note issuance were used to repay outstanding borrowings under the various revolving credit facilities. Substantially all receivables retained by the Company are pledged as collateral for the credit facilities and the Term Notes.
FIRC CREDIT FACILITY. The primary source of initial acquisition financing for receivables has been primarily provided through a syndicated warehouse credit facility agented by Bank of America. The borrowing base is defined as the sum of the principal balance of the receivables pledged and the amount on deposit in an escrow account. The Company is required to maintain a reserve account equal to the greater of one percent of the principal amount of receivables financed or $250,000. During fiscal year 1999, the FIRC credit facility was increased to $65 million from $55 million. Borrowings under the FIRC credit facility bear interest at a rate selected by the Company at the time of the advance of either the base rate, defined as the higher of the prime rate or the federal funds rate plus .5 percent, the LIBOR rate plus .5 percent, or a rate agreed to by the Company and the banks. The facility also provides for the payment of a fee of .25 percent per annum based on the total committed amount.
Borrowings under the FIRC credit facility were $65,000,000 and $59,540,000 at April 30, 1999 and 2000, respectively, and had weighted average interest rates, including the effect of facility fees and hedge instruments, as applicable, of 5.84 percent and 6.21 percent as of such dates. The FIRC credit facility provides for a term of one year at which time the outstanding principal balance will be payable in full, although there are provisions allowing the Company a period of six months to refinance the facility in the event that it is not renewed. The current term of the FIRC credit facility expires on September 30, 2000. The Company is currently in discussions with its lenders regarding the renewal and extension of this facility. Management considers its relationship with the lenders under this facility to be satisfactory and has no reason to believe that this credit facility will not be renewed. If the facility was not renewed however, or if material changes were made to its terms and conditions, it could have a material adverse effect on the Company.
FIARC COMMERCIAL PAPER FACILITY. The Company has indirect access to the commercial paper market through a commercial paper conduit facility through Enterprise Funding Corporation (Enterprise), a commercial paper conduit administered by Bank of America. Receivables are transferred
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
periodically from the FIRC credit facility to Enterprise through the assignment of an undivided interest in a specified group of receivables. Enterprise issues commercial paper (indirectly secured by the receivables), the proceeds of which are used to repay the FIRC credit facility.
On October 22, 1996, the Company completed a $105 million commercial paper conduit financing through Enterprise which remained in effect until this facility was increased in March 1999 to $135 million. The financing is provided to a special-purpose, wholly-owned subsidiary of the Company, FIARC. Credit enhancement for the $135 million facility is provided to the commercial paper investors by a surety bond issued by MBIA Insurance Corporation. Borrowings under the commercial paper facility bear interest at the commercial paper rate plus a borrowing spread equal to .30 percent per annum. Additionally, the agreement provides for additional fees based on the unused amount of the facility and dealer fees associated with the issuance of the commercial paper. A surety bond premium equal to .35 percent per annum is assessed based on the outstanding borrowings under the facility. A one percent cash reserve must be maintained as additional credit support for the facility. The current term of the FIARC commercial paper facility expires on August 15, 2000. If the facility was not extended, receivables pledged as collateral would be allowed to amortize; however, no new receivables would be allowed to be transferred from the FIRC credit facility. At April 30, 1999 and 2000, the Company had borrowings of $90,735,214 and $18,004,889, respectively, outstanding under the commercial paper facility at weighted average interest rates, including the effect of program fees, dealer fees and hedge instruments, as applicable, of 5.75 percent and 7.33 percent, respectively. The Company is currently in discussions with its lenders regarding the renewal and extension of this facility. Management considers its relationship with the lenders under this facility to be satisfactory and has no reason to believe that this credit facility will not be renewed. If the facility was not renewed however, or if material changes were made to its terms and conditions, it could have a material adverse effect on the Company.
FIACC COMMERCIAL PAPER FACILITY. On January 1, 1998, FIACC entered into a $25 million commercial paper conduit facility with Variable Funding Capital Corporation ("VFCC"), a commercial paper conduit administered by First Union National Bank, to fund the acquisition of additional receivables generated under certain of the Company's financing programs. FIACC acquired receivables from the Company and may borrow up to 88% of the face amount of receivables, which are pledged as collateral for the commercial paper borrowings. VFCC funds the advance to FIACC through the issuance of commercial paper (indirectly secured by the receivables) to institutional or public investors. The Company is not a guarantor of, or otherwise a party to, such commercial paper. At April 30, 2000, the maximum borrowings available under the facility were $25 million. The Company's interest cost is based on VFCC's commercial paper rates for specific maturities plus .55 percent. In addition, the Company is required to pay periodic facility fees of .25 percent on the unused portion of this facility.
As collections are received on the transferred receivables, they are remitted to a collection account maintained by the collateral agent for the FIACC commercial paper facility. From that account, a portion of the collected funds are distributed to VFCC in an amount equal to the principal reduction required to maintain the 88 percent advance rate and to pay carrying costs and related expenses, with the balance released to the Company. In addition to the 88 percent advance rate, FIACC must maintain a 2 percent cash reserve as additional credit support for the facility.
The current term of the FIACC commercial paper facility expires on December 31, 2000. If the facility was not extended, no new receivables could be transferred to FIACC and the receivables pledged as collateral would be allowed to amortize. The Company presently intends to seek an extension of this arrangement prior to its expiration. At April 30, 1999, borrowings were $20,814,203 under the FIACC commercial paper facility, and had a weighted average interest rate of 5.26 percent,
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
including the effects of program fees and hedge instruments. There were no outstanding borrowings at April 30, 2000.
TERM NOTES. On January 24, 2000, the Company, through its indirect, wholly-owned subsidiary First Investors Auto Owner Trust 2000-A ("Auto Trust") completed the issuance of $167,969,000 of 7.174% asset-backed notes ("Notes"). The Notes are secured by a pool of automobile receivables totaling $174,968,641, which were previously owned by FIRC, FIARC and FIACC. Proceeds from the issuance, which totaled $167,967,690 were used to repay all outstanding borrowings under the FIARC and FIACC commercial paper facilities, to reduce the outstanding borrowings under the FIRC credit facility, to pay transaction fees related to the Note issuance and to fund a cash reserve account of 2% or $3,499,373 which will serve as a portion of the credit enhancement for the transaction. The Notes bear interest at 7.174% and require monthly principal reductions sufficient to reduce the balance of the Notes to 96% of the outstanding balance of the underlying receivables pool. The final maturity of the Notes is February 15, 2006. As of April 30, 2000, the outstanding principal balance on the Notes was $151,104,279. A surety bond issued by MBIA Insurance Corporation provides credit enhancement for the Note holders. Additional credit support is provided by the cash reserve account, which equals 2% of the original balance of the receivables pool and a 4% over-collateralization requirement. In the event that certain asset quality covenants are not met, the reserve account target level will increase to 6% of the then current principal balance of the receivables pool.
ACQUISITION FACILITY. On October 2, 1998, the Company, through its indirect, wholly-owned subsidiary, FIFS Acquisition Funding Company LLC (FIFS Acquisition), entered into a $75 million non-recourse bridge financing facility with VFCC, an affiliate of First Union National Bank, to finance the Company's acquisition of FISC. Contemporaneously with the Company's purchase of FISC, FISC transferred certain assets to FIFS Acquisition, consisting primarily of (i) all receivables owned by FISC as of the acquisition date, (ii) FISC's ownership interest in certain trust certificates and subordinated spread or cash reserve accounts related to two asset securitizations previously conducted by FISC, and (iii) certain other financial assets, including charged-off accounts owned by FISC as of the acquisition date. These assets, along with a $1 million cash reserve account funded at closing serve as the collateral for the bridge facility. The facility bears interest at VFCC's commercial paper rate plus 2.35 percent and expires on July 31, 2000. Under the terms of the facility, all cash collections from the receivables or cash distributions to the certificate holder under the securitizations are first applied to pay FISC a servicing fee in the amount of 3 percent on the outstanding balance of all owned or managed receivables and then to pay interest on the facility. Excess cash flow available after servicing fees and interest payments are utilized to reduce the outstanding principal balance on the indebtedness. In addition, one-third of the servicing fee paid to FISC is also utilized to reduce principal outstanding on the indebtedness. The Company is currently negotiating with First Union to refinance the acquisition facility over an extended term sufficient to amortize the outstanding balance of the indebtedness through collections of the underlying receivables and trust certificates. It is anticipated that the permanent financing will consist of issuing various tranches of notes, to be held by VFCC, which will contain distinct principal amortization requirements and interest rates. The Company anticipates no material change in the weighted average interest rate under the permanent financing. It is anticipated, however, that a partnership will be created to purchase FIFS, Acquisition assets and issue the notes. The partnership interests will be held by the Company and First Union and will enable the partners to share excess cash flow generated from the remaining assets. The amount of excess cash to be received by First Union will vary depending upon the timing and amount of such cash flows. To the extent that the facility is not finalized prior to the expiration date, the Company intends to seek a short-term extension to allow for the completion of the term financing. The Company has no reason to believe that VFCC will not grant such an extension or that an agreement to refinance the
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
bridge loan will not be reached prior to the then final maturity of the bridge facility. If the facility were not extended, the remaining outstanding principal balance would be due at maturity.
WORKING CAPITAL FACILITY. The Company also maintains a $13.5 million working capital line of credit with Bank of America and First Union National Bank that is utilized for working capital and general corporate purposes. The facility was increased from $10 million to $13.5 million in December, 1999. Borrowings under this facility bear interest at the Company's option of (i) Bank of America's prime lending rate, or (ii) a rate equal to 3.0 percent above the LIBOR rate for the applicable interest period. In addition, the Company is also required to pay period facility fees, as well as an annual agency fee. The current expiration of the facility is September 30, 2000. If the lender elected not to renew, any outstanding borrowings would be amortized over a one-year period. The Company is currently in discussions with its lenders regarding the renewal and extension of this facility. Management considers its relationship with the lenders under this facility to be satisfactory and has no reason to believe that this credit facility will not be renewed. If the facility was not renewed however, or if material changes were made to its terms and conditions, it could have a material adverse effect on the Company. At April 30, 1999 and 2000, there was $7,235,000 and $13,300,000 outstanding under this facility.
On September 20, 1999, the Company entered into an unsecured promissory note with a director and shareholder of the Company under which the Company borrowed $2.5 million to fund its working capital requirement. The note was repaid in full on December 20, 1999 with the proceeds from borrowings under increased working capital facility.
LOAN COVENANTS. The documentation governing these credit facilities and Term Notes contains numerous covenants relating to the Company's business, the maintenance of credit enhancement insurance covering the receivables (if applicable), the observance of certain financial covenants, the avoidance of certain levels of delinquency experience and other matters. The breach of these covenants, if not cured within the time limits specified, could precipitate events of default that might result in the acceleration of the FIRC credit facility, the Term Notes and the working capital facility or the termination of the commercial paper facilities. The Company was in compliance with all covenants at April 30, 2000.
INTEREST RATE MANAGEMENT. The Company's secured credit facilities bear interest at floating interest rates which are reset on a short-term basis while the secured Term Notes bear interest at a fixed rate of interest. The Company's receivables bear interest at fixed rates which do not generally vary with the change in interest rates. Since a primary contributor to the Company's profitability is its ability to manage its net interest spread, the Company seeks to maximize the net interest spread while minimizing exposure to changes in interest rates. In connection with managing the net interest spread, the Company may periodically enter into interest rate swaps or caps to minimize the effects of market interest rate fluctuations on the net interest spread. To the extent that the Company has outstanding floating rate borrowings or has elected to convert a portion of its borrowings from fixed rates to floating rates, the Company will be exposed to fluctuations in short-term interest rates.
The Company was previously a party to a swap agreement with Bank of America pursuant to which the Company's interest rate was fixed at 5.565% on a notional amount of $120 million. The swap agreement expired on January 12, 2000. In connection with the issuance of the Notes, the Company entered into a swap agreement with Bank of America pursuant to which the Company pays a floating rate equal to the prevailing one month LIBOR rate plus 0.505% and receives a fixed rate of 7.174% from the counterparty. The initial notional amount of the swap was $167,969,000 which amortizes in accordance with the expected amortization of the Notes. Final maturity of the swap is February 15, 2006.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
On October 2, 1998, in connection with the $75 million acquisition facility, the Company, through FIFS Acquisition, entered into a series of hedging instruments with First Union National Bank designed to hedge floating rate borrowings under the acquisition facility against changes in market rates. Accordingly, the Company entered into two interest rate swap agreements, the first in the initial notional amount of $50.1 million (Swap A) pursuant to which the Company's interest rate is fixed at 4.81 percent; and, the second in the initial notional amount of $24.9 million (Swap B) pursuant to which the Company's interest rate is fixed at 5.50 percent. The notional amount outstanding under each swap agreement amortizes based on an implied amortization of the hedged indebtedness. Swap A has a final maturity of December 30, 2002 while Swap B matured on February 20, 2000. The Company also purchased two interest rate caps which protect the Company and the lender against any material increases in interest rates which may adversely affect any outstanding indebtedness which is not fully covered by the aggregate notional amount outstanding under the swaps. The first cap agreement enables the Company to receive payments from the counterparty in the event that the one-month commercial paper rate exceeds 4.81 percent on a notional amount that increases initially and then amortizes based on the expected difference between the outstanding notional amount under Swap A and the underlying indebtedness. The interest rate cap expires December 20, 2002 and the cost of the cap is amortized in interest expense for the period. The second cap agreement enables the Company to receive payments from the counterparty in the event that the one-month commercial paper rate exceeds 6 percent on a notional amount that increases initially and then amortizes based on the expected difference between the outstanding notional amount under Swap B and the underlying indebtedness. The interest rate cap expires February 20, 2002 and the cost of the cap is imbedded in the fixed rate applicable to Swap B.
8. INCOME TAXES
The temporary differences which give rise to net deferred tax assets are as follows at April 30, 1999 and 2000, respectively:
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The provision (benefit) for income taxes for the years ended April 30, 1998, 1999 and 2000, consists of the following:
The following is a reconciliation between the effective income tax rate and the applicable statutory federal income tax rate for the years ended April 30, 1998, 1999 and 2000.
9. CREDIT RISKS
Approximately 29 percent of the Company's receivables held for investment by principal balance at April 30, 2000, represent receivables acquired from dealers located in Texas. The economy of Texas is primarily dependent on petroleum and natural gas production and sales of related supplies and services, petrochemical operations, light and medium manufacturing operations, computer and computer service businesses, agribusiness and tourism. Job losses in any or all of these primary economic segments of the Texas economy may result in a significant increase in delinquencies or defaults in the Company's receivable portfolio. While the receivables are secured by vehicles, the Company has recourse to reserve accounts and dealers for losses on certain receivables and the Company has third-party default insurance for receivables originated prior to April 1994, there can be no assurance that such remedies would mitigate additional credit losses.
The Company is also exposed to credit loss in the event that the counterparties to the swap agreements described in Note 7 do not perform their obligations. The terms of the Company's interest rate agreements provide for settlement on a monthly basis and accordingly, any credit loss due to non- performance of the counterparty would be limited to the amount due from the counterparty for the month non-performance occurred. The Company would be exposed to adverse interest rate fluctuations following any such non-performance. While management believes that it could enter into interest rate swap agreements with other counterparties to effectively manage such rate exposure, there is no assurance that it would be able to enter interest rate agreements on comparable terms as those of its present agreements.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
10. FAIR VALUE OF FINANCIAL INSTRUMENTS
The following table summarizes the carrying amounts and estimated fair values of the Company's financial instruments for those financial instruments whose carrying amounts differ from their estimated fair values. SFAS No. 107, "Disclosures About Fair Value of Financial Instruments," defines the fair value of a financial instrument as the amount at which the instrument could be exchanged in a current transaction between willing parties. The carrying amounts shown in the table are included in the balance sheet under the indicated captions.
The following methods and assumptions were used to estimate the fair value of each category of financial instruments:
CASH AND SHORT-TERM INVESTMENTS, OTHER RECEIVABLES, ACCOUNTS PAYABLE AND ACCRUED LIABILITIES. The carrying amounts approximate fair value because of the short maturity and market interest rates of those instruments.
RECEIVABLES HELD FOR INVESTMENT. The fair values were estimated by discounting expected cash flows at a risk-adjusted rate of return deemed to be appropriate for investors in such receivables. Expected cash flows take into consideration management's estimates of prepayments, defaults and recoveries.
RECEIVABLES ACQUIRED FOR INVESTMENT. The carrying value approximates fair value. The fair values were estimated by discounting expected cash flows at a risk-adjusted rate of return deemed to be appropriate for investors in such receivables. Expected cash flows take into consideration management's estimates of prepayments, defaults and recoveries.
INVESTMENT IN TRUST CERTIFICATES. The carrying value approximates fair value. The fair values were determined by utilizing prepayment speeds, loss rate assumptions and discount rate assumptions.
TERM NOTES. The fair value was estimated by discounting cash payments using current rates and comparative maturities. Expected cash payments take into consideration prepayments, defaults and recoveries on the underlying collateral.
CREDIT FACILITIES. The carrying amount approximates fair value because of the floating interest rates on the credit facilities.
SWAP AGREEMENTS. The fair value was estimated based on the payment the Company would have to make to or receive from the swap counterparty to terminate the swap agreements.
CAP AGREEMENTS. The fair value was estimated based on the payment the Company would receive from the cap counterparty to terminate the cap agreements.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
11. DEFINED CONTRIBUTION PLAN
Effective May 1, 1994, the Company adopted a participant-directed 401(k) retirement plan for its employees. An employee becomes eligible to participate in the plan immediately upon employment. The Company pays the administrative expenses of the 401(k) plan. The Company also matches a percentage of each participant's voluntary contributions up to a maximum voluntary contribution of 3% of the participant's compensation. In fiscal year 2000, the Company made matching contributions to the 401(k) plan in the amount of $31,954. Prior to fiscal year 2000, no matching contributions were made.
12. SHAREHOLDERS' EQUITY
PREFERRED STOCK. In June 1995, the shareholders approved a new series of preferred stock (New Preferred Stock) with a $1.00 par value, and authorized 1,000,000 shares. As of April 30, 2000, no shares have been issued.
STOCK OPTION PLAN. In June 1995, the Board of Directors adopted the Company's 1995 Employee Stock Option Plan (the Plan). The Plan is administered by the Compensation Committee of the Board of Directors and provides that options may be granted to officers and other key employees for the purchase of up to 300,000 shares of Common Stock, subject to adjustment in the event of certain changes in capitalization. Options may be granted either as incentive stock options (which are intended to qualify for certain favorable tax treatment) or as non-qualified stock options.
The Compensation Committee selects the persons to receive options and determines the exercise price, the duration, any conditions on exercise and other terms of the options. In the case of options intended to be incentive stock options, the exercise price may not be less than 100 percent of the fair market value per share of Common Stock on the date of grant. With respect to non-qualified stock options, the exercise price may be fixed as low as 50 percent of the fair market value per share at the time of grant. In no event may the duration of an option exceed 10 years and no option may be granted after the expiration of 10 years from the adoption of the Plan.
The exercise price of the option is payable in full upon exercise and payment may be in cash, by delivery of shares of Common Stock (valued at their fair market value at the time of exercise), or by a combination of cash and shares. At the discretion of the Compensation Committee, options may be issued in tandem with stock appreciation rights entitling the option holder to receive an amount in cash or in shares of Common Stock, or a combination thereof, equal in value to any increase since the date of grant in the fair market value of the Common Stock covered by the option.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
A summary of the status of the Company's stock option plans for the years ended April 30, 1998, 1999 and 2000 is presented below:
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(1) The option will terminate one year after the Director ceases to be a member of the Board of Directors, except that in the event of the Director's death while serving as a Director the option would be exercisable by his heirs or representatives of his estate for a period of two years after date of death.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company accounts for these plans under APB Opinion No. 25 under which no compensation cost has been recognized. Had compensation cost for these plans been determined consistent with SFAS No. 123, the Company's net income and earnings per share would have been reduced to the following pro forma amounts:
The fair value of each option is estimated on the date of grant using the Black-Scholes option pricing model.
The following weighted-average assumptions were used:
The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options.
13. COMMITMENTS AND CONTINGENCIES
COMMITMENTS TO FUND. As of April 30, 2000, the Company had unfunded receivables in process of approximately $1.8 million.
EMPLOYMENT AGREEMENT. The Company has entered into employment agreements with two key executives which expire July 31, 2000. Each agreement provides for an annual salary plus the potential to earn an annual cash bonus to be determined by the Compensation Committee of the Board of Directors based on the financial results for the fiscal year then ended. In the event the executive is terminated for any reason other than death, disability, mutual agreement or conduct of a material illegal act, he is entitled to a sum equal to the annual salary for the remaining term of the agreement.
LITIGATION. The Company from time to time becomes involved in various routine legal proceedings which are incidental to the business. Management of the Company vigorously defends such matters. As of April 30, 2000, management believes there are no such legal proceedings that would have a material adverse impact on the Company's financial position or results of operations.
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
LEASES. The Company is a party to a lease agreement for office space in Houston that expires on February 28, 2003. The Company is party to a lease agreement for office space in Atlanta which expires on December 31, 2001, with an early termination option by either party anytime on or after June 30, 2000. The Company did exercise this early termination option and entered into a new lease agreement expiring on June 30, 2007. The Company also holds equipment under operating leases which expire in fiscal year 2003. Rent expense for office space and other operating leases for the years ended April 30, 1998, 1999 and 2000, was $289,257, $871,851, $1,149,646, respectively. Required minimum lease payments for the remaining terms of the above leases are:
CAPITAL LEASES. During the year ended April 30, 1999, the Company entered into a sale-and-leaseback transaction for certain of its computer equipment at FISC for approximately $2.1 million. Gain on sale of this transaction was not significant and is being amortized through the term of the lease. For accounting purposes, the Company has treated this transaction as a capital lease in accordance with SFAS No. 13 "Accounting for Leases" and recorded this obligation in Accounts Payable and Accrued Liabilities. Payments are due in monthly installments of $65,178 through 2002 with an implicit interest rate of 8.8 percent. Depreciation on the equipment has been reflected in accordance with the Company's accounting policies.
At April 30, 2000, the aggregate amount of annual principal maturities of the capital lease obligation are as follows:
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
14. EARNINGS PER SHARE
Earnings per share amounts are based on the weighted average number of shares of common stock and potential dilutive common shares outstanding during the period. The weighted average number of shares used to compute basic and diluted earnings per share for the years ended April 30, 1998, 1999 and 2000 are as follows:
At April 30, 2000, the Company had 136,516 employee stock options which were not included in the computation of diluted earnings per share because to do so would have been antidilutive for the period presented.
15. BUSINESS COMBINATIONS
On October 2, 1998, the Company acquired all of the outstanding stock of FISC, a Delaware corporation and wholly-owned subsidiary of Fortis, Inc., for an approximate purchase price of $74.1 million. FISC's principal business activity is the servicing of retail automobile sales contracts. The transaction was treated as a purchase for accounting purposes and results of operations are included in the Company's consolidated financial statements beginning on October 2, 1998. The net book value of the net assets acquired exceeded the purchase price by $8.5 million. Receivables acquired for investment have been recorded net of amounts estimated to be uncollectible over the life of the receivables.
In conjunction with the acquisition, liabilities were assumed as follows:
FIRST INVESTORS FINANCIAL SERVICES GROUP, INC., AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following unaudited pro forma summary presents information as if the acquisition had occurred at the beginning of each fiscal year. The pro forma information is provided for information purposes only. It is based on historical information and does not necessarily reflect the actual results that would have occurred nor is it necessarily indicative of future results of operations of the combined business. In preparing the pro forma data, adjustments have been made to (i) increase the yield on Receivables Acquired for Investment based on the discounted purchase price, (ii) increase interest expense for the financing of the acquisition, (iii) eliminate intercompany costs, (iv) eliminate costs incurred in preparation of the sale of FISC, and (v) adjust the federal and state income tax provisions based on the combined operations.
16. QUARTERLY FINANCIAL DATA (UNAUDITED)
The table below sets forth the unaudited consolidated operating results by quarter for the year ended April 30, 2000.
The table below sets forth the unaudited consolidated operating results by quarter for the year ended April 30, 1999.