1
FORM 10-K
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[ X ] Annual Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the Fiscal Year Ended March 31, 1997, or
[ ] Transition Report Pursuant to Section 13 or
15(d) of the Securities Exchange Act of 1934 for the Transition Period from
to
Commission File Number 0-19847
FIRST MORTGAGE CORPORATION
(Exact name of registrant as specified in its charter)
California 95-2960716
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3230 Fallow Field Drive 91765
Diamond Bar, California (Zip Code)
(Address of principal executive
offices)
(909) 595-1996
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class: Name of each exchange on which
None registered:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K [X]
The aggregate market value of the voting stock held by nonaffiliates of the
registrant on June 21, 1997, based on the average bid and asked prices on that
date reported by the OTC Bulletin Board, was $20,507,000. Solely for purposes
of this calculation, all executive officers and directors of the registrant were
considered affiliates as were all beneficial owners of more than 10% of the
registrant's Common Stock. As of June 21, 1997, 5,859,117 shares of the
registrant's Common Stock were issued and outstanding.
Documents Incorporated by Reference
Portions of the registrant's definitive proxy statement for the annual meeting
of shareholders of the registrant to be held on October 16, 1997 are
incorporated by reference into Part III hereof. The definitive proxy statement
will be filed with the Securities and Exchange Commission within 120 days after
March 31, 1997.
FIRST MORTGAGE CORPORATION
A California Corporation
ANNUAL REPORT ON FORM 10-K
FOR THE YEAR ENDED MARCH 31, 1997
TABLE OF CONTENTS
Item No. Description Page
PART I
1. Business 1
2. Properties 15
3. Legal Proceedings 16
4. Submission of Matters to a Vote of Security Holders 16
PART II
5. Market for the Registrant's Common Equity and Related Stockholder
Matters 16
6. Selected Financial Data 17
7. Management's Discussion and Analysis of Financial Condition and
Results of Operations 18
7A. Quantitative and Qualitative Disclosures About Market Risk 25
8. Financial Statements and Supplementary Data 25
9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 25
PART III
10. Directors and Executive Officers of the Registrant 26
11. Executive Compensation 26
12. Security Ownership of Certain Beneficial Owners and Management 26
13. Certain Relationships and Related Transactions 26
PART IV
14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 26
Signatures 31
PART I
ITEM 1. BUSINESS
General
First Mortgage Corporation ("First Mortgage" or the "Company") is a mortgage
banking firm primarily engaged in the mortgage banking business since its
incorporation in California in 1975. The Company originates, purchases,
warehouses, sells and services primarily first mortgage loans for the purchase
or refinance of owner-occupied one-to-four family residences located principally
in California. The Company originates mortgage loans in geographic areas with
moderately priced housing through a network of 13 offices located in California,
Nevada and Washington. Mortgage loans are originated by the Company through the
following sources: Retail production loans are generated by referrals from real
estate brokers, builders and other sources. Refinance loans are originated by
the Consumer Direct Marketing division through targeted mail solicitations and
direct telemarketing, and wholesale production generally represents loans
originated through approved mortgage loan brokers.
Generally, First Mortgage sells all mortgage loans that it originates or
purchases to institutional investors in the secondary mortgage market, retaining
the servicing rights on a portion of such loans. The Company emphasizes the
origination of mortgage loans insured by the Federal Housing Authority ("FHA")
or partially guaranteed by the Veterans Administration ("VA") (collectively,
"FHA/VA loans"). The Company's FHA/VA loans are pooled to form securities of
the Government National Mortgage Association ("GNMA") which are sold in the
secondary mortgage market to investment banking firms, substantially all of
which are primary dealers in government securities. Management believes that
the origination of FHA/VA loans benefits the Company by (i) increased loan
servicing income due to the higher servicing fees and longer average loan lives
generally associated with FHA/VA loans, and (ii) reduced interest rates paid on
warehousing lines of credit due to the Company's ability to utilize tax and
insurance impound accounts associated with FHA/VA loans as compensating balances
with its creditor banks.
First Mortgage also originates conventional mortgage loans which comply with
the requirements for sale to, or conversion into securities issued by, the
Federal National Mortgage Association ("FNMA") or the Federal Home Loan Mortgage
Corporation ("FHLMC"). The Company sells a portion of the conventional mortgage
loans that it originates under purchase and guarantee programs sponsored by FNMA
and FHLMC. These programs provide for either direct sale of mortgage loans to
FNMA or FHLMC, or for pooling of mortgage loans in exchange for securities
issued by FNMA or FHLMC. The Company sells FNMA and FHLMC securities in the
secondary mortgage market primarily to investment banking firms, substantially
all of which are primary dealers in government securities. Conventional loans
originated by the Company, including those which do not conform to government
agency requirements, are also sold to banks and other private institutional
investors under the Company's correspondent relationships
with several such investors. The Company believes that the ability to originate
a substantial volume of conventional loans is important to the success of its
business. The origination of conventional loans prevents over-dependence upon
FHA or VA programs (which are subject to change), and enables the Company to
offer mortgage loans to a wider variety of markets and referral sources, thereby
enhancing the Company's overall mortgage loan origination capability.
First Mortgage funds mortgage loan originations and purchases with working
capital and short-term borrowings under warehousing lines of credit. The
Company generally holds or "warehouses" mortgage loans for a short period of
time (on average 25 days) pending their nonrecourse sale to institutional
investors in the secondary market as individual loans or as mortgage-backed
securities.
First Mortgage's loan servicing activities include the collection, remittance
and general administration of mortgage loan payments. The Company plans to
increase loan servicing income through continued expansion of its mortgage
servicing portfolio. Growth of the mortgage servicing portfolio is generated
primarily through the retention of servicing rights on a portion of the mortgage
loans originated by the Company, and to a lesser degree through the direct
acquisition of servicing rights on loans originated by others. The Company
believes that it can experience (i) increased operating efficiencies as its
mortgage servicing portfolio grows in size, and (ii) reduced earnings volatility
as loan servicing income increases, thereby providing a consistent source of
income in periods of rising interest rates during which the number of mortgage
loan originations and mortgage loan prepayments tend to decrease. The mortgage
servicing portfolio generally gains value as the interest rates increase, and
provides the Company with a source of liquid assets should the need for
additional capital arise. The Company's mortgage servicing portfolio has grown
to $1.684 billion at March 31, 1997 from $1.570 billion at March 31, 1996, an
increase of 7.3%.
The various phases of First Mortgage's business are discussed in greater
detail below.
Loan Origination
The Company originates mortgage loans through three primary sources: retail,
which represents loans generated through real estate brokers and builders;
direct consumer marketing, which represents loans initiated through direct mail
and telephone; and wholesale, which represents loans solicited from loan
brokers. Substantially all mortgage loans originated through such sources by
the Company are underwritten, funded and closed by the Company.
First Mortgage's loan origination activities include (i) offering a variety
of residential mortgage loans, (ii) attracting suitable loan applicants, (iii)
reviewing borrower credit and mortgaged property title, appraised value and
insurance ("underwriting"), (iv) issuing conditional loan commitments, and (v)
funding qualified loans at closing.
Types of Loans Originated. The Company originates three types of residential
mortgage loans: (i) FHA/VA loans which qualify for sale in the form of
securities guaranteed by GNMA; (ii) conventional mortgage loans which comply
with the requirements for sale to, or conversion into securities issued by, FNMA
or FHLMC ("conventional conforming loans"); and (iii) conventional mortgage
loans which comply with other institutional investor loan requirements
("conventional nonconforming loans"). The Company does not originate any
conventional conforming loans or conventional nonconforming loans (collectively,
"conventional loans") with loan-to-value ratios above 80% unless the borrowers
obtain private mortgage insurance for the Company's benefit from companies rated
by Standard & Poor's Corporation or by Moody's Investor Service, Inc.
All loan applications, regardless of source, must be approved by the Company
in accordance with its underwriting criteria, including loan-to-value ratios,
borrower income and credit qualifications, investor requirements, necessary
insurance and property appraisal requirements. The Company's underwriting
standards also comply with the relevant guidelines set forth by the FHA, VA,
FMHA, FNMA, FHLMC, private institutional investors and/or conduits and private
mortgage insurers, as applicable.
Management believes that the origination of FHA/VA loans benefits the Company
from (i) increased loan servicing income due to the higher servicing fees and
longer average loan lives customarily associated with FHA/VA loans, and (ii)
reduced interest rates on warehousing lines of credit due to the Company's
ability to utilize tax and insurance impound accounts associated with FHA/VA
loans as compensating balances with its creditor banks. However, the Company
also originates conventional loans and maintains a flexible loan origination
network that is capable of increasing the volume of conventional loan production
as market conditions warrant.
The Company receives fees from borrowers for the origination of retail loans,
generally in the range of one to two percent of the principal amount of the
loan. The Company also receives fees in connection with the origination of
wholesale loans which average approximately 0.5% per loan. The company may
charge additional fees depending upon market conditions or the Company's
objectives concerning loan origination volume and pricing. The Company incurs
certain costs in originating loans, including overhead, out-of-pocket costs,
interest on money borrowed to finance loans and, where the loans are subject to
a purchase commitment from private investors, related commitment fees. The
volume of and type of loans and commitments made by the Company vary with
competitive and economic conditions, resulting in fluctuations in revenues from
loan originations. In periods of rising interest rates, the Company's volume of
loan originations, particularly refinancings, declines, and the Company's
revenues from loan originations decrease.
The following table sets forth for the periods indicated, the number, dollar
volume, percentage of total volume and average loan balance of the FHA/VA loans,
conventional conforming loans and conventional nonconforming loans originated
and purchased by the Company:
Year Ended March 31,
1997 1996 1995
(Dollars in thousands, except average loan balance data)
FHA/VA Loans:
Number of loans 1,575 1,421 1,223
Volume of loans $158,502 $133,891 $118,119
Percent of total volume 44.9% 40.5% 67.7%
Average loan balance $100,636 $94,223 $96,581
Conventional Conforming
Loans (1):
Number of loans 607 618 409
Volume of loans $77,097 $80,798 $48,990
Percent of total volume 21.8% 24.4% 28.1%
Average loan balance $127,013 $130,741 $119,780
Conventional Nonconforming
Loans:
Number of loans 379 366 34
Volume of loans $117,812 $116,207 $7,435
Percent of total volume 33.3% 35.1% 4.2%
Average loan balance $310,850 $317,505 $218,669
Total Loans (1):
Number of loans 2,561 2,405 1,666
Volume of loans $353,411 $330,896 $174,544
Average loan balance $137,997 $137,586 $104,768
<FN>
<FN1>
(1)Includes second priority conventional conforming loans which aggregate less
than 1% of the total dollar volume of loans originated and purchased in each
of fiscal 1997, 1996, and 1995.
</FN>
Mortgage loans originated by the Company are loans which primarily fund the
purchase of owner-occupied residential real property, or refinance loans which
repay and replace existing mortgage loans on owner-occupied residential real
property. The volume of refinance loans as a percentage of the Company's total
mortgage loan origination volume for fiscal years 1997, 1996 and 1995 was
approximately 38%, 46% and 22%, respectively. For fiscal years 1997, 1996 and
1995, approximately 16%, 41% and 15%, respectively, of the Company's refinance
loans were originated under the FHA's "streamline" refinance program. Pursuant
to this program, the FHA insures refinance loans intended solely to reduce the
payments on existing FHA-insured mortgage loans. The Company believes that in
some form, refinance loans will continue to represent a portion of its total
mortgage loan origination volume, the amount dependent upon the level of
interest rates at any given time.
Solicitation of Loan Applicants. First Mortgage follows a marketing strategy
designed to maximize the efficiency of the Company's loan solicitation and
origination activities. This strategy includes (i) operating a flexible branch
office network, (ii) utilizing an incentive compensation structure for the
majority of its work force, (iii) employing cost-efficient consumer marketing
techniques, and (iv) emphasizing prompt and professional customer services.
In accordance with this strategy, the Company operates a network of retail
branch offices in service areas which are located near potential borrowers, real
estate brokers, builders, developers and other referral sources. This enhances
the ability of the Company's sales force to solicit potential customers and
referral sources and to develop referral networks which provide recurring
business. To maintain this strategy, the Company's senior management actively
seeks new service areas and continually reviews existing service areas to assess
whether to open or close branch offices. The Company attempts to open new
retail branch offices in areas where the population is growing and where housing
prices are affordable to moderate income homebuyers.
While the operation of a productive network of retail branch offices is
essential to mortgage loan originations, the Company believes that it is equally
important to maintain the flexibility to open or close branch offices in a
timely, cost-efficient manner as local market conditions dictate. Accordingly,
the Company typically enters into month-to-month or one to two year short-term
leases for 1,000 to 2,000 square foot offices, and does not enter into long-term
employment agreements with branch office employees. Over the last five fiscal
years, the Company has operated between 10 and 18 branch offices in varying
locations in California, Nevada, Oregon and Washington. The Company currently
operates a retail network of six California offices located in Covina, Diamond
Bar, San Diego, Fairfield, Stockton and Modesto, as well as Reno, Nevada.
Management plans to add additional branch offices in order to increase new loan
production, some of which may be located outside existing service areas. Given
the Company's present high concentration of loan originations in California,
there can be no assurance that its results of operations will not be adversely
affected to the extent California experiences decreased residential real estate
lending activity.
First Mortgage operates retail branch offices as individual profit centers.
Scheduled fees for loans originated and other services provided by the Company's
corporate headquarters are allocated to each branch office in determining the
office's profitability. Branch offices are staffed entirely by Company
employees. A typical retail branch office staff consists of a branch manager,
one to four salespersons, one to three loan processors and one or two clerical
office assistants. Salespersons are full-time employees who work exclusively
for the Company and are contractually obligated to comply with the Company's
business practice guidelines.
First Mortgage's retail marketing strategy also includes an incentive
compensation system designed to encourage quality mortgage loan production and
to retain productive managers and salespersons. A branch manager's compensation
includes (in addition to a base salary) a bonus based upon loan production and a
percentage of the branch office's annual profits. Salespersons are compensated
solely on commissions based upon revenue generated from their respective loan
closings. In addition, loan processors at the branch office level receive, in
addition to a salary, a bonus based on the number of mortgage loans which are
closed and; therefore, have met the Company's underwriting criteria. The
Company believes that an incentive compensation system based on the number and
quality of loans produced improves overall profitability, customer and employee
relations and the Company's reputation for providing timely and quality mortgage
banking services.
The utilization of personal solicitation techniques is another aspect of the
Company's marketing strategy. The Company believes that on-going personal
relationships between retail branch salespersons and real estate brokers,
builders, developers and prior customers through regular direct contact
represent the most productive solicitation technique since historically the
majority of the Company's loan originations have been generated through these
referral sources. The Company engages in only limited mass media advertising
because it believes that the costs associated with such advertising usually
outweigh the benefits. The Company also directly solicits borrowers for
refinance loans, primarily through targeted mailings and telemarketing.
First Mortgage's reputation for prompt and professional service is an
integral component of the Company's marketing strategy. The Company believes
that its ability to process retail loan applications quickly has become
increasingly important in the market place. The average period between a retail
branch office's receipt of a loan application and the Company's final lending
commitment now is typically less than 15 days. Despite the speed with which
loan applications are processed, the Company does not compromise its
comprehensive underwriting and quality control criteria. The utilization of new
technology and computerization of all critical phases of operations have had a
significant impact on the Company's cost control efforts especially during the
recent downturn in loan production.
The Company's wholesale loan origination business utilizes independent loan
brokers to originate mortgage loan applications. The Company's wholesale
operations sales staff solicits loans meeting the Company's underwriting
criteria from loan brokers who have been approved by the Company. Upon receipt
of referrals, and prior to loans being funded, the Company subjects broker-
referred loan applications to the same underwriting, verification and approval
process applied to loan applications obtained through its retail branch offices.
Upon approval, these loans are funded and closed by the Company. The Company
operates wholesale branch offices in San Jose, California, Seattle, Washington
and Diamond Bar, California.
The wholesale purchase business involves the acquisition of FHA/VA loans
that other mortgage lenders have underwritten and committed to fund. These
loans are funded in the name of the selling mortgage lender; however, proceeds
for funding are provided by the Company through its warehousing lines of credit.
The first mortgage deeds of trust associated with these loans are recorded in
the name of the selling mortgage lender together with a simultaneous assignment
of the deeds of trust to the Company. Such loans are then sold in the secondary
mortgage market with the Company usually retaining the underlying servicing
rights. FHA/VA loans purchased in this manner do not subject the Company to
potential liability for any errors, omissions or breaches of representations or
warranties by the selling mortgage lender in connection with its underwriting of
the loans. Mortgage loan production through wholesale originations and
purchases as a percentage of total loan origination volume for fiscal 1997, 1996
and 1995 was 57%, 38% and 7%, respectively.
Loan Processing and Underwriting. Upon receipt of mortgage loan
applications, branch office loan personnel verify the completeness and accuracy
of application information. Verification procedures include, among other
things, obtaining (i) third-party written confirmations of the applicant's
income and bank deposits, (ii) a formal credit report on the applicant from a
credit reporting agency, and (iii) a preliminary title report and a real estate
appraisal. The Company's underwriting department is responsible for the
selection of the credit reporting agency, and such agency must use all three
credit reporting repositories, which exceeds the requirements of FHA, VA, FNMA
and FHLMC. The Company's in-house appraisers, or appraisers approved and chosen
at random by the FHA or VA, prepare property appraisals for FHA/VA loans.
Appraisals for retail conventional loans are prepared by the Company's in-house
appraisers, or one of a limited number of pre-approved independent appraisers
who have contractually agreed to comply with the Company's written appraisal
specification requirements and who meet its experience, education and reputation
standards. Wholesale loan appraisals are independently audited through the
Company's quality assurance department.
Once an application has been verified and reviewed at the branch office
level, a formal loan application is assembled and submitted to the Company's
underwriting department. The underwriting department scrutinizes all loan
applications, other than loans purchased on a wholesale basis, in accordance
with the specific agency or investors' underwriting guidelines, including loan-
to-value ratios, borrower income qualifications, investor requirements,
necessary insurance and property appraisal requirements. The Company's
underwriting guidelines comply with all underwriting criteria of FHA, VA, FNMA
and FHLMC and in some cases are more comprehensive. The Company's underwriting
guidelines for conventional nonconforming loans are based on the underwriting
standards required by the institutional investors to whom such loans will be
sold. The Company's underwriting personnel function independently of the
Company's mortgage loan origination personnel. The Company believes that the
implementation and enforcement of comprehensive underwriting guidelines has
mitigated the increase in foreclosure loss expense which, as a percentage of the
Company's mortgage servicing portfolio, was 0.091% in fiscal 1997, 0.094% in
fiscal 1996 and 0.089% in fiscal 1995.
First Mortgage's quality assurance department audits a minimum of 10% of all
formal retail loan applications submitted to the underwriting department in
order to enhance the ongoing evaluation of the loan processing function,
including employees, credit reporting agencies and independent appraisers.
Applications from retail branch offices are chosen for audit in a manner that
assures impartiality. Higher risk loans, such as those on three and four-unit
properties are audited more frequently than other loans, and nearly all broker-
referred loans are audited. The quality assurance department re-verifies all
employment and bank verifications, and obtains a separate credit report from a
second credit reporting agency as well as a written appraisal critique from a
second appraiser or audit agency familiar with the area of the mortgage
property. The quality assurance department submits all audit results directly
to the president of the Company. Management believes that by performing
comprehensive quality assurance audits, mortgage loans of investment quality
will be originated and
negligent underwriting, foreclosure loss expense and overall Company risk will
be minimized.
Loan Commitments. First Mortgage does not issue final loan commitments to
fund or acquire mortgage loans unless it is confident that the loan will meet
the acquisition criteria of institutional investors in the secondary mortgage
market. Subsequent to underwriting approval and prior to loan funding, the
Company issues conditional loan approvals to qualified applicants. Conditional
approvals indicate loan amounts, prevailing interest rates, fees, funding
conditions and approval expiration dates. The interest rate indicated is
usually subject to change in accordance with market interest rate fluctuations
until the final loan closing documents are prepared, at which time the Company
commits to a stated interest rate ("interest rate lock-in") typically for a
maximum of 15 days. The Company determines the effective interest rates for
mortgage loans based upon its daily review of prevailing interest rates in the
secondary mortgage market, and interest rate lock-ins beyond 15 days are not
issued unless the Company receives an appropriate fee premium based upon an
assessment of the risk associated with the longer lock-in period. For instance,
the Company may issue a conditional loan approval with an interest rate lock-in
for up to 60 days. In such cases, the Company charges an extended fee premium
average of 0.25% to 0.50% of the mortgage loan amount.
Loan Funding. At closing, First Mortgage funds mortgage loans first with
available working capital, which represents the Company's lowest cost of funds,
and second with short-term borrowings under warehousing lines of credit which
currently aggregate $46.5 million. The Company's current warehousing lines of
credit include a $30 million secured line of credit for 90-day notes with Bank
of America National Trust and Savings Association ("Bank of America") that is
subject to renewal on September 1, 1997; a $15 million secured line of credit
for 90-day notes from Sanwa Bank of California ("Sanwa Bank"), subject to
renewal on August 31, 1997; and a $1.5 million unsecured line of credit with the
Company's Chairman of the Board that is subject to renewal on December 31, 1997.
Advances under the Company's secured lines of credit are collateralized with the
mortgage loans which they fund. The Company repays outstanding balances under
warehousing lines of credit and replenishes its working capital with the
proceeds from the sale of mortgage loans. Accordingly, the Company depends on
mortgage loan sales to originate new mortgage loans without exceeding the limits
of its warehousing lines of credit and available working capital.
First Mortgage pays interest on funds advanced under the warehousing lines of
credit at pre-negotiated rates. The Company must maintain minimum compensating
balances with its creditor banks, which balances can be satisfied in whole or in
part with tax and insurance impound funds held in custodial accounts for
mortgage loans serviced by the Company. By maintaining compensating balances in
excess of the minimum requirements, the Company can, and frequently does, borrow
funds under the warehousing lines of credit at reduced interest rates. This
method of reducing the Company's cost of borrowing can significantly improve the
profitability of warehousing mortgage loans. While the Company's warehousing
lines of credit are subject to periodic renewal, the Company has historically
renewed or replaced these lines of credit at satisfactory rates, and the Company
believes that it maintains an excellent
relationship with its current lenders. There can be no assurance, however, that
such financing will continue to be available to the Company on favorable terms.
Loan Warehousing
First Mortgage normally warehouses funded mortgage loans for a short period
of time (on average 25 days), depending upon the delivery dates negotiated with
institutional investors, the volume of loan originations, the availability of
working capital and the amount available under warehousing lines of credit prior
to purchase of the loans by institutional investors. The Company receives, as
net interest income, the difference between the interest received on mortgage
loans held prior to sale which are financed under warehousing lines of credit,
and the interest paid by the Company under such lines of credit. The Company
also receives interest income from mortgage loans funded with working capital.
The Company attempts to mitigate interest rate risk by warehousing mortgage
loans for relatively short time periods. Although this strategy may limit the
amount of net interest income realized, management believes that this strategy
is prudent and protects the Company from unexpected interest rate fluctuations.
Loan Sales
Unlike financial institutions and other lenders which customarily originate
or acquire mortgage loans for long-term investment, mortgage bankers, including
the Company, originate and purchase mortgage loans with the intention of selling
them shortly after they are funded. Mortgage loans originated or purchased by
the Company are sold to institutional investors in the secondary mortgage market
with the Company generally retaining the right to service such loans.
The majority of the Company's FHA/VA loans are pooled to form GNMA securities
and are sold to investment banking firms, substantially all of which are primary
dealers in government securities. Conventional conforming loans are sold for
cash as individual whole loans to FNMA, FHLMC or other institutional investors.
The Company sells its conventional nonconforming loans to institutional
investors in privately negotiated transactions. In fiscal 1997, approximately
35% of the principal amount of the Company's mortgage loans were converted into
GNMA securities, 5% were sold directly to FNMA or FHLMC for cash and the
remaining 60% of the Company's mortgage loans were sold to institutional
investors. The Company expects to continue to use these methods of selling
mortgage loans, but in varying degrees in accordance with prevailing market
conditions and may also employ other sales methods if management determines that
it is prudent to do so.
Since the Company's inception, all originated or purchased mortgage loans
have been sold in the secondary mortgage market without recourse to the Company
in the event of borrower default, subject to certain limitations applicable to
VA loans. With respect to mortgage loans securitized through GNMA programs, the
Company is insured by the FHA against foreclosure losses on FHA loans, and the
VA guarantees against foreclosure losses on VA loans, subject to a limitation of
25% of the loan or
such higher percentage that does not exceed $50,750. Mortgage loans sold to, or
securitized through, FNMA or FHLMC are contractually nonrecourse to the Company
upon borrower default.
In connection with loan exchanges and sales, the Company makes
representations and warranties customary in the industry relating to, among
other things, compliance with laws, regulations, program standards and
information accuracy. In the event of a breach of these representations and
warranties, the Company could be required to repurchase such loans.
The sale of mortgage loans generates a gain or loss to the Company primarily
as a result of the following factors. First, the Company may fund a loan at a
price (i.e., interest rate and discount) that is higher or lower than the price
the Company would receive if it immediately sold the loan in the secondary
mortgage market. These pricing differences occur principally as a result of
competitive pricing conditions in the primary loan origination market. In 1997
and 1996, price competition was intensive primarily due to aggressive marketing
actions taken by major banks seeking to increase their market share. If the
pricing pressure continues, future marketing results will be negatively
impacted. Second, gains or losses may result from changes in the market value
of the loans, or in the value of the commitments to purchase loans as a result
of interest rate fluctuations, from the time the Company commits to a stated
interest rate charged to a borrower (i.e., an interest rate lock-in) until the
time the loan is sold or a fixed-price purchase commitment is obtained in the
secondary mortgage market. Consequently, if the Company anticipates that
interest rates will increase, it seeks to purchase commitments from
institutional investors to buy mortgage loans in amounts in excess of the
Company's current fundings. If the Company does not deliver loans to fulfill
these commitments, the commitment fees are expensed. If interest rates
subsequently increase, and if the Company has obtained such commitments at fixed
interest rates and subsequently funds loans at higher interest rates, it will
benefit from the increased interest rate spread. However, if the Company
anticipates that interest rates will decrease, commitments are obtained from
institutional investors only for those loans which the Company expects to fund
immediately. This practice minimizes the potential commitment fee expense
relating to unused commitments.
First Mortgage's net gain or loss on sale of mortgage loans generally equals
the sum of (i) the cash gain or loss, which is the difference between the
Company's carrying value and the selling price of the loans, net of commitment
fees paid by the Company, and (ii) the excess service fee amounts equal to the
present value of servicing fees to be received in future years in excess of
normal rates based upon the estimated life of the loans. The amount of the
excess service fee, if any, is recorded as revenue, capitalized and amortized
over the estimated average remaining loan life. If the realized life of the
loan proves to be shorter than the estimated loan life (generally due to loan
prepayments resulting from refinancing in response to interest rate declines),
the amortization of the excess service fee is accelerated through a charge
against current income.
In fiscal year 1997 and 1996, the gain or loss on mortgage loans was also
impacted by the implementation of Statement of Financial Accounting Standards
No. 122 "Accounting for Mortgage Servicing Rights" (FAS 122). FAS 122 requires
that a portion of the cost of originating a mortgage loan be allocated to the
mortgage servicing rights based on its fair value relative to the loan as a
whole. Gains attributed to the adoption of FAS 122 are discussed further in
Notes to Financial Statements and in Management's Discussion and Analysis of
Financial Condition and Results of Operations.
Loan Servicing
First Mortgage services substantially all the mortgage loans that it
originates or purchases. Loan servicing is performed at the Company's corporate
headquarters, and includes (i) collecting and remitting loan payments, (ii)
accounting for principal and interest, (iii) holding and disbursing escrow or
impound funds for real estate taxes and insurance premiums, (iv) contacting
delinquent borrowers, (v) supervising foreclosures, and (vi) otherwise
administering mortgage loans for institutional investors. At March 31, 1997,
approximately 53% of the aggregate principal amount of the Company's mortgage
servicing portfolio consisted of FHA/VA loans. The Company believes that such
loans are desirable to service because they typically command higher servicing
fees (currently 0.40% of the declining principal amount) and generally have
longer average loan lives. Overall, the Company receives annual loan servicing
fees that presently average 0.37% (net of amortization of excess service fee,
purchased servicing rights and agency guarantee fees), and range from 0.25% to
1.50% per annum of the declining principal amount of serviced loans. The
Company also retains late charges paid by borrowers and other customary fees
associated with loan servicing. While the Company periodically has sold a
portion of newly funded mortgage loans on a servicing-released basis, it has
never sold any servicing rights from its mortgage servicing portfolio; however,
the sale of such rights represents an available source of funds. The Company
also has been acquiring servicing rights for loans originated by other lenders
since October, 1991. The Company intends to acquire additional servicing rights
whenever attractive opportunities exist.
The following table sets forth certain information regarding the Company's
mortgage servicing portfolio for the periods indicated:
Year Ended March 31,
1997 1996 1995
(Dollars in thousands,
except for number of loans
serviced and average
loan balance)
Beginning loan servicing portfolio $1,477,161 $1,401,832 $1,355,164
Add: Loans originated and purchased 353,411 330,896 174,544
Purchase of servicing 14,960 6,431 16,320
Less:Prepayment of loans (149,953) (161,146) (119,846)
Amortization (23,779) (21,286) (20,444)
Loans sold servicing released (87,963) (79,566) (3,906)
Ending loan servicing portfolio 1,583,837 1,477,161 1,401,832
Sub-servicing 99,815 92,544 132,056
Total servicing portfolio $1,683,652 $ 1,569,705 $1,533,888
Number of loans serviced (end of
year) 17,466 16,820 16,614
Average loan balance (end of year) $96,396 $93,324 $92,325
The interest rate stratification of the servicing portfolio at March 31, 1997
is as follows:
Interest Rate Principal Balance Percent of Total
(Dollars in
thousands)
7.00% and Under $214,531 12.7%
7.01% to 8.00% 830,707 49.4%
8.01% to 9.00% 517,156 30.7%
9.01% to 10.00% 92,643 5.5%
10.01% to 11.00% 21,343 1.3%
Over 11.00% 7,272 0.4%
Total Servicing
Portfolio $1,683,652 100.0%
The weighted average interest rate of the Company's servicing portfolio was
7.97% at March 31, 1997 as compared with 8.01% at March 31, 1996.
At March 31, 1997, approximately 47% of the Company's mortgage servicing
portfolio was covered by servicing agreements pursuant to the mortgage-backed
securities programs of GNMA. Under these agreements, the Company may be
required to advance funds temporarily to make scheduled payments of principal,
interest, taxes or insurance if the borrower fails to make such payments.
Although the Company cannot charge any interest on such advanced funds, the
Company typically recovers the advances within five to ten days upon receipt of
the borrower's payment, or in the absence of such payment, most of the advances
can be recovered through FHA insurance, VA guarantee, FNMA or FHLMC
reimbursement provisions in connection with loan foreclosures. The Company has
a $2 million line of credit with Sanwa Bank for the purpose of funding servicing
advances. This line of credit was not utilized in fiscal 1997 since all advances
were covered by working capital. During fiscal 1997 the monthly average amount
of funds advanced by the Company for mortgage payments, taxes, insurance,
foreclosure expenses and non-mandatory early removal of foreclosed loans (being
processed by the Company) from GNMA pools amounted to
$12,594,000. The total amount of all such advances during fiscal 1997 that were
not recovered by the Company was $1,406,000. The balance of the Company's
mortgage servicing portfolio is covered by servicing agreements that require the
Company to make required loan payments only out of funds actually received from
borrowers.
The following table sets forth the geographic distribution of the Company's
loan servicing portfolio at March 31, 1997.
Percentage
Number of Percentage Principal of Principal
State Loans of No. of Balance Balance
Serviced Loans Serviced Serviced
Serviced (Dollars in
thousands)
California 15,580 89.2% $1,530,031 90.9%
Nevada 873 5.0% 67,230 4.0%
Washington 587 3.4% 65,932 3.9%
Colorado 145 0.8% 3,974 0.2%
Oregon 111 0.6% 11,356 0.7%
Texas 107 0.6% 3,285 0.2%
Other States 63 0.4% 1,844 0.1%
Total 17,466 100.0% $1,683,652 100.0%
The Company believes that its mortgage servicing portfolio (net of
capitalized mortgage servicing fee assets) has significant market value,
although most of the mortgage servicing portfolio has not been treated as an
asset for financial statement reporting purposes. The two primary risks to
mortgage servicing portfolio revenue (and therefore mortgage servicing portfolio
market value) are loan prepayments and loan foreclosures which prematurely
eliminate or reduce future loan servicing fees. The prepayment risk to the
mortgage servicing portfolio increases as (i) mortgage interest rates decline,
and (ii) the percentage of adjustable rate mortgages ("ARM's") in a servicing
portfolio increases because ARM's historically are prepaid more frequently than
fixed-rate loans. The Company believes that the composition of its mortgage
servicing portfolio, as measured by interest rates, compares favorably to that
of the mortgage banking industry as a whole. Since the Company's mortgage
servicing portfolio as of March 31, 1997 consists of mortgage loans with an
average interest rate of 7.97% which compares favorably to the prevailing
interest rate, the Company believes that the risk of prepayment and the
potential runoff of the portfolio, and thus corresponding reduction of loan
servicing income, is minimized. At March 31, 1997, ARM's represented
approximately 18% of the aggregate dollar amount of loans in the Company's
mortgage servicing portfolio. At March 31, 1997, 0.62% of the number of
mortgage loans in the Company's mortgage servicing portfolio were more than 90
days past due, and 1.37% of the number of mortgage loans were in foreclosure.
First Mortgage believes that its loan servicing and loan origination
operations reduce the risk of fluctuating interest rates. As interest rates
increase, loan origination income may decrease; however, this decline is
mitigated by the stabilization of loan administration income generated by the
Company's mortgage servicing portfolio as a result of diminished loan
prepayments. Conversely, as interest rates decline, increased loan prepayments
may reduce loan administration income, but this reduction tends to be offset by
increased loan originations and servicing fees due to increased loan
originations. The Company can reduce the risk to its loan servicing and
origination
revenue resulting from interest rate fluctuations by selling mortgage loans for
a premium on a servicing-released basis when interest rates are high, and by
increasing its solicitation of refinance loans when interest rates are low.
Seasonality
The mortgage banking industry is usually subject to seasonal trends. These
trends reflect the general pattern of nationwide home sales. Such sales
typically peak during the spring and summer seasons and decline to lower levels
from mid-November through January.
Competition
The mortgage banking business is highly competitive and fragmented. First
Mortgage Corporation competes with other mortgage bankers, state and national
banks, savings and loan associations, mortgage brokers, credit unions and others
for mortgage loans. The record refinance surge of 1992 and 1993 led to a rapid
expansion of mortgage providers, resulting in industry over-capacity when
interest rates rose in 1994 and the volume of mortgage loans declined
accordingly. Estimated U.S. mortgage origination volume fell to $750 billion in
1996 from $1.0 trillion in 1993 and $894 billion in 1992. During fiscal 1997
and 1996 competition for mortgage loans remained intense due both to industry
over-capacity and the expanded aggressiveness of major banks. Banks have an
advantage over others in that they can price their mortgages at their lower
short term cost of funds. And, due to their strengthened capital position which
increased their capacity to hold portfolio loans, banks have become extremely
aggressive with mortgage price discounting in order to expand their mortgage
base as a platform from which to cross-sell other bank products. The result is
a competitive market wherein major banks, through their mortgage banking
subsidiaries, are far more aggressively pricing their loans than the traditional
secondary market agencies such as FHLMC and FNMA. Recognizing this, the Company
established a strategic mortgage servicing-retained arrangement with one west
coast bank and is exploring other such opportunities. Additionally, the Company
has correspondent relationships with several of the most aggressive major banks.
The Company also competes by operating only in strategically selected geographic
markets, motivating its sales force through incentive compensation based on loan
origination volume, providing prompt and comprehensive service and otherwise
maintaining strong professional relationships with realtors, developers and
customers.
Regulation
First Mortgage is an FHA-approved Direct Endorsement Mortgagee, a VA
Automatic Lender, an approved issuer and servicer under the GNMA mortgage-backed
securities program, and an approved seller and servicer with the FNMA, FHLMC,
the California Housing Financing Agency, the California Public Employees
Retirement System and several private mortgage-backed securities conduit
companies. As such, the Company's mortgage banking business is subject to the
periodic reporting, examination and auditing requirements and other rules and
regulations of such governmental agencies with respect to its net worth and its
mortgage loan origination,
processing, sales and servicing. These rules and regulations, among other
things, prohibit race, age and sex discrimination, provide for inspections and
appraisals of properties, require credit reports on prospective borrowers, fix
(in some cases) maximum interest rates, fees and loan amounts, and mandate the
annual submission of audited financial statements.
First Mortgage's loan origination activities are also subject to such federal
laws as the Equal Credit Opportunity Act, the Truth-In-Lending Act, the Real
Estate Settlement Procedures Act and the regulations promulgated thereunder
which prohibit discrimination and require the disclosure of certain information
to borrowers concerning credit and settlement costs. Furthermore, the Company
is licensed to do business in California, Nevada, Oregon, Washington and Texas,
and its mortgage banking operations are subject to the laws of those states,
including those prohibiting usury. The Company is licensed by the California
Department of Corporations as a Residential Mortgage Lender.
The Company employs a full-time compliance officer and Quality Assurance
staff to monitor and audit compliance with all regulatory requirements.
Employees
As of March 31, 1997, First Mortgage employed 146 persons. None of the
Company's employees is represented by a labor union, and the Company believes
that it has an excellent relationship with its employees.
ITEM 2. PROPERTIES
First Mortgage's executive and administrative headquarters are located in a
22,000 square foot office building at 3230 Fallow Field Drive, Diamond Bar,
California 91765. The entire building is leased by the Company from Fin-West
Group ("Fin-West"), an affiliated corporation which owns 81.4% of the Company's
outstanding common stock. The lease requires monthly rental payments of $20,000
and expires on December 31, 1997, subject to the Company's right to extend the
term of the lease for one additional one-year term. The monthly rental payment
for any lease extension is subject to increase (but not decrease) upon any such
extension. Such payments may not exceed the fair market rent for comparable
facilities at the time of the extension. The Company pays for all property
taxes, repairs, insurance and utility services for the entire building. The
Company believes the current facilities are adequate to meet foreseeable future
needs.
The Company's branch offices each are leased at varying rates and each office
contains approximately 1,000 to 2,000 square feet. For the year ended March 31,
1997, the annual aggregate rental expense for all branch offices was
approximately $211,000. Most of the Company's branch offices are on month-to-
month or one year short-term leases. No branch office leases generally extend
beyond two years.
ITEM 3. LEGAL PROCEEDINGS
First Mortgage is currently a defendant in certain litigation arising in the
normal course of its business. In the opinion of the Company, any potential
liability with respect to such legal actions will not, in the aggregate, be
material to the Company's financial position, results of operations or cash
flows.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the Company's security holders during
the fourth quarter of the fiscal year ended March 31, 1997.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
The Company's Common Stock was traded on the NASDAQ National Market System
(the "NASDAQ System") under the symbol FMOR from April 20, 1992 to April 24,
1997, and is presently traded on the Over The Counter ("OTC") Bulletin Board
under the same trading symbol. The reason behind the change was that the
Company no longer retains two registered and active market makers as required by
NASDAQ.
The following table sets forth the high and low bid quotations per share of
the Company's Common Stock during each of the quarterly periods indicated below.
Fiscal 1997: High Low
First quarter $ 6.75 $ 4.63
Second quarter 5.63 4.63
Third quarter 5.63 4.13
Fourth quarter 5.13 4.13
Fiscal 1996: High Low
First quarter $ 5.00 $ 4.00
Second quarter 6.00 4.50
Third quarter 6.50 5.00
Fourth quarter 7.50 5.75
As of March 31, 1997, there were 37 shareholders of record of the Company's
Common Stock.
No cash dividends have been paid on the Company's common stock. The Company
presently intends to retain all earnings for use in its business and therefore
does not anticipate paying cash dividends on its Common Stock in the foreseeable
future. The Company's warehousing lines of credit with Bank of America and
Sanwa Bank restrict the Company's ability to pay dividends or to make other
distributions with respect to the Common Stock. Any decision to pay cash
dividends on the Common Stock will depend on the Company's circumstances at the
time, including the profitability of operations, availability of cash, lines of
credit restrictions and other factors.
ITEM 6. SELECTED FINANCIAL DATA
All share and per share data set forth below have been adjusted to reflect a
5-for-4 stock split of the Company's Common Stock on August 2, 1993.
Year Ended March 31,
1997 1996 1995 1994 1993
(In thousands, except per share data)
Income Statement Data:
Revenues:
Loan origination income $ 3,426 $ 3,397 $ 2,523 $ 6,361 $ 6,323
Loan servicing income 7,137 6,787 6,695 6,332 5,249
Gain on sale of mortgage
loans 5,374 7,116 819 13,268 11,855
Interest income 2,165 2,105 2,866 2,959 2,640
Other income 2 29 43 65 110
Total revenues 18,104 19,434 12,946 28,985 26,177
Expenses:
Employees' salaries
and commissions 8,217 7,752 6,899 11,795 10,285
General and administrative
expenses 7,271 6,494 5,594 7,245 5,788
Interest expense 690 786 1,309 1,465 1,133
Total expenses 16,178 15,032 13,802 20,505 17,206
Income (loss) before income taxes 1,926 4,402 (856) 8,480 8,971
Income tax expense (benefit) 811 1,833 (308) 3,491 3,715
Net income (loss) $ 1,115 $ 2,569 $ (548) $ 4,989 $ 5,256
Net Income (loss) per share $ 0.19 $ 0.44 $ (0.09) $ 0.83 $ 0.89
Weighted average shares outstanding 5,874 5,883 5,947 5,996 5,914
Operating Data:
Loans originated and purchased $ 353,411 $330,896 $174,544 $ 624,317 $ 497,153
Loans serviced (end of year) $ 1,683,65 $1,569,705 $1,533,888 $1,495,384 $ 1,319,307
At March 31,
1997 1996 1995 1994 1993
(In thousands)
Balance Sheet Data:
Mortgage loans held for sale $27,286 $ 19,879 $25,329 $42,737 $37,005
Originated mortgage servicing rights, net 5,701 3,133 - - -
Total assets 50,923 51,131 42,296 57,086 46,989
Notes and sight drafts payable 22,626 24,852 19,698 32,821 27,453
Stockholders' equity 25,648 24,647 22,078 23,080 18,091
No cash dividends were paid on common shares for any period.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
General
At the beginning of fiscal year 1997, First Mortgage Corporation decided to
adopt a growth strategy of simultaneously enhancing and expanding its loan
production capacity (either through new wholesale operations or additional
retail branch offices) and increasing its loan servicing portfolio.
The Company was largely successful in implementing the strategy. Through its
production expansion plan, new wholesale branches were established and the
servicing portfolio has also grown. In fiscal year 1997, loan originations
increased by 6.8% to $353.4 million from $330.9 million in the previous year, in
spite of extremely aggressive competition from other originators. The loan
servicing portfolio also rose to $1.684 billion in 1997 compared to $1.570
billion in 1996, an increase of 7.3%.
Net income for fiscal year 1997, however, decreased 56.6% to $1.12 million
from $2.57 million a year ago. Compared to 1996, total revenues dropped by 6.8%
while total expenses increased by 7.6%. The earnings in fiscal 1997 were
negatively impacted by several factors: intensive price competition among
mortgage banking firms and commercial banks which resulted in a substantial
reduction in the gain on sale of mortgages; higher expenditures invested into
start-up costs for the loan production expansion, and larger foreclosure losses.
For the coming year, the Company has streamlined the corporate structure and
adopted additional cost reduction measures and management believes that future
operating results should improve.
Results of Operations
Revenue
The Company generates revenue primarily from (i) loan origination fees, (ii)
fees received for servicing (i.e., administering) mortgage loans, (iii) net gain
on the sale of mortgage loans in the secondary market and (iv) interest income
received on mortgage loans during the period in which the Company warehouses
loans pending their sale and purchase. Loan origination fees, interest income
and net gain on the sale of mortgage loans are largely transaction oriented and
volume driven. Loan servicing fees constitute a continuing stream of revenue
produced by the portfolio of mortgage loans serviced. The sale of servicing
rights represents a potential revenue source available to the Company at any
time should such need arise.
The following table sets forth, for the periods indicated, the percentage of
the Company's total revenue represented by each source of income:
Year Ended March 31,
1997 1996 1995
Loan origination income 18.9% 17.5% 19.5%
Loan servicing income 39.4% 34.9% 51.7%
Gain on sale of mortgage loans 29.7% 36.6% 6.3%
Interest income 12.0% 10.8% 22.2%
Other income - % 0.2% 0.3%
Total 100.0% 100.0% 100.0%
Loan Origination Income. The Company defers immediate recognition of loan
origination fees paid by the borrower for an originated mortgage loan. Instead,
fees and direct loan origination costs are offset and the net amount deferred
until the related loans are sold by the Company. The dollar amount of loan
origination fees generally increases with the increase in the volume of loans
originated, and likewise decreases when loan origination volume falls. In
conjunction with new mortgage loan originations during the last three fiscal
years, loan origination income rose slightly by 0.9% to $3.43 million in fiscal
1997 from $3.40 million in fiscal 1996, and 34.6% to $3.40 million in fiscal
1996 from $2.52 million in fiscal 1995.
Loan origination income generally does not precisely track loan origination
volume because many borrowers elect to pay slightly higher mortgage rates to
reduce some or all of the amount of their loan origination fees. The Company is
then able to obtain a premium upon the sale of such mortgage loans in the
secondary market because of their higher interest rates, and those premiums are
reflected in the gain on sale of mortgage loans.
Loan Servicing Income. Loan servicing income represents loan servicing fees,
late charges and other fees earned by the Company for administering loans on
behalf of permanent investors. The Company's annual loan servicing fee for
mortgage loans ranges from 0.25% to 1.5% of the principal amount of the loan
serviced depending on the type of mortgage loan, and on average is approximately
0.37% net of amortization of capitalized service fees and agency guarantee fees.
The aggregate principal balance of loans serviced by the Company and the amount
of loan servicing income (net of amortization of capitalized servicing fees)
have increased largely as a result of the growth in servicing portfolio. Loan
servicing income increased 5.2% to $7.14 million in fiscal 1997 from $6.79
million in fiscal 1996, and 1.4% to $6.79 million in fiscal 1996 from $6.70
million in fiscal 1995.
The Company's mortgage servicing portfolio increased 7.3% to $1.684 billion
in fiscal 1997 from $1.570 billion in fiscal 1996, and 2.3% to $1.570 billion in
fiscal 1996 from $1.534 billion in fiscal 1995.
Gains on Sale of Mortgage Loans. Gains and losses from the sale of mortgage
loans result from: (a) competitive market forces affecting our pricing
structure at the time of origination; and (b) interest rate increases or
decreases between the time that the Company commits to originate or purchase
loans and when the Company commits to sell the loans in the secondary markets.
It is also impacted by two other factors: price subsidies and the recognition of
gains relating to originated mortgage servicing rights ("OMSRs").
Since 1995, price competition has grown increasingly intense. Commercial
banks in particular have been very aggressive with mortgage pricing in order to
capture a higher percentage of the market, with the Company's wholesale
operations particularly impacted. The Company therefore is often forced to set
prices below the secondary markets for some of its loan programs. To the extent
that the pricing pressure continues, it will have a negative impact on the
Company's future gains on selling of mortgages.
In May 1995, the Financial Accounting Standard Board issued FAS 122. The
Company adopted FAS 122 for its fiscal year 1996. Since FAS 122 prohibits
retroactive application to prior periods, fiscal year 1995 was accounted for
under the original FAS No. 65.
The primary difference between FAS 122 and FAS No. 65 is the accounting
treatment for the normal servicing fee associated with in-house OMSRs. Under
FAS No. 65, OMSRs were not recognized as an asset and as a result of this
accounting treatment, the financial statements of 1995 were impacted as there
was no balance sheet or income statement recognition of the value of the OMSRs
created by the Company.
Under FAS 122, OMSRs are required to be classified as an asset and the total
cost of creating a mortgage loan is allocated at origination between the loan
and the servicing rights based on their respective fair values. Gains on the
sales of mortgage loans attributable to the allocation of costs to the OMSRs are
recognized when the related loans are sold (even though the OMSRs asset is
recorded on the date the loan is originated).
Gain on sale of mortgage loans decreased to $5.37 million in fiscal 1997 from
$7.12 million in fiscal 1996. The decrease was primarily attributable to
intense price competition prevailing in the mortgage lending industry. Gain on
sale of mortgage loans increased to $7.12 million in fiscal 1996 from $819,000
in fiscal 1995. This increase was attributable to the higher loan originations
generated by the Company and the generally declining interest rate environment
which existed during most of fiscal year 1996.
Net Interest Income. Net interest income consists of the difference between
the interest income received on mortgage loans held for sale and the interest
paid by the Company on the short-term bank borrowings used to finance mortgage
loans prior to settlement of purchase. The conditions that affect net interest
income from period to
period include the relationship between prevailing mortgage rates and short-term
bank borrowing rates, the mix of fixed-rate and adjustable rate mortgage loans
held for sale and the average holding period before the loans are sold.
Interest income earned by the Company on mortgage loans held for sale has
exceeded interest expense on the Company's short-term bank borrowings in each of
the last eight fiscal years. The Company also uses cash generated from
operations in lieu of bank borrowings to fund a portion of its mortgage loans to
reduce interest expense and increase net interest income.
The following table sets forth certain data regarding net interestincome:
Year Ended March 31,
1997 1996 1995
(Dollars in Thousands)
Interest income $2,165 $2,105 $2,866
Interest expense 690 786 1,309
Net interest income $1,475 $1,319 $1,557
Interest income, which consisted mostly of the interest received on
mortgage loans held for sale, increased slightly by 2.9% in fiscal 1997 from
fiscal 1996. The increase was due largely to higher average mortgage inventory
portfolio carried by the Company. Interest income dropped by 26.6% in fiscal
1996 from fiscal 1995 due to lower average interest rate earned on mortgage
loans.
Interest expense decreased 12.2% in fiscal 1997 from fiscal 1996, and 40.0%
in fiscal 1996 from fiscal 1995. The drops in interest expense for these
periods were largely the result of lower reverse repurchase line utilization and
higher loan funding with corporate cash.
Expenses
The major components of the Company's total expenses are (i) employees'
salaries and commissions, (ii) general and administrative expenses, and (iii)
interest expense. Total expenses, excluding interest expense, increased 9.2% to
$15.5 million in fiscal 1997 from $14.2 million in fiscal 1996, compared to an
increase of 13.6% to $14.2 million in fiscal 1996 from $12.5 million in fiscal
1995. The increase in total expenses for fiscal 1997 is a direct result of
investment in new branch openings and increased loan origination volume.
As the amount of mortgage loans originated by the Company increases, an
increase in total employee compensation results from additional commissions paid
to loan originators, processors and underwriters and other staff necessitated to
support higher loan origination volume. Accordingly, employees' salaries and
commissions increased 6.0% to $8.2 million in fiscal 1997 from $7.8 million in
fiscal 1996, compared to an increase of 12.4% to $7.8 million in fiscal 1996
from $6.9 million in fiscal 1995.
General and administrative expenses increased 12.0% to $7.3 million in fiscal
1997 from $6.5 million in fiscal 1996, compared to an increase of 16.1% from
fiscal 1996 to fiscal 1995. The increases in these expenses were a direct
result of expansion in loan origination, and higher foreclosure losses during
the respective fiscal years.
Income Taxes
The Company's combined effective federal and state income tax rate was 42.1%
and 41.6% for fiscal year ended March 31, 1997 and 1996, respectively. The
rates for fiscal year 1997 and 1996 differ from the federal statutory rate of
34% primarily due to state income taxes. The effective tax rate for fiscal year
1995 was 36.0% due primarily to the inability to fully utilize tax benefits of
California net operating losses.
Liquidity and Capital Resources
The Company's principal liquidity requirement is the funding of its new
mortgage loans, loan origination expenses and other operating activities. To
meet these needs, the Company relies on warehouse lines of credit with banks,
its own capital, cash flows from operations and short-term reverse repurchase
agreements with other investment banking firms.
At March 31, 1997, maximum permitted borrowings under the warehouse lines of
credit with two nonaffiliated banks totaled $45 million and the amount
outstanding was $20.2 million. Borrowings under these facilities are secured by
mortgage loans. The agreements also contain various covenants, including
minimum net worth, current ratio (as defined), net income, servicing portfolio
balances, debt to net worth ratio, and restrict the Company's ability to pay
dividends. Management believes that the warehouse agreements will be renewed
when the current terms expire in August and September, 1997.
In addition to the warehouse lines of credit, the Company may utilize the
short-term reverse repurchase agreements provided by investment banking firms in
connection with its inventory of mortgage loans and mortgage-backed securities.
These facilities tend to carry lower interest rates and allow the Company to
better utilize its warehouse lines by accelerating the turnover of loans in
inventory.
Since September 1994, the Company has repurchased in open market transactions
122,300 shares of its common stock at an aggregate cost of $568,000.
The Company's mortgage servicing portfolio provides a liquidity resource
since certain loan servicing rights are an unrecorded asset which may be sold.
Although the Company does not intend to sell mortgage servicing rights solely to
increase liquidity, the sale of such rights is an available source of funds
should the need arise.
Management believes that its current financing arrangements are adequate to
meet its present operating needs; however, increases in the existing facilities
or other supplementary sources may have to be explored should the market
conditions improve and loan origination volume increase.
Inflation
Inflation may significantly affect the Company's ability to originate loans.
Interest rates typically increase during periods of high inflation and decrease
during periods of low inflation. Generally, the mortgage banking industry has
experienced increased origination volume in response to low interest rates and
loan originations have generally decreased during periods of high interest
rates. As interest rates decline, prepayments on the loan servicing portfolio
generally increase as borrowers refinance mortgage loans to take advantage of
lower rates. A higher prepayment rate on loans serviced decreases the value of
the Company's loan servicing portfolio, accelerating amortization of purchased
servicing and decreases the amount of servicing income. As interest rates rise,
new loan originations are likely to fall, but prepayments of existing loans
generally decline and the value of the Company's servicing portfolio and of the
escrow balances collected thereunder may be enhanced.
Recently Issued Financial Accounting Standards
In June 1996, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 125, Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities (FAS 125).
FAS 125 will result in the recording of Originated Mortgage Servicing Rights
(OMSRs) on the date of sale of a mortgage loan as opposed to the current
practice of recording OMSRs on the date loans are originated. Additionally,
under FAS 125, excess servicing fees will be combined with OMSRs for balance
sheet presentation.
In December 1996, the FASB issued Statement of Financial Accounting Standards
No. 127, Deferral of the Effective Date of Certain Provisions of FASB Statement
No. 125 (FAS 127), which delays the effective date of the provisions of FAS 125
applicable to the Company by one year. The Company believes that the adoption
of FAS 125 in fiscal 1998 will not have a material impact on the financial
statements.
In February 1997, the FASB issued Statement No. 128, Earnings Per Share (FAS
128), which simplifies the standards for computing earnings per share (EPS) and
replaces the presentation of primary EPS with a presentation of basic EPS. The
Company believes that the adoption of FAS 128 in fiscal 1998 will not have a
material impact on the financial statements.
Prospective Trends
Fiscal 1997 was very similar to fiscal 1996 and saw more of the same in terms
of competitive forces, industry consolidation and overall volume of new mortgage
originations.
Although the Company does well relative to its mortgage banking peers, the
industry as a whole is suffering from the confluence of two major developments,
the remaining over capacity of mortgage providers relative to the current level
of available
mortgage volume; and the looming and growing presence of the major commercial
banks in the mortgage arena. In the first instance, the mortgage providing
industries, which includes mortgage bankers, savings and loan associations,
credit unions, mortgage loan brokers and commercial banks, continue to have
excess capacity for the present volume of new mortgage originations, even though
there has been an unprecedented shrinking of companies through consolidations,
acquisitions and some outright failures. This remaining excess capacity by
itself has led to price cutting and reduced operating margins for all mortgage
originators. Furthermore, the American consumer is now well-tuned to interest
rates, and even relatively small movements in rates can have fairly dramatic
effects on new mortgage volume and earnings.
In the second instance, as discussed under Competition on page 14, several of
the major banks have become fiercely competitive in pricing mortgage products.
Their present hope that holding a consumer's mortgage is the gateway to cross-
selling many other bank products has engaged the banks in a virtual price war
with one another for those mortgages. Their valuation models for loan servicing
rights and the resulting downstream impact on pricing at the origination level,
particularly through their wholesale channel with loan brokers, is having a
major impact on the mortgage banking industry and our ability to compete on the
types of mortgage loans most sought-after by these commercial banks.
The Company's strategy in the face of this is to compete in the channels and
with the products which are not the most sought-after by the commercial bank
giants. Although we will maintain our correspondent relationships with the
major banks who presently have such a strong appetite for certain mortgage
products, our primary emphasis will be on the origination of FHA and VA loans
for which the major banks largely do not compete; to expand our low-cost and
profitable consumer direct marketing operations into other states; and to add
other new non-bank loan products which have more profit potential for the
Company. Much of this strategy has been implemented already with the expansion
of our Consumer Direct Marketing into Texas, and with the planned introduction
of home equity loans early this summer.
Consistent with this, for fiscal 1998 the Company has revised its incentive
bonus plan for the majority of its non-sales personnel and management.
Heretofore, the bonus incentives were based upon the volume of loans processed
through the Company, predicated on the long-standing industry practice that
volume equated to profit. But the new reality dictates a new paradigm, one
based upon profit and profit potential rather than volume of loans. Volume is
important, but only if it enhances profit, and the bonus incentives are now
connected directly to the Company profits. This is already producing results,
as many of our employees are coming forth with ideas for reducing expenses and
increasing revenue, a positive trend indeed.
Forward-Looking Statements
From time to time, the Company or its representatives may make forward-
looking statements in this report or elsewhere relating to such matters as
anticipated financial performance, including projections of revenues, expenses,
earnings, liquidity, capital resources or other financial items; business plans,
objectives and prospects; and similar
matters. Forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995 frequently are identified by the use of
terms such as "expect," "believe," "estimate," "may," "should," "will" or
similar expressions.
The Private Securities Litigation Reform Act of 1995 provides a safe harbor
for forward-looking statements. In order to comply with the terms of the safe
harbor, the Company notes that a variety of factors could cause the Company's
actual results and experience to differ materially from the anticipated results
or other expectations expressed in the forward-looking statements made by the
Company or its representatives. The risks and uncertainties that may affect the
operations, performance, development and results of the Company's business
include the following, among other factors: (a) the cyclical financial results
traditionally experienced by the mortgage banking industry, which have been
caused in large part by periodic fluctuations in mortgage interest rates and in
consumer demand for new mortgage loans; (b) the possibility of adverse changes
in the Company's ability to obtain suitable warehousing lines of credit with
which to fund new loans; (c) the possibility of adverse changes in the Company's
ability to sell new mortgage loans in the secondary mortgage market; (d)
increasing competition faced by the Company, particularly from commercial banks;
(e) the possibility of adverse regulatory changes, such as changes in the level
or terms of programs administered by GNMA, FNMA or FHLMC or the FHA or VA; (f)
dependence on existing management; (g) credit risks inherent in the lending
business; and (h) periodic fluctuations in general economic conditions, with
corresponding fluctuations in the Company's ability to originate new mortgage
loans.
ITEM 7A.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The information with respect to this item is set forth in "Index to Financial
Statements".
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT*
ITEM 11. EXECUTIVE COMPENSATION*
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT*
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS*
* For information called for by Items 10-13, reference is made to the
Company's definitive proxy statement for its annual meeting of shareholders, to
be held on October 16, 1997, which will be filed with the Securities and
Exchange Commission within 120 days after March 31, 1997, and which is
incorporated herein by reference, except that the information included under the
captions "Report of the Compensation Committee on Executive Compensation" and
"Stock Performance Graph" is not incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON
FORM 8-K
(a) Financial Statements
The financial statements that are filed as part of this Annual Report on Form
10-K are set forth in the Index to Financial Statements at page F-1 of this
Annual Report on Form 10-K.
(b) Reports on Form 8-K
The Company filed no current report on Form 8-K during the quarter ended
March 31, 1997.
(c) Exhibits
The following exhibits are filed as part of this Annual Report on Form 10-K
or are incorporated by reference herein:
Exhibit
Number Description
3.1 Restated and Amended Articles of Incorporation of the Company (previously
filed with the Securities and Exchange Commission on March 6, 1992 as
Exhibit 3.1 to Amendment No. 1 to the Company's Registration Statement
on Form S-1, File No. 33-45187, and incorporated herein by reference).
3.2 Restated Bylaws of the Company (previously filed with the Securities and
Exchange Commission on January 21, 1992 as Exhibit 3.2 to the Company's
Registration Statement on Form S-1, File No. 33-45187, and incorporated
herein by reference).
10.1 Credit and Security Agreement dated September 1, 1995, between Bank of
America National Trust and Savings Association and the Company
(previously filed with the Securities and Exchange Commission on June
27, 1996 as Exhibit 10.1 to the Company's Annual Report or Form 10-K for
the fiscal year ended March 31, 1996 and incorporated herein by
reference).
10.2 Amended and Restated Mortgage Loan Warehousing Agreement dated September
1, 1995, among Bank of America National Trust and Savings Association
and Bank of America National Trust and Savings Association as agent for
various other lenders and the Company (previously filed with the
Securities and Exchange Commission on June 27, 1996 as Exhibit 10.2 to
the Company's Annual Report or Form 10-K for the fiscal year ended March
31, 1996 and incorporated herein by reference).
10.3 Second Amendment dated September 1, 1996 to Amended and Restated
Mortgage Loan Warehousing Agreement among Bank of America National Trust
and Savings Association, Bank of America National Trust and Savings
Association as agent for various other lenders and the Company.
10.4 Third Amendment dated December 18, 1996 to Amended and Restated Mortgage
Loan Warehousing Agreement among Bank of America National Trust and
Savings Association, Bank of America National Trust and Savings
Association as agent for various other lenders and the Company.
10.5 First Amendment dated March 20, 1996 to Amended and Restated Mortgage
Loan Warehousing Agreement among Bank of America National Trust and
Savings Association, Bank of America National Trust and Savings
Association as agent for various other lenders and the Company
(previously filed with the Securities and Exchange Commission on June
27, 1996 as Exhibit 10.3 to the Company's Annual Report or Form 10-K for
the fiscal year ended March 31, 1996 and incorporated herein by
reference).
10.6 Amendments dated May 1, 1995 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company (previously filed with the Securities and
Exchange Commission on June 27, 1996 as Exhibit 10.4 to the Company's
Annual Report or Form 10-K for the fiscal year ended March 31, 1996 and
incorporated herein by reference).
10.7 Amendments dated August 31, 1995 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company (previously filed with the Securities and
Exchange Commission on June 27, 1996 as Exhibit 10.5 to the Company's
Annual Report or Form 10-K for the fiscal year ended March 31, 1996 and
incorporated herein by reference).
10.8 Amendments dated October 31, 1995 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company (previously filed with the Securities and
Exchange Commission on June 27, 1996 as Exhibit 10.6 to the Company's
Annual Report or Form 10-K for the fiscal year ended March 31, 1996 and
incorporated herein by reference).
10.9 Amendments dated December 29, 1995 to Variable Terms Letter of the
Master Mortgage Loan Warehousing and Security Agreement between Sanwa
Bank of California and the Company (previously filed with the Securities
and Exchange Commission on June 27, 1996 as Exhibit 10.7 to the
Company's Annual Report or Form 10-K for the fiscal year ended March 31,
1996 and incorporated herein by reference).
10.10 Amendments dated July 1, 1996 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company.
10.11 Amendments dated August 31, 1996 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company.
10.12 Amendments dated October 25, 1996 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company.
10.13 Amendments dated February 3, 1997 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company.
10.14 Credit Agreement dated February 10, 1988, between Clement Ziroli and the
Company, and amendments thereto (previously filed with the Securities
and Exchange Commission on January 21, 1992 as Exhibit 10.4 to the
Company's Registration Statement on Form S-1, File No. 33-45187, and
incorporated herein by reference).
10.15 Note Secured by Deed of Trust dated February 1, 1991, by Fin-West Group
in favor of the Company in the amount of $500,000 (previously filed with
the Securities and Exchange Commission on January 21, 1992 as Exhibit
10.5 to the Company's Registration Statement on Form S-1, File No. 33-
45187, and incorporated herein by reference).
10.16 Lease dated January 1, 1992, between the Company and Fin-West
(previously filed with the Securities and Exchange Commission on January
21, 1992 as Exhibit 10.7 to the Company's Registration Statement on Form
S-1, File No. 33-45187, and incorporated herein by reference).
10.17 Amendment to Standard Office Lease-Net dated January 1, 1992 (previously
filed with the Securities and Exchange Commission on March 6, 1992 as
Exhibit 10.7(b) to Amendment No. 1 to the Company's Registration
Statement on Form S-1, File No. 33-45187, and incorporated herein by
reference).
10.18 1992 Stock Incentive Plan (previously filed with the Securities and
Exchange Commission on March 6, 1992 as Exhibit 10.8 to Amendment No. 1
to the Company's Registration Statement on Form S-1, File No. 33-45187,
and incorporated herein by reference).
10.19 1993 Stock Option Plan for Non-Employee Directors (previously filed with
the Securities and Exchange Commission on October 25, 1993 as Exhibit
4.6 to the Company's Registration Statement on Form S-8, File No. 33-
70760, and incorporated herein by reference).
10.20 Profit Sharing Plan for Employees of the Fin-West Group, dated April 5,
1990 (previously filed with the Securities and Exchange Commission on
January 21, 1992 as Exhibit 10.9 to the Company's Registration Statement
on Form S-1, File No. 33-45187, and incorporated herein by reference).
10.21 Fin-West Group 401(k) Savings Plan, dated April 5, 1990 (previously
filed with the Securities and Exchange Commission on January 21, 1992 as
Exhibit 10.10 to the Company's Registration Statement on Form S-1, File
No. 33-45187, and incorporated herein by reference).
10.22 Defined Contribution Plan and Trust -- Basic Plan Document No. 3
(previously filed with the Securities and Exchange Commission on January
21, 1992 as Exhibit 10.11 to the Company's Registration Statement on
Form S-1, File No. 33-45187, and incorporated herein by reference).
10.23 Employee Pre-Tax Premium Plan of Fin-West Group, Inc., a California
corporation, dated January 1, 1990 (previously filed with the Securities
and Exchange Commission on January 21, 1992 as Exhibit 10.12 to the
Company's Registration Statement on Form S-1, File No. 33-45187, and
incorporated herein by reference).
10.24 Amendment to Credit Agreement dated December 31, 1995, between Clement
Ziroli and the Company (previously filed with the Securities and
Exchange Commission on June 27, 1996 as Exhibit 10.18 to the Company's
Annual Report or Form 10-K for the fiscal year ended March 31, 1996 and
incorporated herein by reference).
10.25 Amendment to Credit Agreement dated December 31, 1996, between Clement
Ziroli and the Company.
10.26 Employment Agreement dated September 30, 1996 between Clement Ziroli
and the Company.
10.27 Employment Agreement dated September 30, 1996 between Bruce G. Norman
and the Company.
10.28 Employment Agreement dated September 30, 1996 between Pac W. Dong and
the Company.
11.1 Computation of Per Share Earnings.
23.1 Consent of Independent Auditors.
27.1 Financial Data Schedule (included only in the electronic filing).
Exhibits filed herewith or incorporated by reference herein will be furnished
to shareholders of the Company upon written request and payment of a fee of $.20
per page, which fee covers only the Company's reasonable expense in furnishing
such exhibits. Written requests should be addressed to Robyn S. Fredericks,
Secretary, First Mortgage Corporation, 3230 Fallow Field Drive, Diamond Bar,
California 91765.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
FIRST MORTGAGE CORPORATION
Dated June 27, 1997 By CLEMENT ZIROLI
Clement Ziroli, Chairman of the Board of
Directors and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the Company
and in the capacities indicated on June 27, 1997.
By CLEMENT ZIROLI
Clement Ziroli, Chairman of the Board of
Directors and Chief Executive Officer
(Principal Executive Officer)
By PAC W. DONG
Pac W. Dong, Director, Chief Financial
Officer, Controller and Executive Vice
President (Principal Financial and Accounting
Officer)
By BRUCE G. NORMAN
Bruce G. Norman, Director, President and
Chief Operating Officer.
By HAROLD HARRIGIAN
Harold Harrigian, Director
By ROBERT E. WEISS
Robert E. Weiss, Director
First Mortgage Corporation
Index to Financial Statements
Report of Independent Auditors F-2
Financial Statements
Balance Sheet as of March 31, 1997 and 1996 F-3
Statement of Operations for the years ended March 31, 1997, 1996 and 1995 F-4
Statement of Stockholders' Equity for the years ended March 31, 1997, 1996
and 1995 F-5
Statement of Cash Flows for the years ended March 31, 1997, 1996 and 1995 F-6
Notes to Financial Statements F-7
All other schedules are omitted because they are not required, are not
applicable or because the information is included in the Company's financial
statements or the notes thereto.
Report of Independent Auditors
Board of Directors
First Mortgage Corporation
We have audited the accompanying balance sheet of First Mortgage Corporation as
of March 31, 1997 and 1996, and the related statements of operations,
stockholders' equity and cash flows for each of the three years in the period
ended March 31, 1997. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall 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 financial position of First Mortgage Corporation at
March 31, 1997 and 1996, and the results of its operations and its cash flows
for each of the three years in the period ended March 31, 1997 in conformity
with generally accepted accounting principles.
As discussed in the notes to financial statements, in fiscal 1996 First Mortgage
Corporation adopted Statement of Financial Accounting Standards No. 122,
Accounting for Mortgage Servicing Rights.
Orange County, California
May 23, 1997
First Mortgage Corporation
Balance Sheet
March 31
1997 1996
Assets
Cash $ 5,903,000 $ 5,948,000
Mortgage loans held for sale 27,286,000 19,879,000
Investment in commercial paper - 9,955,000
Other receivables and servicing advances 9,623,000 9,545,000
Originated mortgage servicing rights, net 5,701,000 3,133,000
Excess service fee, net 294,000 414,000
Purchased servicing rights, net 714,000 430,000
Property and equipment, net 592,000 612,000
Prepaid expenses and other assets 546,000 891,000
Due from affiliates 134,000 194,000
Note receivable, Fin-West 130,000 130,000
Total assets $50,923,000 $51,131,000
Liabilities and stockholders' equity
Liabilities:
Notes payable, banks $20,172,000 $20,653,000
Notes payable, officer 1,500,000 1,500,000
Sight drafts payable 954,000 2,699,000
Accounts payable and accrued liabilities 816,000 765,000
Deferred income taxes 1,833,000 867,000
Total liabilities 25,275,000 26,484,000
Commitments and contingencies (Note 13)
Stockholders' equity:
Preferred stock, no par value:
Authorized shares - 1,000,000
Issued and outstanding shares - None - -
Common stock, no par value:
Authorized shares - 10,000,000
Issued and outstanding shares - 5,859,117 in
1997 and 5,883,117 in 1996 5,147,000 5,261,000
Retained earnings 20,501,000 19,386,000
Total stockholders' equity 25,648,000 24,647,000
Total liabilities and stockholders' equity $50,923,000 $51,131,000
See accompanying notes.
First Mortgage Corporation
Statement of Operations
Year ended March 31
1997 1996 1995
Revenues:
Loan origination income $3,426,000 $3,397,000 $2,523,000
Loan servicing income 7,137,000 6,787,000 6,695,000
Gain on sale of mortgage loans 5,374,000 7,116,000 819,000
Interest income 2,165,000 2,105,000 2,866,000
Other income 2,000 29,000 43,000
Total revenues 18,104,000 19,434,000 12,946,000
Expenses:
Employees' salaries and
commissions 8,217,000 7,752,000 6,899,000
General and administrative
expenses 7,271,000 6,494,000 5,594,000
Interest expense 690,000 786,000 1,309,000
Total expenses 16,178,000 15,032,000 13,802,000
Income (loss) before income
taxes 1,926,000 4,402,000 (856,000)
Income tax expense (benefit) 811,000 1,833,000 (308,000)
Net income (loss) $1,115,000 $2,569,000 (548,000)
Net income (loss) per share $ .19 $ .44 $ (.09)
See accompanying notes.
First Mortgage Corporation
Statement of Stockholders' Equity
Common stock Retained
Shares Amount earnings Total
Balance at March 31, 1994 5,981,247 $5,715,000 $17,365,000 $23,080,000
Repurchase of shares (98,300) (454,000) - (454,000)
Net loss - - (548,000) (548,000)
Balance at March 31, 1995 5,882,947 5,261,000 16,817,000 22,078,000
Net income - - 2,569,000 2,569,000
Stock issuances
under option plan 170 - - -
Balance at March 31, 1996 5,883,117 5,261,000 19,386,000 24,647,000
Net income - - 1,115,000 1,115,000
Repurchase of shares (24,000) (114,000) - (114,000)
Balance at March 31, 1997 5,859,117 $5,147,000 $20,501,000 $25,648,000
See accompanying notes.
First Mortgage Corporation
Statement of Cash Flows
Year ended March 31
1997 1996 1995
Operating activities
Net income (loss) $ 1,115,000 $2,569,000 (548,000)
Adjustments to reconcile net
income (loss) to net cash
provided by (used in)
operating activities:
Provision for deferred income
taxes 966,000 1,058,000 217,000
Provision for losses on
foreclosure 153,000 210,000 549,000
Amortization of originated
mortgage servicing rights,
excess service fee and
purchased servicing rights 1,683,000 1,032,000 314,000
Depreciation and amortization 195,000 175,000 171,000
Originations and purchases of
mortgage loans held for sale (353,411,000) (330,896,000) (174,544,000)
Sales and principal repayments
of mortgage loans held for
sale 346,004,000 336,346,000 191,952,000
Change in excess service fee - (2,000) 5,000
Change in other receivables and
servicing advances (231,000) (810,000) (759,000)
Change in prepaid expenses and
other assets 345,000 (190,000) 229,000
Change in accounts payable and
accrued liabilities 51,000 245,000 (665,000)
Loss on sale of assets 7,000 - -
Net cash provided by (used in)
operating activities (3,123,000) 9,737,000 16,921,000
Investing activities
Sale (purchase) of commercial
paper 9,955,000 (9,955,000) -
Originated mortgage servicing
rights (3,838,000) (3,740,000) -
Purchase of mortgage servicing
rights (577,000) (37,000) (163,000)
Note receivable, Fin-West - 120,000 -
Purchase of furniture and
equipment (212,000) (108,000) (33,000)
Proceeds from sale of assets 30,000 39,000 61,000
Change in due from affiliates 60,000 (10,000) -
Net cash provided by (used in)
investing activities 5,418,000 (13,691,000) (135,000)
Financing activities
Change in notes payable, banks (481,000) 12,292,000 (21,332,000)
Change in sight drafts
payable (1,745,000) 2,355,000 (1,284,000)
Change in notes payable, other - (9,493,000) 9,493,000
Repurchase of common stock (114,000) - (454,000)
Net cash provided by (used in)
financing activities (2,340,000) 5,154,000 (13,577,000) 000)
Increase (decrease) in cash (45,000) 1,200,000 3,209,000
Cash at beginning of year 5,948,000 4,748,000 1,539,000
Cash at end of year $ 5,903,000 $5,948,000 $4,748,000
First Mortgage Corporation
Notes to Financial Statements
March 31, 1997
1. Summary of Significant Accounting Policies
Business and Basis of Presentation
First Mortgage Corporation (the Company) is a mortgage banking company that
originates, purchases, warehouses, sells and services primarily first deed of
trust loans (mortgage loans) for the purchase or refinance of owner-occupied
one-to-four family residences through a network of 13 branch offices located in
the states of California, Nevada and Washington.
Fin-West Group (Fin-West), an affiliated company, owns 81.4% of the Company's
outstanding common stock.
Mortgage Loans Held for Sale
Mortgage loans held for sale are stated at the lower of cost or aggregate market
value. Market value is determined by purchase commitments from investors and
prevailing market prices.
Originated Mortgage Servicing Rights, Excess Service Fee and Purchased Servicing
Rights
Originated Mortgage Servicing Rights
Originated mortgage servicing rights (OMSR's) are recorded based on their
fair value relative to the loan as a whole. The cost is being amortized in
proportion to the estimated future net servicing income. Impairment of
originated mortgage servicing rights is determined using the estimated fair
value of the mortgage servicing rights on a disaggregated portfolio basis.
Excess Service Fee
Gains and losses on sales of mortgage loans are adjusted to reflect as
income or loss servicing fees that vary from normal servicing rates set by
federally approved secondary market makers. Accordingly, the Company has
recorded as excess service fee amounts equal to the present value of
servicing fees to be received in future years in excess of normal rates
based upon the estimated life of the loans. These fees are amortized over
the estimated life of the loan thus offsetting excess servicing revenues
received during such period.
First Mortgage Corporation
Notes to Financial Statements (continued)
1. Summary of Significant Accounting Policies (continued)
Originated Mortgage Servicing Rights, Excess Service Fee and Purchased Servicing
Rights (continued)
The excess service fee is calculated based on an aggregation by year of loan
origination and loan type. The net realizable value of each year's pool is
evaluated separately on a disaggregation basis based on loan type, loan
origination year, and loan interest rate.
Purchased Servicing Rights
The purchase price paid for contractual rights to service mortgage loans
(not exceeding the present value of estimated future net servicing income)
is capitalized and amortized in proportion to, and over, the period in which
estimated servicing revenue is in excess of estimated servicing costs.
The Company evaluates the net realizable value of purchased servicing rights
based on a disaggregation basis based on loan type, loan origination year
and loan interest rate.
Amortization of originated mortgage servicing rights, excess service fee and
purchased servicing rights is based upon estimates of future prepayment rates
for the underlying mortgage loans which, in turn, are affected by changes in
general economic conditions and prevailing interest rates for home mortgages.
Prepayment rates tend to increase (causing faster amortization) as mortgage
interest rates decline, and are inversely affected as mortgage interest rates
increase. The Company adjusts its amortization rates (which consider differences
in mortgage loans including interest rate, loan type and the loan's age or
seasoning) as estimated prepayment rates vary from those originally anticipated.
Servicing Advances
Servicing advances consist of advances and costs incurred by the Company in
connection with the administration of the foreclosure process for loans being
serviced. The majority of these amounts will be received from either the
insuring agency or proceeds of the foreclosure sale. The Company provides a
reserve for the estimated portion of the advances and costs that are not
reimbursable by the insuring agencies.
First Mortgage Corporation
Notes to Financial Statements (continued)
1. Summary of Significant Accounting Policies (continued)
Loan Origination Fees
Loan origination fees and certain direct loan origination costs for mortgage
loans held for sale are deferred until the related loans are sold.
Loan Servicing Income
Loan servicing income, which is generally a fee based on a percentage of the
outstanding principal balances of the mortgage loans serviced by the Company (or
by a subservicer where the Company is the master servicer), is recorded as
income as the installment collections on the mortgages are received by the
Company or the subservicer.
Gain on Sale of Mortgage Loans Held for Sale
Gains or losses on the sale of mortgage loans held for sale are recognized at
the date of sale. Included in gain on sale is the estimated present value of any
servicing fees to be received by the Company in excess of the estimated current
normal service fee. Conversely, the gain on sale is decreased or loss increased
for servicing fees to be received which are less than the estimated current
normal service fee. Starting in fiscal year 1996, the gain on sale of mortgage
loans was also benefited by the implementation of Statement of Financial
Accounting Standards No. 122, Accounting for Mortgage Servicing Rights, see Note
3.
Property and Equipment
Property and equipment is stated at cost, net of accumulated depreciation and
amortization. Depreciation is provided using the straight-line method, except
for automobiles, which are being depreciated using the double declining basis,
over the estimated useful lives of the assets which range from three to eight
years. Leasehold improvements are being amortized over the lesser of the
estimated useful lives of the improvements or the lease terms, using the
straight-line method.
First Mortgage Corporation
Notes to Financial Statements (continued)
1. Summary of Significant Accounting Policies (continued)
Income Taxes
The Company files a separate federal income tax return and is included in the
State of California combined return of Fin-West Group.
Statement of Cash Flows
The Company paid interest in 1997, 1996 and 1995 of $641,000, $747,000 and
$1,358,000, respectively.
The Company paid income taxes in 1997, 1996 and 1995 of $30,000, $1,545,000 and
$0, respectively.
Net Income per Share
Net income per share is computed based on the weighted average number of common
and dilutive common equivalent shares (stock options) outstanding during each
year retroactively adjusted for stock splits. The weighted average number of
common and common equivalent shares outstanding in 1997, 1996 and 1995 were
5,873,931, 5,890,097 and 5,946,681, respectively.
Use of Estimates in the Preparation of Financial Statements
The preparation of the financial statements of the Company requires management
to make estimates and assumptions that affect reported amounts. These estimates
are based on information available as of the date of the financial statements.
Therefore, actual results could differ from those estimates.
Recently Issued Financial Accounting Standards
In June 1996, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards No. 125 Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities (FAS 125). FAS 125 will
result in the recording of OMSRs on the date of sale of a mortgage loan as
opposed to the current practice of recording OMSRs on the date loans are
originated. Additionally, under FAS 125, excess servicing fees will be combined
with OMSR's for balance sheet presentation.
First Mortgage Corporation
Notes to Financial Statements (continued)
1. Summary of Significant Accounting Policies (continued)
Recently Issued Financial Accounting Standard (continued)
In December 1996, the FASB issued Statement of Financial Accounting Standards
No. 127 Deferral of the Effective Date of Certain provisions of FASB Statement
No. 125 (FAS 127), which delays the effective date of the provisions of FAS 125
that are applicable to the Company by one year. The Company believes that the
adoption of FAS 125 in fiscal year 1998 will not have a material impact on the
financial statements.
In February 1997, the FASB issued Statement No. 128, Earnings Per Share (FAS
128), which simplifies the standards for computing earnings per share (EPS) and
replaces the presentation of primary EPS with a presentation of basic EPS. The
Company believes that the adoption of FAS 128 in fiscal year 1998 will not have
a material impact on the financial statements.
2. Mortgage Loans Held for Sale
Mortgage loans held for sale consist of the following at March 31, 1997 and
1996:
1997 1996
Principal balance outstanding $28,003,000 $20,507,000
Loss reserve (30,000) (40,000)
Loan origination discounts (601,000) (540,000)
Deferred loan fees (86,000) (48,000)
$27,286,000 $19,879,000
All mortgage loans held for sale are collateralized by first trust deeds on
underlying real properties located primarily in California and may be used as
collateral for the Company's borrowings.
At March 31, 1997, the Company had short-term commitments amounting to
approximately $4,014,000 to fund mortgage loans subject to credit approval. The
Company generally does not engage in forward delivery contracts to hedge its
portfolio.
First Mortgage Corporation
Notes to Financial Statements (continued)
3. Mortgage Servicing Assets
In May 1995, the FASB issued Statement of Financial Accounting Standards No.
122, Accounting for Mortgage Servicing Rights, an amendment of FAS 65 (FAS 122).
The Company adopted this standard for its 1996 fiscal year. FAS 122 prohibits
retroactive application. Accordingly, the Company's financial statements for the
fiscal year ended March 31, 1995 was accounted for under the original FAS 65.
FAS 122 requires that a portion of the cost of originating a mortgage loan be
allocated to the mortgage servicing right based on its fair value relative to
the loan as a whole. To determine the fair value of the mortgage rights created
during the year, the Company used quoted market prices of comparable servicing
transactions.
To determine servicing value impairment at the end of the year, the post-
implementation originated servicing portfolio was disaggregated into its
predominant risk characteristics, namely loan type, interest rate and investor
type. These segments of the portfolio were then valued, using quoted market
prices of comparable servicing rights. The calculated value was then compared
with the book value of each segment to determine if a reserve for impairment was
required.
Mortgage servicing assets consist of originated mortgage servicing rights,
excess servicing fee and purchased servicing rights. Activities in each category
are summarized as follows:
Originated Excess Purchased
mortgage servicing servicing
servicing fee rights
rights
Beginning balance at March 31, 1996 $3,133,000 $414,000 $430,000
Additions 3,838,000 - 577,000
Amortization and write-offs (1,337,000) (120,000) (325,000)
Impairment 67,000 - 32,000
Balance at March 31, 1997 $5,701,000(1) $294,000 $714,000
<FN>
<F1>
(1)Includes $350,000 of originated servicing rights related to mortgage loans
held for sale to investors. Since the underlying loans have not yet been
sold, no revenues have been recognized on these originated servicing rights
for the fiscal year ended March 31, 1997.
</FN>
First Mortgage Corporation
Notes to Financial Statements (continued)
4. Other Receivables and Servicing Advances
Other receivables and servicing advances consists of the following at March 31,
1997 and 1996:
1997 1996
Foreclosures and advances on real estate owned $8,800,000 $8,923,000
Servicing advances 1,715,000 1,799,000
Other 580,000 142,000
Allowance for possible losses (1,472,000) (1,319,000)
$9,623,000 $9,545,000
5. Note Receivable, Fin-West
The note receivable from Fin-West is collateralized by real property located in
Diamond Bar, California and bears interest at 6% per annum, payable annually.
The note is due January 2001.
6. Property and Equipment
Property and equipment consists of the following at March 31, 1997 and 1996:
1997 1996
Furniture and equipment $1,981,000 $1,806,000
Automobiles 64,000 64,000
Leasehold improvements 388,000 388,000
2,433,000 2,258,000
Less accumulated depreciation and
amortization (1,841,000) (1,646,000)
$592,000 $612,000
First Mortgage Corporation
Notes to Financial Statements (continued)
7. Income Taxes
Income tax expense (benefit)for the years ended March 31, 1997, 1996 and 1995
consists of the following:
1997 1996 1995
Current:
Federal $(112,000) $ 622,000 $(525,000)
State (43,000) 153,000 -
(155,000) 775,000 (525,000)
Deferred:
Federal 701,000 718,000 261,000
State 265,000 340,000 (44,000)
966,000 1,058,000 217,000
$ 811,000 $1,833,000 $(308,000)
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Company's deferred tax assets and liabilities as of March 31, 1997 and 1996
are as follows:
1997 1996
Deferred tax assets:
State income taxes $ 174,000 $ 119,000
Accrued liabilities 74,000 50,000
Deferred loan fees 39,000 22,000
Provision for foreclosure 367,000 328,000
Purchased servicing rights 153,000 116,000
Mark-to-market adjustments 3,000 5,000
Total deferred tax assets 810,000 640,000
Deferred tax liabilities:
Originated mortgage servicing rights (2,425,000) (1,298,000)
Capitalized servicing fees (13,000) (21,000)
Accelerated depreciation (96,000) (79,000)
Other (109,000) (109,000)
Total deferred tax liabilities (2,643,000) (1,507,000)
Net deferred tax liabilities $(1,833,000) $ (867,000)
First Mortgage Corporation
Notes to Financial Statements (continued)
7. Income Taxes (continued)
Income tax expense (benefit) computed at the statutory federal income tax rate
(34%) and income tax expense (benefit) provided in the financial statements
differ as follows for the years ended March 31, 1997, 1996 and 1995:
1997 1996 1995
Tax computed at the statutory rate $665,000 $1,497,000 $(291,000) 00 0)
State income tax, net of federal income tax benefit 146,000 330,000 (29,000)
Other 10,000 6,000 12,000
Income tax expense (benefit) $811,000 $1,833,000 $(308,000)
8. Notes Payable, Banks
At March 31, 1997, the Company had two line of credit agreements with banks
which provide for borrowings up to $30,000,000 and $15,000,000 with interest
payable monthly at 1.25% per annum or the bank's reference rate of 8.25% at
March 31, 1997, depending on the level of borrowings and the compensating
balances maintained. Fiduciary funds are used by the Company to satisfy
compensating balance requirements. At March 31, 1997, borrowings under these
lines of $20,172,000 are collateralized by mortgage loans held for sale. The
weighted average interest rate for the fiscal year ended March 31, 1997 was
1.28%.
The lines of credit are subject to renewal on September 1, 1997 and August 31,
1997, respectively. Management believes the line of credit agreements will be
renewed prior to their expiration. Under the credit agreements, the Company must
comply with certain financial and other covenants, including the maintenance of
a minimum net worth, other financial ratios, and a minimum servicing portfolio
size. Further, absent the consent of the lenders, such covenants prohibit the
Company from declaring or paying any dividends upon any shares of the Company's
common stock. At March 31, 1997, the Company was in compliance with the
aforementioned loan convenants.
One line of credit allows the Bank to act as an agent on behalf of the Company
and invest in short term, highly liquid investment grade securities to the
extent that the warehouse line is not utilized to fund mortgage loans. All
investment securities are considered to be available for sale and carried at
fair value. As of March 31, 1997 there were no investment securities purchased
under this line.
First Mortgage Corporation
Notes to Financial Statements (continued)
8. Notes Payable, Banks (continued)
At March 31, 1997, the Company also had an unsecured line of credit of
$2,000,000 with a bank which expires in August 1997. Advances on the line of
credit are due within 21 days and bear interest at the bank's reference rate.
There were no amounts outstanding under the agreement at March 31, 1997 and
1996.
9. Related Party Transactions
At March 31, 1997, the Company had a line of credit agreement with an officer,
under which the Company may borrow up to $1,500,000. The line of credit expires
on December 31, 1997. Advances under the agreement bear interest at a
nonaffiliated bank's reference rate (8.25% at March 31, 1997) plus 1% per annum.
The weighted average interest rate for the fiscal year ended March 31, 1997 was
9.3%. Interest expense of approximately $139,000, $148,000 and $128,000 were
charged to operations for the years ended March 31, 1997, 1996 and 1995,
respectively, for borrowings under this agreement.
The Company leases certain premises from Fin-West, at a monthly rental of
$20,000. Total rent expense for these premises amounted to $240,000 for each of
the years ended March 31, 1997, 1996 and 1995. The Company subleased part of
these premises for a monthly rental income of $3,200 pursuant to one sublease
that expired in May 1995. The Company also leased certain premises on a
month-to-month basis from an affiliated company in fiscal year 1995. Total rent
expense for these premises amounted to $4,000 and $37,950 for the years ended
March 31, 1996 and 1995, respectively.
The Company paid title insurance fees to an affiliated entity of $151,000,
$185,000 and $112,000 for the years ended March 31, 1997, 1996 and 1995,
respectively.
10. Loan Servicing
The Company's loan servicing portfolio at March 31, 1997 and 1996 consisted of
the following:
1997 1996
GNMA mortgage-backed securities $798,504,000 $780,390,000
FHLMC 283,434,000 300,009,000
FNMA 186,782,000 192,101,000
Other 414,932,000 297,205,000
$1,683,652,000 $1,569,705,000
First Mortgage Corporation
Notes to Financial Statements (continued)
10. Loan Servicing (continued)
At March 31, 1997 and 1996, the Company subserviced approximately $99,815,000
and $92,544,000, respectively, of mortgage loans for a nonaffiliated company,
which is included above.
Related fiduciary funds held by the Company in noninterest-bearing accounts
totaled approximately $12,966,000 and $13,892,000 at March 31, 1997 and 1996,
respectively. These funds are not included in the accompanying balance sheets.
The Company is required to pay interest equal to 2% per annum of the average
daily balance of certain fiduciary funds to mortgagors.
The Company had insurance coverage for errors and omissions and employee
fidelity in the amount of $2,300,000 and $2,100,000 at March 31, 1997 and 1996,
respectively.
11. Financial Instruments
The Company is a party to financial instruments with off balance sheet risk in
the normal course of business through the origination and sale of mortgage
loans. These financial instruments include mandatory and optional forward
commitments which involve, to varying degrees, elements of credit and interest
rate risk. At any time the risk to the Company , in the event of default by the
purchaser, is the difference between the contract price and current market
value, which amount is a percentage of the outstanding commitments. Historically
the Company has not incurred losses due to the failure or lack of performance of
the counter parties to these commitments.
Realized gains and losses on mandatory and optional delivery forward commitments
are recognized in the period settlement occurs. Unrealized gains and losses on
mandatory forward commitments are included in the lower of cost or market
valuation adjustment to mortgage loans held for sale. Additionally, unrealized
gains and losses on optional delivery forward commitments to which mortgages
have been allocated are included in the lower of cost or market valuation
adjustment to mortgage loans held for sale.
Statement of Financial Accounting Standards No, 107, Disclosure About Fair Value
of Financial Instruments (FAS 107), requires disclosure of fair value
information about all financial instruments held or owned by a company except
for certain excluded instruments and instruments for which it is not practicable
to estimate fair value. At March 31, 1997, the estimated fair value of mortgage
loans held for sale, excess service fee and notes payable approximated the net
carrying value of such accounts.
First Mortgage Corporation
Notes to Financial Statements (continued)
12. Profit Sharing Plan
The Company is a participant in a profit-sharing plan maintained by Fin-West,
covering all full-time employees who have completed at least one year of
service. Annual contributions by the Company to the plan are discretionary and
were $0, $60,000 and $0 for the years ended March 31, 1997, 1996, and 1995,
respectively.
13. Commitments and Contingencies
Leases
Minimum annual rental payments under operating leases for office space are as
follows:
1998 $258,000
Net rental payments to nonaffiliated entities of approximately $212,000,
$261,000 and $313,000 have been charged to occupancy expense in the accompanying
statements of operations for the years ended March 31, 1997, 1996 and 1995,
respectively.
Litigation
The Company is currently a defendant in certain litigation arising in the
ordinary course of business. It is management's opinion that the outcome of
these actions will not have a material effect on the Company's financial
position, results of operations or cash flows.
14. Stockholders' Equity
Under the Company's 1992 Stock Incentive Plan, the compensation committee of the
Board of Directors is authorized to grant awards to any officer or employee of
the Company. Awards granted can take the form of incentive stock options,
nonqualified stock options or restricted stock or any combination thereof. A
maximum of 625,000 shares of common stock may be issued under the Plan.
Incentive stock options are granted at a price not less than 100% of the fair
market value at date of grant, except for employees who own shares possessing
greater than 10% of total combined voting power whose grant price shall not be
less than 110% of the fair market value at date of grant. The compensation
committee also determines the exercise price of nonqualified stock options and
the purchase price of restricted stock, provided that the purchase price of
First Mortgage Corporation
Notes to Financial Statements (continued)
14. Stockholders' Equity (continued)
restricted stock may not be less than 25% of its fair market value at the date
of grant. Incentive stock options and nonqualified stock options become
exercisable not less than six months after the date of grant, as determined by
the compensation committee. Options remain exercisable until their specified
expiration date, but the expiration date cannot be more than ten years after the
date of grant for incentive stock options.
The Company also has a 1993 Stock Option Plan for Non-Employee Directors (the
Plan) which provides for an aggregate of 100,000 shares of the Company's common
stock to be available for eligible directors. All options granted under the Plan
are to be nonqualified options with an exercise price equal to 100% of fair
market value of the common stock on the date the option is granted. Each option
granted under the Plan may be exercised in full on the 185th day after the date
of grant and terminates five years from the date of grant. Under the Plan, an
option to purchase 5,750 shares of the Company's common stock is to be granted
to each nonemployee director in office on the last business day of each July
beginning in 1993 and continuing through 1997. No option is to be granted after
the last business day in July 1997 unless the Plan is otherwise amended.
The following summarizes stock option activity under both of the Company's stock
plans for the year ended March 31, 1997:
Weighed-Average
Options Exercise Price Options
March 31, 1997 March 31,1997 March 31, 1996 Exercise
Options outstanding at
beginning of fiscal year 292,555 $5.66 250,150
Option granted 95,100 $4.81 84,375
Options exercised - - (170)
Options cancelled (15,100) $5.30 (41,800)
Options outstanding at
end of fiscal year 372,555 $5.46 292,555
Exercise price:
Per share for options
exercised during the
fiscal year n/a $5.00
First Mortgage Corporation
Notes to Financial Statements (continued)
14. Stockholders' Equity (continued)
Weighed-Average
Options Exercise Price Options
March 31, 1997 March 31,1997 March 31,1996
Per share for options
outstanding at end of
fiscal year $4.625-$6.80 $4.625-$6.80 $6.80
Weighted average fair
value of options
granted $1.35 $1.17
Weighted average
contractual life of
option outstanding
in years) 3.8 3.9
All outstanding options as of March 31, 1997 were exercisable. Options available
for future grants under the plans were 263,945 and 355,445 as of March 31, 1997
and 1996, respectively.
The Company currently follows Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees (APB 25) and related interpretations in
accounting for its stock options. Under APB 25, because the exercise price of
the Company's employee stock options are equal to the underlying stock on the
date of grant, no compensation expense is recognized. The Company intends to
follow the provisions of APB 25 for future years.
Pro forma information regarding net income and earnings per share is required by
FASB Statement No. 123, Accounting for Stock-Based Compensation (FAS 123), and
has been determined as if the Company had accounted for its employee stock
options under the fair value method of that Statement. The fair value of options
at date of grant was estimated using the Black-Scholes model with the following
weighted average assumptions:
1997 1996
Expected life (years) 3 2.5
Interest rate 5.70% 5.60%
Volatility 0.32 0.32
Dividend yield 0.00% 0.00%
First Mortgage Corporation
Notes to Financial Statements (continued)
14. Stockholders' Equity (continued)
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.
The estimated stock-based compensation cost calculated using the assumptions
indicated totaled $43,000 and $46,000 in 1997 and 1996, respectively. The pro
forma net income resulting from the increased compensation cost was $1,072,000
($0.18 per share) and $2,523,000 ($0.43 per share) in 1997 and 1996,
respectively. The effect of stock-based compensation on net income for 1997 and
1996 may not be representative of the effect on pro forma net income in future
years because compensation expense related to grants made prior to 1996 is not
considered.
FIRST MORTGAGE CORPORATION
EXHIBIT INDEX
Sequential
Exhibit Page
Number Description of Exhibit Number
3.1 Restated and Amended Articles of Incorporation of the Company (previously
filed with the Securities and Exchange Commission on March 6, 1992 as
Exhibit 3.1 to Amendment No. 1 to the Company's Registration Statement
on Form S-1, File No. 33-45187, and incorporated herein by reference).
3.2 Restated Bylaws of the Company (previously filed with the Securities and
Exchange Commission on January 21, 1992 as Exhibit 3.2 to the Company's
Registration Statement on Form S-1, File No. 33-45187, and incorporated
herein by reference).
10.1 Credit and Security Agreement dated September 1, 1995, between Bank of
America National Trust and Savings Association and the Company
(previously filed with the Securities and Exchange Commission on June
27, 1996 as Exhibit 10.1 to the Company's Annual Report or Form 10-K for
the fiscal year ended March 31, 1996 and incorporated herein by
reference).
10.2 Amended and Restated Mortgage Loan Warehousing Agreement dated September
1, 1995, among Bank of America National Trust and Savings Association
and Bank of America National Trust and Savings Association as agent for
various other lenders and the Company (previously filed with the
Securities and Exchange Commission on June 27, 1996 as Exhibit 10.2 to
the Company's Annual Report or Form 10-K for the fiscal year ended March
31, 1996 and incorporated herein by reference).
10.3 Second Amendment dated September 1, 1996 to Amended and Restated
Mortgage Loan Warehousing Agreement among Bank of America National Trust
and Savings Association, Bank of America National Trust and Savings
Association as agent for various other lenders and the Company.
10.4 Third Amendment dated December 18, 1996 to Amended and Restated Mortgage
Loan Warehousing Agreement among Bank of America National Trust and
Savings Association, Bank of America National Trust and Savings
Association as agent for various other lenders and the Company.
10.5 First Amendment dated March 20, 1996 to Amended and Restated Mortgage
Loan Warehousing Agreement among Bank of America National Trust and
Savings Association, Bank of America National Trust and Savings
Association as agent for various other lenders and the Company
(previously
filed with the Securities and Exchange Commission on June 27, 1996 as Exhibit
10.3 to the Company's Annual Report or Form 10-K for the fiscal year
ended March 31, 1996 and incorporated herein by reference).
10.6 Amendments dated May 1, 1995 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company (previously filed with the Securities and
Exchange Commission on June 27, 1996 as Exhibit 10.4 to the Company's
Annual Report or Form 10-K for the fiscal year ended March 31, 1996 and
incorporated herein by reference).
10.7 Amendments dated August 31, 1995 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company (previously filed with the Securities and
Exchange Commission on June 27, 1996 as Exhibit 10.5 to the Company's
Annual Report or Form 10-K for the fiscal year ended March 31, 1996 and
incorporated herein by reference).
10.8 Amendments dated October 31, 1995 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company (previously filed with the Securities and
Exchange Commission on June 27, 1996 as Exhibit 10.6 to the Company's
Annual Report or Form 10-K for the fiscal year ended March 31, 1996 and
incorporated herein by reference).
10.9 Amendments dated December 29, 1995 to Variable Terms Letter of the
Master Mortgage Loan Warehousing and Security Agreement between Sanwa
Bank of California and the Company (previously filed with the Securities
and Exchange Commission on June 27, 1996 as Exhibit 10.7 to the
Company's Annual Report or Form 10-K for the fiscal year ended March 31,
1996 and incorporated herein by reference).
10.10 Amendments dated July 1, 1996 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company.
10.11 Amendments dated August 31, 1996 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company.
10.12 Amendments dated October 25, 1996 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company.
10.13 Amendments dated February 3, 1997 to Variable Terms Letter of the Master
Mortgage Loan Warehousing and Security Agreement between Sanwa Bank of
California and the Company.
10.14 Credit Agreement dated February 10, 1988, between Clement Ziroli and the
Company, and amendments thereto (previously filed with the Securities
and Exchange Commission on January 21, 1992 as Exhibit 10.4 to the
Company's Registration Statement on Form S-1, File No. 33-45187, and
incorporated herein by reference).
10.15 Note Secured by Deed of Trust dated February 1, 1991, by Fin-West Group
in favor of the Company in the amount of $500,000 (previously filed with
the Securities and Exchange Commission on January 21, 1992 as Exhibit
10.5 to the Company's Registration Statement on Form S-1, File No. 33-
45187, and incorporated herein by reference).
10.16 Lease dated January 1, 1992, between the Company and Fin-West
(previously filed with the Securities and Exchange Commission on January
21, 1992 as Exhibit 10.7 to the Company's Registration Statement on Form
S-1, File No. 33-45187, and incorporated herein by reference).
10.17 Amendment to Standard Office Lease-Net dated January 1, 1992 (previously
filed with the Securities and Exchange Commission on March 6, 1992 as
Exhibit 10.7(b) to Amendment No. 1 to the Company's Registration
Statement on Form S-1, File No. 33-45187, and incorporated herein by
reference).
10.18 1992 Stock Incentive Plan (previously filed with the Securities and
Exchange Commission on March 6, 1992 as Exhibit 10.8 to Amendment No. 1
to the Company's Registration Statement on Form S-1, File No. 33-45187,
and incorporated herein by reference).
10.19 1993 Stock Option Plan for Non-Employee Directors (previously filed with
the Securities and Exchange Commission on October 25, 1993 as Exhibit
4.6 to the Company's Registration Statement on Form S-8, File No. 33-
70760, and incorporated herein by reference).
10.20 Profit Sharing Plan for Employees of the Fin-West Group, dated April 5,
1990 (previously filed with the Securities and Exchange Commission on
January 21, 1992 as Exhibit 10.9 to the Company's Registration Statement
on Form S-1, File No. 33-45187, and incorporated herein by reference).
10.21 Fin-West Group 401(k) Savings Plan, dated April 5, 1990 (previously
filed with the Securities and Exchange Commission on January 21, 1992 as
Exhibit 10.10 to the Company's Registration Statement on Form S-1, File
No. 33-45187, and incorporated herein by reference).
10.22 Defined Contribution Plan and Trust -- Basic Plan Document No. 3
(previously filed with the Securities and Exchange Commission on January
21, 1992 as Exhibit 10.11 to the Company's Registration Statement on
Form S-1, File No. 33-45187, and incorporated herein by reference).
10.23 Employee Pre-Tax Premium Plan of Fin-West Group, Inc., a California
corporation, dated January 1, 1990 (previously filed with the Securities
and Exchange Commission on January 21, 1992 as Exhibit 10.12 to the
Company's Registration Statement on Form S-1, File No. 33-45187, and
incorporated herein by reference).
10.24 Amendment to Credit Agreement dated December 31, 1995, between Clement
Ziroli and the Company (previously filed with the Securities and
Exchange Commission on June 27, 1996 as Exhibit 10.18 to the Company's
Annual Report or Form 10-K for the fiscal year ended March 31, 1996 and
incorporated herein by reference).
10.25 Amendment to Credit Agreement dated December 31, 1996, between Clement
Ziroli and the Company.
10.36 Employment Agreement dated September 30, 1996 between Clement Ziroli
and the Company.
10.37 Employment Agreement dated September 30, 1996 between Bruce G. Norman
and the Company.
10.38 Employment Agreement dated September 30, 1996 between Pac W. Dong and
the Company.
11.1 Computation of Per Share Earnings.
23.1 Consent of Independent Auditors.
27.1 Financial Data Schedule (included only in the electronic filing).