Exhibit 19
1st
FRANKLIN
FINANCIAL
CORPORATION
QUARTERLY
REPORT TO INVESTORS
AS OF AND FOR THE
THREE MONTHS ENDED
MARCH 31, 2010
MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following narrative is Management’s discussion and analysis of the foremost factors that influenced 1stFranklin Financial Corporation’s and its consolidated subsidiaries’ (the “Company”, “our” or “we”) operating results and financial condition as of and for the three-month periods ended March 31, 2010 and 2009. This analysis and the accompanying unaudited interim financial information should be read in conjunction with the audited consolidated financial statements and related notes included in the Company’s December 31, 2009 Annual Report. Results achieved in any interim period are not necessarily reflective of the results to be expected for any other interim or full year period.
Forward Looking Statements:
Certain information in this discussion and other statements contained in this Quarterly Report which are not historical facts may be forward-looking statements within the meaning of the federal securities laws. Such forward-looking statements involve known and unknown risks and uncertainties. The Company's actual results, performance or achievements could differ materially from those contemplated, expressed or implied by the forward-looking statements contained herein. Possible factors which could cause actual future results to differ from expectations include, but are not limited to, adverse general economic conditions, including changes in the interest rate environment, unexpected reductions in the size of or collectability of amounts in our loan portfolio, reduced sales or increased redemptions of our securities, unavailability of amounts under our credit facility, federal and state regulatory change s affecting consumer finance companies and unfavorable outcomes in legal proceedings, as well as other factors referenced elsewhere in our filings with the Securities and Exchange Commission from time to time. The Company undertakes no obligation to update any forward-looking statements, except as required by law.
The Company:
We are engaged in the consumer finance business, primarily in making consumer loans to individuals in relatively small amounts for short periods of time. Other lending-related activities include the purchase of sales finance contracts from various dealers and the making first and second mortgage real estate loans on real estate. As of March 31, 2010, the Company’s business was operated through a network of 245 branch offices located in Alabama, Georgia, Louisiana, Mississippi, South Carolina and Tennessee.
We also offer optional credit insurance coverage to our customers when making a loan. Such coverage may include credit life insurance, credit accident and health insurance, and/or credit property insurance. Customers may request credit life insurance coverage to help assure that any outstanding loan balance is repaid if the customer dies before the loan is repaid or they may request accident and health insurance coverage to help continue loan payments if the customer becomes sick or disabled for an extended period of time. Customers may also choose property insurance coverage to protect the value of loan collateral against damage, theft or destruction. We write these various insurance products as an agent for a non-affiliated insurance company. Under various agreements, our wholly-owned insurance subsidiaries, Frandisco Life Insurance Company and Frandisco Property and Casualty Insurance Com pany, reinsure the insurance coverage on our customers written on behalf of this non-affiliated insurance company.
The Company's operations are subject to various state and federal laws and regulations. We believe our operations are in compliance with applicable state and federal laws and regulations.
1
Financial Condition:
Total assets were $387.4 million at March 31, 2010 compared to $396.4 million at December 31, 2009. The decline in assets was primarily due to a $18.5 million (7%) decrease in the Company’s loan portfolio, net of allowance for loan losses. The first quarter of each year is typically the slowest period for the Company’s loan originations and loan payments and payoffs typically exceed new credit extended. The decline during the quarter just ended was comparable to the decline experienced during the first quarter of 2009. Continued uncertainty in the economy has further contributed to the decline in our net loan portfolio as consumers remain more cautious and reluctant to engage in borrowing than in certain historical periods.
The decline in our net loan portfolio during the quarter just ended was not impacted by any fluctuation in the balance in allowance for loan losses. Our allowance for loan losses reflects Management’s judgment of the level of allowance adequate to cover probable losses inherent in our loan portfolio as of the date of the statement of financial condition. To evaluate the overall adequacy of our allowance for loan losses, we consider the level of loan receivables, historical loss trends, loan delinquency trends, bankruptcy trends and overall economic conditions. The ending balance in our allowance for loan losses at March 31, 2010 was at the same level as the balance in the allowance at December 31, 2009, as Management believes the allowance for loan losses continued to be adequate to cover probable losses; however, changes in trends or a deterioration in economic conditions could result in a re-eval uation, and possibly an increase in the allowance. Any additional increase could have a material adverse impact on our results of operations or financial condition in the future.
Also contributing to the decline in total assets was a $1.9 million (13%) decrease in other assets. A reduction in the net depreciable carrying value of fixed assets and a decrease in an insurance commission receivable were the primary causes of the decrease in other assets.
Cash and cash equivalents grew to $34.6 million at March 31, 2010 compared to $26.3 million at December 31, 2009, representing a 32% increase. Funds generated from operations and investing activities continued to enhance the Company’s liquidity position. Management believes the current level of cash and cash equivalents and available borrowings under its credit facility are sufficient to meet the Company’s present and foreseeable future liquidity needs.
As a result of the aforementioned increase in surplus funds, our investment portfolio increased $3.0 million (4%) as Management reallocated a portion of the funds in an attempt to increase our potential yield. The Company's investment portfolio consists mainly of U.S. Treasury bonds, government agency bonds and various municipal bonds. A significant portion of these investment securities have been designated as “available for sale” (85% as of March 31, 2010 and 86% as of December 31, 2009) with any unrealized gain or loss, net of deferred income taxes, accounted for as accumulated other comprehensive income in the equity section of the Company’s balance sheet. The remainder of the Company’s investment portfolio represents securities carried at amortized cost and designated as “held to maturity,” as Management has both the ability and intent to hold these securities to maturity.
Senior and subordinated debt declined $10.6 million (4%) to $251.1 million at March 31, 2010 compared to $261.7 million at December 31, 2009. The primary factor responsible for the decline was the payoff of our $16.8 million credit line balance outstanding at December 31, 2009. A $3.5 million reduction in subordinated debt outstanding, due to redemptions by investors, was also a principal factor contributing to the decline. Offsetting a portion of the decline in senior debt was a $9.5 million increase in commercial paper issued by the Company during the same period.
Disbursement of the Company’s annual incentive bonus in February 2010, which had previously been accrued in 2009, was the primary reason for the $2.0 million (11%) decrease in accrued expenses and other liabilities at March 31, 2010 compared to the prior year-end.
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Results of Operations:
Total revenues were $35.4 million during the three-month period ended March 31, 2010 compared to $34.9 million during the same three-month period ended March 31, 2009 mainly due to higher finance charge income on the Company’s loan portfolio. Higher revenues and a reduction in the Company’s loan loss provision and overall operating expenses resulted in a $2.6 million (172%) increase in net income in the 2010 comparable period.
Net Interest Margin
The net interest margin represents a measure between interest and finance charges earned on loans and investments and interest incurred on the Company’s senior and subordinated debt. Our net interest income increased $.4 million (2%) during the three-month period ended March 31, 2010 compared to the same three-month period a year ago mainly due to higher earnings on the loan portfolio. The higher earnings were attributed to average net receivables being approximately $.9 million higher during the current year as compared to the same period a year ago. A slight increase in the yield on our loan portfolio during the three-month period just ended also contributed to the higher income.
Average debt increased approximately $.2 million during the 2010 comparable period, and the interest expense thereon was only slightly higher. The resulting impact on our net interest margin was insignificant.
Management projects that, based on historical results, average net receivables will grow through the remainder of the year, and earnings are expected to increase accordingly. However, an increase in interest rates or outstanding borrowings could negatively impact our net interest margin.
Insurance Income
Insurance premium income during the three-month period ended March 31, 2010 mirrored the premium income earned during the comparable period a year ago. The Company did incur slightly higher insurance claims and expenses during the 2010 period.
Provision for Loan Losses
The Company’s provision for loan losses represents the level of net charge offs and adjustments to the allowance for loan losses to cover credit losses inherent in the outstanding loan portfolio as of the balance sheet date. As previously mentioned, the allowance for loan losses is an estimate of the probable credit losses inherent in our loan portfolio as of the balance sheet date. Determining a proper allowance for loan losses is a critical accounting estimate which involves Management’s judgment on certain relevant factors, such as historical and expected loss trends, current and expected net charge offs, delinquency levels, bankruptcy trends and overall economic conditions.
Our provision for loan losses declined $1.9 million (26%) during the three-month period ended March 31, 2010 compared to the three-month period ended March 31, 2009. Lower credit losses during the current year and the maintenance of the allowance for loan losses at the December 31, 2009 level were the main factors contributing to the decrease. During the three-month period ended March 31, 2009, Management increased the allowance $1.5 million due to the deteriorating economic conditions, higher delinquency trends and higher credit losses.
As previously mentioned, Management believes the allowance for loan losses is adequate to absorb inherent losses in the loan portfolio as of March 31, 2010. However, actual losses could vary from our estimated amounts. If necessary, Management may determine it is appropriate to increase the allowance for loan losses in a future period, which could have a negative impact on our results of operations in the future.
Other Operating Expenses
Personnel expense increased $.2 million (2%) during the three-month period ended March 31, 2010 compared to the same period a year ago. A $.8 million increase in the current year incentive bonus accrual was the main reason for the increase in personnel expense. Offsetting a portion of the increase was a $.2 million decrease in salary expense during the current year as a result of a reduction in our employee base in June 2009. Also offsetting the increase in personnel expense during the current year was a decline in medical claims expense associated with the Company’s self insured employee medical program.
Occupancy expense decreased $.4 million (14%) during the three-month period March 31, 2010 compared to the same period a year ago. The decrease was mainly due to a non-recurring charge incurred during first quarter of 2009 to buy-out certain operating leases on computer equipment.
Reductions in advertising expenditures, collection expenses, legal and audit expense and travel expenses were contributing factors in the $.1 million (3%) decrease in other operating expenses during the three-month period just ended compared to the same period a year ago. A reduction in lease payments on computer equipment due to the aforementioned buy-out of capital leases in the first quarter of 2009 also contributed to the decrease on other operating expenses.
Income Taxes:
The Company has elected to be, and is, treated as an S Corporation for income tax reporting purposes. Taxable income or loss of an S Corporation is passed through to, and included in the individual tax returns of, the shareholders of the Company, rather then being taxed at the corporate level. Notwithstanding this election, however, income taxes continue to be reported for, and paid by, the Company's insurance subsidiaries as they are not allowed to be treated as S corporations, and for the Company’s state taxes in Louisiana, which does not recognize S Corporation status. Deferred income tax assets and liabilities are recognized and provisions for current and deferred income taxes continue to be recorded by the Company’s subsidiaries. The deferred income tax assets and liabilities are due to certain temporary differences between reported income and expenses for financial statement and in come tax purposes.
Effective income tax rates were 13% and 29% during the three-month periods ended March 31, 2010 and 2009, respectively. The lower tax rate experienced during the current year period was due to higher income at the S Corporation level which was passed to the shareholders of the Company for tax reporting purposes, whereas income earned at the insurance subsidiary level was taxed at the corporate level.
Quantitative and Qualitative Disclosures About Market Risk:
Interest rates have continued to be at historical low levels during the reporting period. We currently expect only minimal fluctuations in market interest rates during the remainder of the year, thereby minimizing the impact on our net interest margin; however, no assurances can be given in this regard. Please
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refer to the market risk analysis discussion contained in our annual report on Form 10-K as of and for the year ended December 31, 2009 for a more detailed analysis of our market risk exposure, which we do not believe has changed materially since such date.
Liquidity and Capital Resources:
As of March 31, 2010 and December 31, 2009, the Company had $34.6 million and $26.2 million, respectively, invested in cash and short-term investments, the majority of which was held by the Company’s insurance subsidiaries.
The Company’s investments in marketable securities can be converted into cash, if necessary. State insurance regulations limit the use an insurance company can make of its assets. Dividend payments to a parent company by its wholly owned insurance subsidiaries are subject to annual limitations and are restricted to the greater of 10% of policyholders’ surplus or statutory earnings before recognizing realized investment gains of the individual insurance subsidiaries. At December 31, 2009, Frandisco Property and Casualty Insurance Company and Frandisco Life Insurance Company, the Company’s wholly-owned insurance subsidiaries, had policyholders’ surpluses of $33.3 million and $35.0 million, respectively. The maximum aggregate amount of dividends these subsidiaries can pay to the Company in 2010, without prior approval of the Georgia Insurance Commissioner, is approximately $8.5 mi llion.
The majority of the Company’s liquidity requirements of the Company are financed through the collection of receivables and through the sale of short- and long-term debt securities. The Company’s continued liquidity is therefore dependent on the collection of its receivables and the sale of debt securities that meet the investment requirements of the public. In addition to its receivables and securities sales, the Company has an external source of funds available under a credit facility with Wells Fargo Preferred Capital, Inc. The credit agreement provides for borrowings of up to $100.0 million, subject to certain limitations, and all borrowings are secured by the finance receivables of the Company. Available borrowings under the credit agreement were $100.0 million at March 31, 2010, at an interest rate of 3.75%. This compares to available borrowings of $83.8 million at December 31 , 2009, at an interest rate of 3.75%. The credit agreement contains covenants customary for financing transactions of this type. At March 31, 2010, the Company was in compliance with all covenants. The agreement is scheduled to expire on September 11, 2012 and any amounts then outstanding will be due and payable on such date. Management believes this credit facility should provide sufficient liquidity for the continued growth of the Company.
The Company was subject to the following contractual obligations and commitments at March 31, 2010:
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| | | | | | | |
| 4/01/2010 thru 12/31/2010 |
2011 |
2012 |
2013 |
2014 |
2015 & Beyond |
Total |
| (in Millions) |
Credit Line * | $ - | $ - | $ - | $ - | $ - | $ - | $ - |
Bank Commitment Fee * | .4 | .5 | .5 | .4 | - | - | 1.8 |
Senior Notes * | 41.4 | - | - | - | - | - | 41.4 |
Commercial Paper * | 140.9 | - | - | - | - | - | 140.9 |
Subordinated Debt * | 16.7 | 25.2 | 18.1 | 19.5 | 5.9 | - | 85.4 |
Human Resource Insurance & Support Contracts |
.3 |
- |
- |
- |
- |
- |
.3 |
Operating Leases | 3.2 | 3.3 | 2.4 | 1.4 | .4 | .1 | 10.8 |
Data Communication Lines Contract ** |
2.5 |
3.0 |
.4 |
- |
- |
- |
5.9 |
Software Service Contract ** |
1.9 |
2.5 |
2.5 |
2.5 |
2.5 |
12.4 |
24.3 |
Total | $ 207.3 | $ 34.5 | $ 23.9 | $ 23.8 | $ 8.8 | $ 12.5 | $ 310.8 |
|
* Note: Includes estimated interest at current rates ** Note: Based on current usage |
Critical Accounting Policies:
The accounting and reporting policies of the Company are in accordance with accounting principles generally accepted in the United States and conform to general practices within the financial services industry. The Company’s more critical accounting and reporting policies include the allowance for loan losses, revenue recognition and insurance claims reserves.
Allowance for Loan Losses:
Provision for loan losses are charged to operations in amounts sufficient to maintain the allowance for loan losses at a level considered adequate to cover probable losses inherent in our loan portfolio.
The allowance for loan losses is established based on the determination of the amount of probable losses inherent in the loan portfolio as of the reporting date. We review charge off experience factors, delinquency reports, historical collection rates, estimates of the value of the underlying collateral, economic trends such as unemployment rates and bankruptcy filings and other information in order to make the necessary judgments as to probable losses. Assumptions regarding probable losses are reviewed periodically and may be impacted by our actual loss experience and changes in any of the factors discussed above.
Revenue Recognition:
Accounting principles generally accepted in the United States require that an interest yield method be used to calculate the income recognized on accounts which have precomputed charges. An interest yield method is used by the Company on each individual account with precomputed charges to calculate income for those active accounts; however, state regulations often allow interest refunds to be made according to the Rule of 78’s method for payoffs and renewals. Since the majority of the Company's accounts with precomputed charges are paid off or renewed prior to maturity, the result is that most of those accounts effectively yield on a Rule of 78's basis.
Precomputed finance charges are included in the gross amount of certain direct cash loans, sales finance contracts and certain real estate loans. These precomputed charges are deferred and recognized as income on an accrual basis using the effective interest method. Some other cash loans and real estate loans, which do not have precomputed charges, have income recognized on a simple interest accrual basis. Income is not accrued on any loan that is more than 60 days past due.
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Loan fees and origination costs are deferred and recognized as adjustments to the loan yield over the contractual life of the related loan.
The property and casualty credit insurance policies written by the Company, as agent for a non-affiliated insurance company, are reinsured by the Company’s property and casualty insurance subsidiary. The premiums on these policies are deferred and earned over the period of insurance coverage using the pro-rata method or the effective yield method, depending on whether the amount of insurance coverage generally remains level or declines.
The credit life and accident and health insurance policies written by the Company, as agent for a non-affiliated insurance company, are reinsured by the Company’s life insurance subsidiary. The premiums are deferred and earned using the pro-rata method for level-term life insurance policies and the effective yield method for decreasing-term life policies. Premiums on accident and health insurance policies are earned based on an average of the pro-rata method and the effective yield method.
Insurance Claims Reserves:
Included in unearned insurance premiums and commissions on the consolidated statements of financial position are reserves for incurred but unpaid credit insurance claims for policies written by the Company and reinsured by the Company’s wholly-owned insurance subsidiaries. These reserves are established based on generally accepted actuarial methods. In the event that the Company’s actual reported losses for any given period are materially in excess of the previous estimated amounts, such losses could have a material adverse effect on the Company’s results of operations.
Different assumptions in the application of any of these policies could result in material changes in the Company’s consolidated financial position or consolidated results of operations.
Recent Accounting Pronouncements:
See Note 1, “Recent Accounting Pronouncements,” in the accompanying “Notes to Unaudited Condensed Consolidated Financial Statements” for discussion of new accounting standards and the expected impact of accounting standards recently issued but not yet required to be adopted. For pronouncements already adopted, any material impacts on the Company’s financial statements are discussed in the applicable section(s) of the Management’s Discussion and Analysis and Notes to Unaudited Condensed Consolidated Financial Statements.
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| | |
1st FRANKLIN FINANCIAL CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL POSITION (Unaudited) |
| | |
| March 31, | December 31, |
| 2010 | 2009 |
ASSETS |
| | |
CASH AND CASH EQUIVALENTS | $ 34,607,578 | $ 26,287,690 |
| | |
RESTRICTED CASH | 3,087,217 | 3,067,695 |
| | |
LOANS: Direct Cash Loans Real Estate Loans Sales Finance Contracts
Less: Unearned Finance Charges Unearned Insurance Premiums and Commissions Allowance for Loan Losses Net Loans |
304,038,180 23,107,743 22,283,030 349,428,953
39,280,472 22,968,980 26,610,085 260,569,416 |
327,424,876 24,336,405 23,071,118 374,832,399
43,331,239 25,797,624 26,610,085 279,093,451 |
| | |
INVESTMENT SECURITIES: Available for Sale, at fair market value Held to Maturity, at amortized cost |
65,241,571 11,246,755 76,488,326 |
63,126,997 10,330,725 73,457,722 |
| | |
OTHER ASSETS | 12,659,006 | 14,518,622 |
| | |
TOTAL ASSETS | $ 387,411,543 | $ 396,425,180 |
| | |
LIABILITIES AND STOCKHOLDERS' EQUITY |
| | |
SENIOR DEBT | $ 179,737,609 | $ 186,848,851 |
ACCRUED EXPENSES AND OTHER LIABILITIES | 15,569,352 | 17,577,438 |
SUBORDINATED DEBT | 71,349,758 | 74,883,979 |
Total Liabilities | 266,656,719 | 279,310,268 |
| | |
STOCKHOLDERS' EQUITY: | | |
Preferred Stock: $100 par value, 6,000 shares authorized; no shares outstanding |
-- |
-- |
Common Stock Voting Shares; $100 par value; 2,000 shares authorized; 1,700 shares outstanding Non-Voting Shares; no par value; 198,000 shares authorized; 168,300 shares outstanding |
170,000
-- |
170,000
-- |
Accumulated Other Comprehensive Income | 1,639,711 | 1,696,845 |
Retained Earnings | 118,945,113 | 115,248,067 |
Total Stockholders' Equity | 120,754,824 | 117,114,912 |
| | |
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY |
$ 387,411,543 |
$ 396,425,180 |
|
See Notes to Unaudited Condensed Consolidated Financial Statements |
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| | |
1st FRANKLIN FINANCIAL CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND RETAINED EARNINGS (Unaudited) |
| | |
| Quarter Ended |
| March 31, |
| 2010 | 2009 |
| | |
INTEREST INCOME | $ 25,450,374 | $ 25,042,534 |
INTEREST EXPENSE | 3,288,447 | 3,263,529 |
NET INTEREST INCOME | 22,161,927 | 21,779,005 |
| | |
Provision for Loan Losses | 5,603,384 | 7,522,233 |
| | |
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES |
16,558,543 |
14,256,772 |
| | |
NET INSURANCE INCOME Premiums Insurance Claims and Expenses |
8,933,781 1,943,997 6,989,784 |
8,928,165 1,852,824 7,075,341 |
| | |
OTHER REVENUE | 977,251 | 957,482 |
| | |
OTHER OPERATING EXPENSES: Personnel Expense Occupancy Expense Other Total |
12,727,120 2,679,897 4,445,258 19,852,275 |
12,488,415 3,117,105 4,567,987 20,173,507 |
| | |
INCOME BEFORE INCOME TAXES | 4,673,303 | 2,116,088 |
| | |
Provision for Income Taxes | 598,997 | 615,932 |
| | |
NET INCOME | 4,074,306 | 1,500,156 |
| | |
RETAINED EARNINGS, Beginning of Period | 115,248,067 | 115,633,371 |
Distributions on Common Stock | 377,260 | 7,148,800 |
RETAINED EARNINGS, End of Period | $118,945,113 | $109,984,727 |
| | |
BASIC EARNINGS PER SHARE: 170,000 Shares Outstanding for all Periods (1,700 voting, 168,300 non-voting) |
$23.97 |
$8.82 |
| |
See Notes to Unaudited Condensed Consolidated Financial Statements |
|
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| | |
1ST FRANKLIN FINANCIAL CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) |
| | |
| Three Months Ended |
| March 31, |
| 2010 | 2009 |
| | |
CASH FLOWS FROM OPERATING ACTIVITIES: | | |
Net Income | $ 4,074,306 | $ 1,500,156 |
Adjustments to reconcile net income to net cash provided by operating activities: Provision for Loan Losses Depreciation and Amortization Benefit from Deferred Income Taxes Other, net Decrease in Miscellaneous Assets Decrease in Other Liabilities Net Cash Provided |
5,603,384 629,574 (52,414) 97,757 1,295,284 (1,855,936) 9,791,955 |
7,522,233 651,586 (91,031) 87,549 1,133,165 (2,941,433) 7,862,225 |
| | |
CASH FLOWS FROM INVESTING ACTIVITIES: | | |
Loans originated or purchased Loan payments (Increase) decrease in restricted cash Purchases of marketable debt securities Redemptions of marketable debt securities Fixed asset additions, net Net Cash Provided | (46,083,996) 59,004,647 (19,522) (5,098,208) 1,820,000 (72,265) 9,550,656 | (41,224,098) 53,964,336 213 -- 2,510,000 (290,945) 14,959,506 |
| | |
CASH FLOWS FROM FINANCING ACTIVITIES: | | |
Decrease in senior demand notes Advances on credit line Payments on credit line Commercial paper issued Commercial paper redeemed Subordinated debt issued Subordinated debt redeemed Dividends / Distributions Net Cash Used | (416,451) 8,689,883 (24,894,192) 13,982,872 (4,473,354) 1,340,960 (4,875,181) (377,260) (11,022,723) | (197,764) 21,983,000 (27,456,000) 12,809,549 (6,372,949) 2,727,240 (11,310,591) (7,148,800) (14,966,315) |
| | |
NET INCREASE CASH AND CASH EQUIVALENTS | 8,319,888 | 7,855,416 |
| | |
CASH AND CASH EQUIVALENTS, beginning | 26,287,690 | 3,160,426 |
| | |
CASH AND CASH EQUIVALENTS, ending | $ 34,607,578 | $ 11,015,842 |
| | |
| | |
Cash paid during the period for: Interest Income Taxes | $ 3,288,447 50,000 | $ 3,254,243 2,915 |
| | |
See Notes to Unaudited Condensed Consolidated Financial Statements |
| | |
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-NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS-
Note 1 – Basis of Presentation
The accompanying unaudited interim financial information of 1st Franklin Financial Corporation and subsidiaries (the "Company") should be read in conjunction with the audited consolidated financial statements of the Company and notes thereto as of December 31, 2009 and for the year then ended included in the Company's December 31, 2009 Annual Report filed with the Securities and Exchange Commission.
In the opinion of Management of the Company, the accompanying unaudited consolidated financial statements contain all adjustments (consisting of only normal recurring accruals) necessary to present fairly the Company's financial position as of March 31, 2010 and December 31, 2009 and the results of its operations and cash flows for the three months ended March 31, 2010 and 2009. While certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission, the Company believes that the disclosures herein are adequate to make the information presented not misleading.
The results of operations for the three months ended March 31, 2010 are not necessarily indicative of the results to be expected for the full fiscal year or any other future period. The preparation of financial statements in accordance with GAAP requires Management to make estimates and assumptions that affect the reported amount of assets and liabilities at and as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ materially from those estimates.
The computation of earnings per share is self-evident from the Condensed Consolidated Statements of Income and Retained Earnings.
Recent Accounting Pronouncements:
In January 2010, the FASB issued ASU 2010-06, “Fair Value Measurements and Disclosures (Topic 820).” ASU No. 820 clarifies two existing disclosure requirements and requires two new disclosures as follows: (1) a “gross” presentation of activities within the Level 3 reconciliation, which replaces the “net” presentation format; and (2) detailed disclosures about the transfers in and out of Level 1 and 2 measurements. The new disclosures and clarifications of existing disclosures are effective for interim and annual reporting periods beginning after December 15, 2009, except for the gross presentation of the Level 3 information, which is required for annual reporting periods beginning after December 15, 2010, and for interim reporting periods within those years. The Company adopted the fair value disclosure guidance on January 1, 2010 and there was no material impact on the Company’s financial statements.
Note 2 – Allowance for Loan Losses
An analysis of the allowance for loan losses for the nine-month periods ended March 31, 2010 and 2009 is shown in the following table:
| | | |
| | Three Months Ended March 31, 2010 | Three Months Ended March 31, 2009 |
| Beginning Balance Provision for Loan Losses Charge-offs Recoveries Ending Balance | $ 26,610,085 5,603,384 (7,702,950) 2,099,566 $ 26,610,085 | $ 23,010,085 7,522,233 (7,877,691) 1,855,458 $ 24,510,085 |
Note 3 – Investment Securities
Debt securities available-for-sale are carried at estimated fair market value. Debt securities designated as "Held to Maturity" are carried at amortized cost based on Management's intent and ability to hold such securities to maturity. The amortized cost and estimated fair market values of these debt securities were as follows:
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| | | | | |
| | As of March 31, 2010 | As of December 31, 2009 |
| |
Amortized Cost | Estimated Fair Market Value |
Amortized Cost | Estimated Fair Market Value |
| Available-for-Sale: Obligations of states and political subdivisions Corporate securities |
$ 63,142,194 130,316 $ 63,272,510 |
$ 64,809,415 432,156 $ 65,241,571 |
$ 60,870,751 130,316 $ 61,001,067 |
$ 62,724,471 402,526 $ 63,126,997 |
| | | | | |
| Held to Maturity: U.S. Treasury securities and obligations of U.S. government corporations and agencies Obligations of states and political subdivisions |
$ 499,813
10,746,942 $ 11,246,755 |
$ 503,424
11,008,629 $ 11,512,053 |
$ 499,618
9,831,107 $ 10,330,725 |
$ 507,073
10,129,762 $ 10,636,835 |
Gross unrealized losses on investment securities totaled $124,336 and $86,688 at March 31, 2010 and December 31, 2009, respectively. The following table provides an analysis of investment securities in an unrealized loss position for which other-than-temporary impairments have not been recognized as of March 31, 2010:
| | | | | | |
| Less than 12 Months | 12 Months or Longer | Total |
| Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | Fair Value | Unrealized Losses |
Available for Sale: | | | | | | |
Obligations of states and political subdivisions |
$ 7,443,932 |
$ 77,816 |
$ 3,108,949 |
$ 41,600 |
$ 10,552,881 |
$ 119,416 |
Total | 7,443,932 | 77,816 | 3,108,949 | 41,600 | 10,552,881 | 119,416 |
| | | | | | |
Held to Maturity: | | | | | | |
Obligations of states and political subdivisions |
$ 1,114,485 |
$ 2,273 |
$ 252,940 |
$ 2,647 |
$ 1,367,425 |
$ 4,920 |
Total | 1,114,485 | 2,273 | 252,940 | 2,647 | 1,367,425 | 4,920 |
| | | | | | |
Overall Total | $ 8.558.417 | $ 80,089 | $ 3,361,889 | $ 44,247 | $ 11,920,306 | $ 124,336 |
11
The table above represents 26 investments held by the Company, the majority of which are rated “A” or higher by Standard & Poor’s. The unrealized losses on the Company’s investments listed in the above table were primarily the result of interest rate increases. The total impairment was less than 1.10% of the fair value of the affected investments at March 31, 2010. Based on the ratings of these investments, the Company’s ability and intent to hold these investments until a recovery of fair value along with the consideration of whether the Company will be more likely than not required to sell the security before recovery of fair value, and after considering the severity and duration of the impairments, the Company does not consider the impairment of any of these investments to be other-than-temporary at March 31, 2010.
The Company’s insurance subsidiaries internally designate certain investments to cover their policy reserves and loss reserves. On June 19, 2008, the Company’s property and casualty insurance subsidiary (“Frandisco P&C”) entered into a trust agreement with Synovus Trust Company, N.A. and Voyager Indemnity Insurance Company (“Voyager”). The trust was created to hold deposits to cover policy reserves and loss reserves of Frandisco P&C. In July 2008, Frandisco P&C funded the trust with approximately $20.0 million of investment securities. This amount will change as required reserves change. All earnings on assets in the trust are remitted to Frandisco P&C. Any charges associated with the trust are paid by Voyager.
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Note 4 – Fair Value
The following methods and assumptions are used by the Company in estimating fair values for financial instruments:
Cash and Cash Equivalents: Cash includes cash on hand and with banks. Cash equivalents are short-term highly liquid investments with original maturities of three months or less. The carrying value of cash and cash equivalents approximates fair value due to the relatively short period of time between origination of the instruments and their expected realization.
Loans: The fair value of the Company’s direct cash loans and sales finance contracts approximates the carrying value since the estimated life, assuming prepayments, is short-term in nature. The fair value of the Company’s real estate loans approximate the carrying value since the interest rate charged by the Company approximates market rates.
Marketable Debt Securities: The fair value of marketable debt securities is based on quoted market prices. If a quoted market price is not available, fair value is estimated using market prices for similar securities. See additional information below regarding fair value under ASC 820 (SFAS No. 157).
Senior Debt: The carrying value of the Company’s senior debt securities approximate fair value due to the relatively short period of time between the origination of the instruments and their expected payment.
Subordinated Debt: The carrying value of the Company’s variable rate subordinated debt approximates fair value due to the re-pricing frequency of the securities.
Under ASC 820, fair value is the price that would be received upon sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The following fair value hierarchy is used in selecting inputs used to determine the fair value of an asset or liability, with the highest priority given to Level 1, as these are the most transparent or reliable.
Level 1 - Quoted prices for identical instruments in active markets.
Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs are observable in active markets.
Level 3 - Valuations derived from valuation techniques in which one or more significant inputs are unobservable.
The Company is responsible for the valuation process and as part of this process may use data from outside sources in establishing fair value. The Company performs due diligence to understand the inputs or how the data was calculated or derived. The Company corroborates the reasonableness of external inputs in the valuation process. To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires significantly more judgment. We use prices and inputs that are current as of the measurement date, including during periods of market dislocation. In periods of market dislocation, the observation of prices and inputs may be reduced for many instruments. This condition could cause an instrument to be reclassified between levels.
Assets measured at fair value as of March 31, 2010 and December 31, 2009 were available-for-sale investment securities which are summarized below:
| | | | |
| | Fair Value Measurements at Reporting Date Using |
| | Quoted Prices | | |
| | In Active | Significant | |
| | Markets for | Other | Significant |
| | Identical | Observable | Unobservable |
| | Assets | Inputs | Inputs |
Description | 3/31/2010 | (Level 1) | (Level 2) | (Level 3) |
| | | | |
Corporate securities Obligations of states and political subdivisions Total | $ 432,156
64,809,415 $ 65,241,571 | $ 432,156
-- $ 432.156 | $ --
64,809,415 $ 64,809,415 | $ --
-- $ -- |
| | | | |
| | Fair Value Measurements at Reporting Date Using |
| | Quoted Prices | | |
| | In Active | Significant | |
| | Markets for | Other | Significant |
| | Identical | Observable | Unobservable |
| | Assets | Inputs | Inputs |
Description | 12/31/2009 | (Level 1) | (Level 2) | (Level 3) |
| | | | |
Corporate securities Obligations of states and political subdivisions Total | $ 402,525
62,724,472 $ 63,126,997 | $ 402,525
-- $ 402.525 | $ --
62,724,472 $ 62,724,472 | $ --
-- $ -- |
Note 5 – Commitments and Contingencies
The Company is involved in various legal proceedings incidental to its business from time to time. In the opinion of Management, the ultimate resolution of any such known claims or proceedings is not expected to have a material effect on the Company's financial position, liquidity or results of operations.
13
Note 6 – Income Taxes
Effective income tax rates were 13% and 29% during the three-month periods ended March 31, 2010 and 2009, respectively. The Company has elected to be, and is, treated as an S Corporation for income tax reporting purposes. Taxable income or loss of an S Corporation is passed through to, and included in the individual tax returns of the stockholders of the Company, rather than being taxed at the corporate level. Notwithstanding this election, income taxes are reported for, and paid by, the Company's insurance subsidiaries, as they are not allowed by law to be treated as S Corporations, as well as for the Company in Louisiana, which does not recognize S Corporation status. The tax rates of the Company’s insurance subsidiaries are below statutory rates due to (i) certain benefits provided by law to life insurance companies, which reduce the effective tax rates and (ii) investment s in tax exempt bonds held by the Company’s property insurance subsidiary.
Note 7 – Other Comprehensive Income
Total comprehensive income was $4.0 million for the three-month period ended March 31, 2010, as compared to $2.1 million for the same period in 2009.
Accumulated other comprehensive income consisted solely of unrealized gains and losses on investment securities available for sale, net of applicable deferred taxes. The Company recorded $57,134 in other comprehensive losses during the three-month period ended March 31, 2010 as compared to $590,144 in other comprehensive income during the three-month period ended March 31, 2009.
Note 8 – Credit Agreement
Effective September 11, 2009, the Company entered into a new credit facility (the “credit agreement”), which initially provided for maximum borrowings of $60.0 million or 80% of the Company’s net finance receivables (as defined in the new credit agreement), whichever is less. The credit agreement has a commitment termination date of September 11, 2012 and contains covenants customary for financing transactions of this type. The Company was in compliance with all covenants at March 31, 2010. Effective November 3, 2009, the credit facility was amended to increase the maximum available borrowings to $100.0 million or 80% of the Company’s net finance receivables (as defined in the new credit agreement), whichever is less. Borrowings under the credit agreement are secured by the Company’s finance receivables. Available borrowings under the credit agreemen t were $100.0 million at March 31, 2010 compared to $83.8 million at December 31, 2009.
Note 9 – Related Party Transactions
The Company engages from time to time in other transactions with related parties. Please refer to the disclosure contained under the heading “Certain Relationships and Related Transactions” in the Company’s Annual Report on Form 10-K as of and for the year ended December 31, 2009 for additional information on such transactions.
Note 10 – Segment Financial Information
The Company has six reportable segments. Division I through Division V and Division VII. Each segment is comprised of a number of branch offices that are aggregated based on vice president responsibility and geographic location. Division I is comprised of offices located in South Carolina. Offices in North Georgia comprise Division II, Division III is comprised of offices in South Georgia, and Division VII is comprised of offices in West Georgia. Division IV represents our Alabama and Tennessee offices, and our offices in Louisiana and Mississippi encompass Division V. Division VI is reserved for future use.
Accounting policies of the segments are the same as those described in the summary of significant accounting policies. Performance is measured based on objectives set at the beginning of each year and include various factors such as segment profit, growth in earning assets and delinquency and loan loss management. All segment revenues result from transactions with third parties. The Company does not allocate income taxes or corporate headquarter expenses to the segments.
In accordance with the requirements of SFAS No. 131 (Now ASC 280), “Segment Reporting,” the following table summarizes assets, revenues and profit by business segment. Also in accordance therewith, a reconciliation to consolidated net income is also provided.
14
| | | | | | | |
| Division | Division | Division | Division | Division | Division | |
| I | II | III | IV | V | VII | Total |
| (in Thousands) |
Segment Revenues: | | | | | | | |
3 Months ended 3/31/2010 | $ 4,266 | $ 6,214 | $ 6,340 | $ 6,383 | $ 5,620 | $ 4,280 | $ 33,103 |
3 Months ended 3/31/2009 | 4,395 | 6,009 | 6,458 | 6,130 | 5,513 | 4,372 | 32,877 |
| | | | | | | |
Segment Profit: | | | | | | | |
3 Months ended 3/31/2010 | $ 1,083 | $ 2,227 | $ 2,415 | $ 1,272 | $ 1,697 | $ 1,573 | $ 10,267 |
3 Months ended 3/31/2009 | 532 | 1,918 | 1,933 | 1,741 | 1,608 | 1,215 | 8,947 |
| | | | | | | |
Segment Assets: | | | | | | | |
3/31/2010 | $ 36,278 | $59,187 | $58,825 | $ 66,618 | $45,082 | $39,473 | $ 305,463 |
3/31/2009 | 37,876 | 58,392 | 59,989 | 64,690 | 43,923 | 41,968 | 306,838 |
| | | | | | | |
| | | 3 Months Ended 3/31/2010 (in Thousands) | 3 Months Ended 3/31/2009 (in Thousands) | | | |
Reconciliation of Profit: | | | | | | | |
Profit per segments | $ 10,267 | $ 8,947 | | | |
Corporate earnings not allocated | 2,258 | 2,052 | | | |
Corporate expenses not allocated | (7,852) | (8,883) | | | |
Income taxes not allocated | (599) | (616) | | | |
Net income | $ 4,074 | $ 1,500 | | | |
| |
BRANCH OPERATIONS |
Ronald E. Byerly | Vice President |
Dianne H. Moore | Vice President |
Ronald F. Morrow | Vice President |
J. Patrick Smith, III | Vice President |
Virginia K. Palmer | Vice President |
Michael J. Whitaker | Vice President |
| |
| | | |
REGIONAL OPERATIONS DIRECTORS |
Sonya Acosta | Joe Daniel | Sharon Langford | Marty Miskelly |
Bert Brown | Loy Davis | Jeff Lee | Larry Mixson |
Keith Chavis | Carla Eldridge | Tommy Lennon | Mike Olive |
Joe Cherry | Shelia Garrett | Jimmy Mahaffey | Hilda Phillips |
Janice Childers | Brian Gray | John Massey | Jennifer Purser |
Rick Childress | Harriet Healey | Judy Mayben | Henrietta Reathford |
Bryan Cook | Gail Huff | Vicky McCleod | Michelle Rentz |
Richard Corirossi | Jerry Hughes | Brian McSwain | Marc Thomas |
Jeremy Cranfield | Judy Landon | Roy Metzger | Lynn Vaughan |
| | | | | |
BRANCH OPERATIONS |
|
ALABAMA |
Adamsville | Bessemer | Enterprise | Huntsville (2) | Opp | Scottsboro |
Albertville | Center Point | Fayette | Jasper | Oxford | Selma |
Alexander City | Clanton | Florence | Moody | Ozark | Sylacauga |
Andalusia | Cullman | Fort Payne | Moulton | Pelham | Troy |
Arab | Decatur | Gadsden | Muscle Shoals | Prattville | Tuscaloosa |
Athens | Dothan (2) | Hamilton | Opelika | Russellville (2) | Wetumpka |
| | | | | |
GEORGIA |
Adel | Canton | Dahlonega | Glennville | Madison | Statesboro |
Albany | Carrollton | Dallas | Gray | Manchester | Stockbridge |
Alma | Cartersville | Dalton | Greensboro | McDonough | Swainsboro |
Americus | Cedartown | Dawson | Griffin (2) | Milledgeville | Sylvania |
Athens (2) | Chatsworth | Douglas (2) | Hartwell | Monroe | Sylvester |
Bainbridge | Clarkesville | Douglasville | Hawkinsville | Montezuma | Thomaston |
Barnesville | Claxton | East Ellijay | Hazlehurst | Monticello | Thomson |
Baxley | Clayton | Eastman | Helena | Moultrie | Tifton |
Blairsville | Cleveland | Eatonton | Hinesville (2) | Nashville | Toccoa |
Blakely | Cochran | Elberton | Hogansville | Newnan | Valdosta |
Blue Ridge | Colquitt | Fitzgerald | Jackson | Perry | Vidalia |
Bremen | Commerce | Flowery Branch | Jasper | Pooler | Villa Rica |
Brunswick | Conyers | Forsyth | Jefferson | Richmond Hill | Warner Robins |
Buford | Cordele | Fort Valley | Jesup | Rome | Washington |
Butler | Cornelia | Gainesville | LaGrange | Royston | Waycross |
Cairo | Covington | Garden City | Lavonia | Sandersville | Waynesboro |
Calhoun | Cumming | Georgetown | Lawrenceville | Savannah | Winder |
| | | | | |
BRANCH OPERATIONS |
(Continued) |
|
LOUISIANA |
Alexandria | DeRidder | Houma | Marksville | New Iberia | Prairieville |
Bossier City | Eunice | Jena | Minden | Opelousas | Ruston |
Crowley | Franklin | Lafayette | Morgan City | Pineville | Slidell |
Denham Springs | Hammond | Leesville | Natchitoches | | |
|
MISSISSIPPI |
Batesville | Columbus | Hattiesburg | Jackson | New Albany | Ripley |
Bay St. Louis | Corinth | Hazlehurst | Kosciusko | Newton | Senatobia |
Booneville | Forest | Hernando | Magee | Oxford | Starkville |
Brookhaven | Grenada | Houston | McComb | Pearl | Tupelo |
Carthage | Gulfport | Iuka | Meridian | Picayune | Winona |
Columbia | | | | | |
| | | | | |
SOUTH CAROLINA |
Aiken | Chester | Greenville | Manning | North Greenville | Summerville |
Anderson | Columbia | Greenwood | Marion | Orangeburg | Sumter |
Batesburg- Leesvile | Conway | Greer | Moncks Corner | Rock Hill | Union |
Cayce | Dillon | Lancaster | Newberry | Seneca | Walterboro |
Camden | Easley | Laurens | North Augusta | Simpsonville | Winnsboro |
Charleston | Florence | Lexington | North Charleston | Spartanburg | York |
Cheraw | Gaffney | | | | |
| | | | | |
TENNESSEE |
Athens | Cleveland | Johnson City | Kingsport | Lenoir City | Sparta |
Bristol | Elizabethton | | | | |
|
|
|
|
| |
DIRECTORS |
| |
Ben F. Cheek, III Chairman and Chief Executive Officer 1st Franklin Financial Corporation | C. Dean Scarborough Realtor |
| |
Ben F. Cheek, IV Vice Chairman 1st Franklin Financial Corporation | Dr. Robert E. Thompson Retired Physician |
| |
A. Roger Guimond Executive Vice President and Chief Financial Officer 1st Franklin Financial Corporation | Keith D. Watson Vice President and Corporate Secretary Bowen & Watson, Inc. |
| |
John G. Sample, Jr. Senior Vice President and Chief Financial Officer Atlantic American Corporation | |
|
|
EXECUTIVE OFFICERS |
|
Ben F. Cheek, III Chairman and Chief Executive Officer |
|
Ben F. Cheek, IV Vice Chairman |
|
Virginia C. Herring President |
|
A. Roger Guimond Executive Vice President and Chief Financial Officer |
|
J. Michael Culpepper Executive Vice President and Chief Operating Officer |
|
C. Michael Haynie Executive Vice President - Human Resources |
|
Kay S. Lovern Executive Vice President – Strategic and Organization Development |
|
Chip Vercelli Executive Vice President – General Counsel |
|
Lynn E. Cox Vice President / Corporate Secretary and Treasurer |
|
|
LEGAL COUNSEL |
|
Jones Day 1420 Peachtree Street, N.E. Suite 800 Atlanta, Georgia 30309-3053 |
|
AUDITORS |
|
Deloitte & Touche LLP 191 Peachtree Street, N.E. Atlanta, Georgia 30303 |
