UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
FORM 10-K/A
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the year ended December 31, 1997 Commission file number 1-7797
PHH CORPORATION
(Exact name of registrant as specified in its charter)
Maryland 52-0551284
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
6 Sylvan Way 07054
(Address of principal executive offices) (Zip Code)
(973) 428-9700
(Registrant's telephone number, including area code)
Securities registered pursuant to Section
12(b) of the Act:
None
Securities registered pursuant to Section
12(g) of the Act:
None
(Title of class)
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 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 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]
Aggregate market value of the voting stock held by non-affiliates of the
registrant as of December 31, 1997: $0
Number of shares of PHH Corporation outstanding on December 31, 1997: 100
PHH Corporation meets the conditions set forth in General Instructions I (1) (a)
and (b) to Form 10-K and is therefore filing this form with the reduced
disclosure format.
PHH CORPORATION
PART I
Item 1. Business
Pursuant to a merger agreement (the "Merger Agreement") by and among PHH
Corporation (the "Company"), HFS Incorporated ("HFS") and Mercury Acquisition
Corp. ("Mercury"), a wholly owned subsidiary of HFS, effective April 30, 1997,
Mercury was merged into the Company, with the Company being the surviving
corporation, and becoming a wholly owned subsidiary of HFS (the "HFS Merger").
In connection with the HFS Merger, all outstanding shares of the Company's
common stock, including shares issued to holders of the Company's employee stock
options, were converted into approximately 30.3 million shares of HFS common
stock. On December 17, 1997, pursuant to a merger agreement between CUC
International Inc. ("CUC") and HFS, HFS was merged into CUC (the "Cendant
Merger"), with CUC surviving and changing its name to Cendant Corporation
("Cendant"). As a result of the Cendant Merger, the Company became a wholly
owned subsidiary of Cendant.
As part of Cendant's ongoing evaluation of its business units, the Company may
from time to time explore its ability to make divestitures and enter into
related transactions as they arise. No assurance can be given that any
divestiture or other transaction will be consummated or, if consummated, the
magnitude, timing, likelihood or financial or business effect on the Company of
such transactions. Among the factors the Company will consider in determining
whether or not to consummate any transaction is the strategic and financial
impact of such transaction on the Company and Cendant.
In connection with the HFS Merger, the Company's fiscal year was changed from a
year ending on April 30 to a year ending on December 31.
GENERAL
The Company provides a broad range of integrated management services, expense
management programs and mortgage banking services to more than 3,000 clients,
including many of the world's largest corporations, as well as government
agencies and affinity groups. Its primary business service segments consist of
fleet management services, and real estate which includes relocation services
and mortgage banking services. Information as to revenues, operating income and
identifiable assets by business segment is included in the Business Segments
note in the Notes to Consolidated Financial Statements.
Certain statements in this Annual Report on Form 10-K/A, including without
limitation certain matters discussed in "Item 7. Management's Narrative Analysis
of Results of Operations," constitute "forward-looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995. Such
forward-looking statements involve known and unknown risks, uncertainties and
other factors which may cause the actual results, performance, or achievements
of the Company to be materially different from any future results, performance,
or achievements expressed or implied by such forward-looking statements.
Important assumptions and other important factors that could cause actual
results to differ materially from those in the forward-looking statements,
include, but are not limited to: the effect of economic and market conditions,
the ability to obtain financing, the level and volatility of interest rates,
outcome of the pending litigation relating to the accounting irregularities at
Cendant, the ability of the Company and its vendors to complete the necessary
actions to achieve a year 2000 conversion for its computer systems as
applications, the effect of any corporate transactions, including any
divestitures, and other risks and uncertainties. Other factors and assumptions
not identified above were also involved in the derivation of these
forward-looking statements, and the failure of such other assumptions to be
realized as well as other factors may also cause actual results to differ
materially from those projected. The Company assumes no obligation to update
these forward-looking statements to reflect actual results, changes in
assumptions or changes in other factors affecting such forward-looking
statements.
The Company's principal executive offices are located at 6 Sylvan Way,
Parsippany, NJ 07054 (telephone 973-428-9700).
FLEET MANAGEMENT SERVICES
General. The Company, through PHH Vehicle Management Services
Corporation ("VMS"), is a provider of fully integrated fleet management services
principally to corporate clients and government agencies comprising over 600,000
units under management on a worldwide basis. These services include vehicle
leasing, advisory services and fleet management services for a broad range of
vehicle fleets. Advisory services include fleet policy analysis and
recommendations, benchmarking, and vehicle recommendations and specifications.
In addition, VMS provides managerial services which include ordering and
purchasing vehicles, arranging for their delivery through dealerships located
throughout the United States, Canada, the United Kingdom, Germany and the
Republic of Ireland, as well as capabilities throughout Europe, administration
of the title and registration process, as well as tax and insurance
requirements, pursuing warranty claims with vehicle manufacturers and
remarketing used vehicles. VMS offers various leasing plans for its vehicle
leasing programs, financed primarily through the issuance of commercial paper
and medium-term notes and through unsecured borrowings under revolving credit
agreements and bank lines of credit.
Fuel and Expense Management Programs. VMS also offers fuel and expense
management programs to corporations and government agencies for the effective
management and control of automotive business travel expenses. By utilizing the
VMS service card issued under the fuel and expense management programs, a
client's representatives are able to purchase various products and services such
as gasoline, tires, batteries, glass and maintenance services at numerous
outlets.
In 1997, the Company formed a joint venture to operate the fuel and expense
management card programs. As part of the formation of the joint venture, the
Company sold 50 percent of its interest in its United States service card
business to First USA Paymentech, Inc. the Company subsequently terminated the
joint venture by repurchasing First USA Paymentech's interest in the joint
venture in December 1997. The joint venture offers a MasterCard--branded fleet
card that provides a single card payment mechanism for fuel, maintenance,
purchasing, travel and entertainment. The Company believes the joint venture
will provide opportunities for continued growth in the service card business in
future years.
The Company also provides a fuel and expense management program and a
centralized billing service for companies operating truck fleets in each of the
United Kingdom, Republic of Ireland and Germany. Drivers of the clients' trucks
are furnished with courtesy cards together with a directory listing the names of
strategically located truck stops and service stations, which participate in
this program. Service fees are earned for billing, collection and record keeping
services and for assuming credit risk. These fees are paid by the truck stop or
service stations and/or the fleet operator and are based upon the total amount
of fuel purchased or the number of transactions processed.
Competitive Conditions. The principal factors for competition in
vehicle management services are service quality and price. In the United States
and Canada, an estimated 30% of the market for vehicle management services is
served by third-party providers. There are 5 major providers of such services in
North America, as well as an estimated several hundred local and regional
competitors. The Company is the second largest provider of comprehensive vehicle
management services in North America. In the United Kingdom, the Company is the
market leader for fuel and fleet management services. Numerous local and
regional competitors serve each such market element.
REAL ESTATE Services
Relocation Services Business
General. Cendant Mobility Services Corporation ("Cendant Mobility"), a
wholly owned subsidiary of the Company, is the largest provider of employee
relocation services in the world. The employee relocation business offers
relocation clients a variety of services in connection with the transfer of its
clients' employees.
The relocation services provided to customers of Cendant Mobility
include primarily appraisal, inspection and selling of transferees' homes,
equity advances (guaranteed by the corporate customer), purchase of a home which
is not sold for at least a price determined on the appraised value within a
specified time period, certain home management services, assistance in locating
a new home at the transferee's destination, consulting services and other
related services.
All costs associated with such services are reimbursed by the corporate
client, including, if necessary, repayment of equity advances and reimbursement
of losses on the sale of homes purchased by one of the Company's relocation
subsidiaries. Corporate clients also pay a fee for the services performed.
Another source of revenue for the Company is interest on the equity advances. As
a result of the obligations of corporate clients to pay the losses and guarantee
repayment of equity advances, the exposure of the Company on such items is
limited to the credit risk of the corporate clients of its relocation businesses
and not on the potential changes in value of residential real estate. The
Company believes such risk is minimal, due to the credit quality of the
corporate, government and affinity clients of its relocation subsidiaries.
Competitive Conditions. The principal methods of competition within
relocation services are service quality and price. In each of the United States
and Canada, there are two major national providers of such services. The Company
is the market leader in the United States and Canada, and third in the United
Kingdom.
Mortgage Banking Services Business
General. The Company, through Cendant Mortgage Corporation ("Cendant
Mortgage"), is the eleventh largest originator of residential first mortgage
loans in the United States as reported by Inside Mortgage Finance in 1997.
Cendant Mortgage offers services consisting of the origination, sale and
servicing of residential first mortgage loans. A variety of first mortgage
products are marketed to consumers through relationships with corporations,
affinity groups, financial institutions, real estate brokerage firms and other
mortgage banks. Cendant Mortgage is a centralized mortgage lender conducting its
business in all 50 states. Cendant Mortgage customarily sells all mortgages it
originates to investors (which include a variety of institutional investors)
either as individual loans, as mortgage-backed securities or as participation
certificates issued or guaranteed by Fannie Mae Corp., the Federal Home Loan
Mortgage Corporation or the Government National Mortgage Association while
generally retaining mortgage servicing rights. Mortgage servicing consists of
collecting loan payments, remitting principal and interest payments to
investors, holding escrow funds for payment of mortgage-related expenses such as
taxes and insurance, and otherwise administering the Company's mortgage loan
servicing portfolio.
Competitive Conditions. The principal methods of competition in
mortgage banking services are service, quality and price. There are an estimated
20,000 national, regional or local providers of mortgage banking services across
the United States.
REGULATION
The federal Real Estate Settlement Procedures Act and state real estate
brokerage laws restrict payments which real estate brokers and mortgage brokers
and other parties may receive or pay in connection with the sales of residences
and referral of settlement services (e.g., mortgages, homeowners insurance,
title insurance). The Company's mortgage banking services business is also
subject to numerous federal, state and local laws and regulations, including
those relating to real estate settlement procedures, fair lending, fair credit
reporting, truth in lending, federal and state disclosure, and licensing.
EMPLOYEES
As of December 31, 1997, the Company and its subsidiaries had approximately
7,210 employees.
Item 2. Properties
The offices of VMS operations in North America are located throughout the U.S.
and Canada. Primary office facilities are located in a six-story, 200,000 square
foot office building in Hunt Valley, Maryland, leased until September 2003 and
offices in Mississauga, Canada, consisting of 70,902 square feet, leased until
February 2003.
The Cendant Mobility operations for North America occupy approximately 509,000
square feet in various offices located throughout the U.S. and Canada. The
primary office facilities are located in Danbury, Connecticut, one building
having approximately 300,000 square feet, leased until July, 2008 and the other
having 30,000 square feet, leased until December 2003.
Cendant Mortgage operations are located in several offices in Mount Laurel, New
Jersey and have various lease expiration dates. The primary building consists of
127,000 square feet and the lease expires in March, 1997.
The international offices of VMS and Cendant Mobility operations located in the
United Kingdom and Europe are as follows: a 129,000 square foot building which
is owned by the Company located in Swindon, United Kingdom; and field offices
having an aggregate of approximately 35,000 square feet located in Swindon and
Manchester, United Kingdom; Munich, Germany; and Dublin, Ireland, are leased for
various terms to February 2016.
The Company considers that its properties are generally in good condition and
well maintained and are generally suitable and adequate to carry on the
Company's business.
Item 3. Legal Proceedings
The Company is party to various litigation matters arising in the ordinary
course of business and is plaintiff in several collection matters which are not
considered material either individually or in the aggregate.
As a result of previously announced accounting irregularities at Cendant, the
Company's parent, Cendant is subject to numerous purported class action
lawsuits, two purported derivative lawsuits and an individual lawsuit asserting
various claims under the federal securities laws and certain state statutory and
common laws. In addition, the staff of the Securities and Exchange Commission
and the United States Attorney for the District of New Jersey are conducting
investigations relating to Cendant's accounting issues. The staff of the SEC has
advised Cendant that its inquiry should not be construed as an indication by the
SEC or its staff that any violations of law occurred. (See Footnote 15 to the
Consolidated Financial Statements).
Item 4. Results of Votes of Security Holders
Not Applicable
PART II
Item 5. Market for the Registrant's Common Stock and Related Security Holder
Matters
Not Applicable
Item 6. Selected Financial Data
Not Applicable
Item 7. Management's Narrative Analysis of Results of Operations and Liquidity
and Capital Resources
Pursuant to a merger agreement (the "Merger Agreement") by and among PHH
Corporation (the "Company"), HFS Incorporated ("HFS") and Mercury Acquisition
Corp. ("Mercury"), a wholly owned subsidiary of HFS, effective April 30, 1997,
Mercury was merged into the Company, with the Company being the surviving
corporation, and the Company became a wholly owned subsidiary of HFS (the "HFS
Merger"). In connection with the HFS Merger, all outstanding shares of the
Company's common stock, including shares issued to holders of the Company's
employee stock options, were converted into approximately 30.3 million shares of
HFS common stock. On December 17, 1997, pursuant to a merger agreement between
CUC International, Inc. ("CUC") and HFS, HFS was merged into CUC (the "Cendant
Merger"), with CUC surviving and changing its name to Cendant Corporation
("Cendant" or the "Parent Company"). As a result of that merger, the Company
became a wholly owned subsidiary of Cendant.
As part of Cendant's ongoing evaluation of its business units, the Company may
from time to time explore its ability to make divestitures and enter into
related transactions as they arise. No assurance can be given that any
divestiture or other transaction will be consummated or, if consummated, the
magnitude, timing, likelihood or financial or business effect on the Company of
such transactions. Among the factors the Company will consider in determining
whether or not to consummate any transaction is the strategic and financial
impact of such transaction on the Company and Cendant.
In connection with the HFS Merger, the Company's fiscal year end was changed
from April 30 to December 31.
RESULTS OF OPERATIONS
This discussion should be read in conjunction with the information contained in
the Consolidated Financial Statements and accompanying Notes thereto of the
Company appearing elsewhere in this Form 10-K/A. As discussed in Note 3 to the
consolidated financial statements, included elsewhere herein, the 1997 financial
statements have been restated.
Year Ended December 31, 1997 Compared to the Year Ended December 31, 1996
Net Revenue
Net revenue of the Company increased 19% to $860.6 million in 1997 from $725.7
million in 1996. The increase reflects higher revenues in both the Company's
fleet management and real estate segments. Fleet management net revenues were
$271.9 million in 1997 compared to $255.9 million in 1996. Real estate net
revenues of $588.6 million in 1997 increased $118.8 million or 25% from 1996.
The real estate segment experienced higher revenues within the underlying
relocation and mortgage businesses. Relocation services revenue increased $67.3
million. Mortgage services revenues rose to $179.2 million in 1997, a 40%
increase from 1996, primarily due to a 40% increase in the volume of loan
closings and an 18% increase in the portfolio of loans serviced.
Total Expenses
Total expenses increased $314.6 million (57%) from $549.4 million in 1996 to
$864.0 in 1997. Total expenses in 1997 include $251.0 million of non-recurring
merger-related charges associated with the HFS Merger ($208.8 million charge)
and the Cendant Merger ($42.2 million charge). The improved operating margins
reflect operational efficiencies realized primarily from the restructuring of
the Company's fleet management and relocation businesses in connection with the
aforementioned mergers.
Liquidity And Capital Resources
The Company manages its funding sources to ensure adequate liquidity. The
sources of liquidity fall into three general areas: ongoing liquidation of
assets under management, global capital markets, and committed credit agreements
with various high-quality domestic and international banks. In the ordinary
course of business, the liquidation of assets under management programs, as well
as cash flows generated from operating activities, provide the cash flow
necessary for the repayment of existing liabilities.
Using historical information, the Company projects the time period that a
client's vehicle will be in service or the length of time that a home will be
held in inventory before being sold on behalf of the client. Once the relevant
asset characteristics are projected, the Company generally matches the projected
dollar amount, interest rate and maturity characteristics of the assets within
the overall funding program. This is accomplished through stated debt terms or
effectively modifying such terms through other instruments, primarily interest
rate swap agreements and revolving credit agreements. Within mortgage banking
services, the Company funds the mortgage loans on a short-term basis until the
mortgage loans are sold to unrelated investors, which generally occurs within
sixty days. Interest rate risk on mortgages originated for sale is managed
through the use of forward delivery contracts, financial futures and options.
Financial derivatives are also used as a hedge to minimize earnings volatility
as it relates to mortgage servicing assets
The Company supports purchases of leased vehicles, equity advances, and mortgage
originations primarily by issuing commercial paper and medium term notes. Such
borrowings are not classified as long-term debt based on contractual maturities
but rather are included in liabilities under management and mortgage programs
since such debt corresponds directly with high quality related assets. In
addition, the Company has successfully completed and continually pursues
opportunities to reduce its borrowing requirements by securitizing increasing
amounts of its high quality assets. In May 1998, the Company commenced a program
to sell originated mortgage loans to an unaffiliated buyer, at the option of the
Company, up to the buyer's asset limit of $1.5 billion. The buyer may sell or
securitize such mortgage loans into the secondary market, however, servicing
rights are retained by the Company.
Pursuant to certain covenant requirements under the indentures in which the
Company issues debt, the Company continues to operate and maintain its status as
a separate public reporting entity. Financial covenants are designed to ensure
the self-sufficient liquidity status of the Company. Financial covenants include
restrictions on Parent Company loans, debt to equity, and other separate Company
financial restrictions.
In October 1998, Moody's and Standard and Poors ("S&P"), reduced the Company's
long-term and short-term debt ratings to A3/P2 and A-/A2, respectively from
A2/P1 and A+/A1, respectively. The Company's long-term and short-term debt
ratings remain A+/F1 and A+/D1 with Fitch IBCA and Duff & Phelps, respectively.
While the recent downgrading has caused the Company to incur an increase in cost
of funds, management believes its sources of liquidity continue to be adequate.
(A security rating is not a recommendation to buy, sell or hold securities and
is subject to revision or withdrawal at any time).
The Company expects to continue to have broad access to global capital markets
by maintaining the quality of its assets under management. This is achieved by
establishing credit standards to minimize credit risk and the potential for
losses. Depending upon asset growth and financial market conditions, the Company
utilizes the United States, European and Canadian commercial paper markets, as
well as other cost-effective short-term instruments. In addition, the Company
will continue to utilize the public and private debt markets as sources of
financing. Augmenting these sources, the Company will continue to manage
outstanding debt with the potential sale or transfer of managed assets to third
parties while retaining the fee-related servicing responsibility. At June 30,
1998, the Company's outstanding debt was comprised of commercial paper,
medium-term notes and other borrowings of $3.2 billion, $3.4 billion, and $0.2
billion, respectively.
The Company filed a shelf registration statement with the Securities and
Exchange Commission effective March 2, 1998, for the aggregate issuance of up to
$3 billion of medium-term note debt securities. These securities may be offered
from time to time, together or separately, based on terms to be determined at
the time of sale. The proceeds will be used to finance the assets under
management and mortgage programs and for general corporate purposes. As of July
31, 1998, the Company had issued $795 million of medium-term notes under this
shelf registration statement.
To provide additional financial flexibility, the Company's current policy is to
ensure that minimum committed bank facilities aggregate 80 percent of the
average amount of outstanding commercial paper. The Company maintains a $2.5
billion syndicated unsecured credit facility, which is backed by domestic and
foreign banks and is comprised of $1.25 billion lines of credit maturing in 364
days and $1.25 billion maturing in the year 2000. In addition, the Company has a
$200 million revolving credit facility, which matures on June 24, 1999 and has
approximately $186 million of uncommitted lines of credit with various financial
institutions which were unused at June 30, 1998. Management closely evaluates
the credit quality of the banks and also the terms of the various agreements to
ensure ongoing availability. The full amount of the Company's committed
facilities at June 30, 1998 was undrawn and available. Management believes that
its current policy provides adequate protection should volatility in the
financial markets limit the Company's access to commercial paper or medium-term
notes funding.
On July 10, 1998, the Parent Company entered into a Supplemental Indenture No. 1
(the "Supplemental Indenture") with The First National Bank of Chicago, as
trustee, under the Senior Indenture dated as of June 5, 1997, which formalizes
the policy for the Company of limiting the payment of dividends and the
outstanding principal balance of loans to the Parent Company to 40% of
consolidated net income (as defined in the Supplemental Indenture) for each
fiscal year. The Supplemental Indenture prohibits the Company from paying
dividends or making loans to the Parent Company if upon giving effect to such
dividends and/or loan, the Company's debt to equity ratio exceeds 8 to 1.
Litigation
As a result of the accounting irregularities, which were discovered in the
former CUC business units, numerous purported class action lawsuits, a purported
derivative lawsuit and an individual lawsuit have been filed against the Parent
Company and, among others, its predecessor HFS, and certain current and former
officers and directors of the Parent Company and HFS, asserting various claims
under the federal securities laws and certain state statutory and common laws.
In addition, the staff of the Securities and Exchange Commission ("SEC") and the
United States Attorney for the District of New Jersey are conducting
investigations relating to the accounting issues. The SEC staff has advised the
Parent Company that its inquiry should not be construed as an indication by the
SEC or its staff that any violations of law have occurred. (See Note 15 to the
cosolidated financial statements).
While it is not feasible to predict or determine the final outcome of these
proceedings or to estimate the amounts or potential range of loss with respect
to these matters, management believes that an adverse outcome with respect to
such Parent Company proceedings could have a material impact on the financial
condition and cash flows of the Company.
Impact of New Accounting Pronouncements
In June 1997, the Financial Accounting Standards Board ("FASB") issued Statement
of Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive
Income" which establishes standards for reporting and display of an alternative
income measurement and its components in the financial statements. This
statement is effective for fiscal years beginning after December 15, 1997. The
Company adopted SFAS No. 130 in 1998.
In June 1997, the FASB issued SFAS No. 131 "Disclosures About Segments of an
Enterprise and Related Information" effective for annual periods beginning after
December 15, 1997 and interim periods subsequent to the initial year of
application. SFAS No. 131 establishes standards for the way that public business
enterprises report information about their operating segments in their annual
and interim financial statements. It also requires public enterprises to
disclose company-wide information regarding products and services and the
geographic areas in which they operate. The Company will adopt SFAS No. 131
effective for the 1998 calendar year end.
In February 1998, the FASB issued SFAS No. 132 "Employers' Disclosures about
Pension and Other Postretirement Benefits" effective for periods beginning after
December 15, 1997. The Company will adopt SFAS No. 132 effective for the 1998
calendar year end.
The aforementioned recently issued accounting pronouncements establish standards
for disclosures only and therefore will have no impact on the Company's
financial position or results of operations.
In June 1998, the FASB issued SFAS No. 133 "Accounting for Derivative
Instruments and Hedging Activities" effective for all quarterly and annual
periods beginning after June 15, 1999. SFAS No. 133 requires the recognition of
all derivatives in the consolidated balance sheet as either assets or
liabilities measured at fair value. The Company will adopt SFAS No. 133
effective January 1, 2000. The Company has not yet determined the impact SFAS
No. 133 will have on its financial statements.
Year 2000 Compliance
The Year 2000 presents the risk that information systems will be unable to
recognize the process date-sensitive information properly from and after January
1, 2000.
To minimize or eliminate the effect of the year 2000 risk on the Company's
business systems and applications, the Company is continually identifying,
evaluating, implementing and testing changes to its computer systems,
applications and software necessary to achieve Year 2000 compliance. The Company
has selected a team of managers to identify, evaluate and implement a plan to
bring all of the Company's critical business systems and applications into Year
2000 compliance prior to December 31, 1999. The Year 2000 initiative consists of
four phases: (i) identification of all critical business systems subject to Year
2000 risk (the "Identification Phase"); (ii) assessment of such business systems
and applications to determine the method of correcting any Year 2000 problems
(the "Assessment Phase"); (iii) implementing the corrective measures (the
"Implementation Phase"); and (iv) testing and maintaining system compliance (the
"Testing Phase"). The Company has substantially completed the Identification and
Assessment Phases and has identified and assessed five areas of risk: (i)
internally developed business applications; (ii) third party vendor software,
such as business applications, operating systems and special function software;
(iii) computer hardware components; (iv) electronic data transfer systems
between the Company and its customers; and (v) embedded systems, such as phone
switches, check writers and alarm systems. Although no assurance can be made,
the Company believes that it has identified substantially all of its systems,
applications and related software that are subject to Year 2000 compliance risks
and has either implemented or initiated the implementation of a plan to correct
such systems that are not Year 2000 compliant. The Company has targeted December
31, 1998 for completion of the Implementation Phase. Although the Company has
begun the Testing Phase, it does not anticipate completion of the Testing Phase
until sometime prior to December 1999.
The Company relies on third party service providers for services such as
telecommunications, internet service, utilities, components for its embedded and
other systems and other key services. Interruption of those services due to Year
2000 issues could affect the Company's operations. The Company initiated an
evaluation of the status of such third party service providers' efforts to
determine alternative and contingency requirements. While approaches to reducing
risks of interruption of business operations vary by business unit, options
include identification of alternative service providers available to provide
such services if a service provider fails to become Year 2000 compliance within
an acceptable timeframe prior to December 31, 1999.
The total cost of the Company's Year 2000 compliance plan is anticipated to be
$23 million. Approximately $12 million of these costs had been incurred through
September 30, 1998, and the Company expects to incur the balance of such costs
to complete the compliance plan. The Company has been expensing and capitalizing
the costs to complete the compliance plan in accordance with appropriate
accounting policies. Variations from anticipated expenditures and the effect on
the Company's future results of operations are not anticipated to be material in
any given year. However, if year 2000 modifications and conversions are not
made, or are not completed in time, the Year 2000 problem could have a material
impact on the operations and financial condition of the Company.
THE ESTIMATES AND CONCLUSIONS HEREIN ARE FORWARD-LOOKING STATEMENTS AND ARE
BASED ON MANAGEMENT'S BEST ESTIMATES OF FUTURE EVENTS. RISKS OF COMPLETING THE
PLAN INCLUDE THE AVAILABILITY OF RESOURCES, THE ABILITY TO DISCOVER AND CORRECT
THE POTENTIAL YEAR 2000 SENSITIVE PROBLEMS WHICH COULD HAVE A SERIOUS IMPACT ON
CERTAIN OPERATIONS AND THE ABILITY OF THE COMPANY'S SERVICE PROVIDERS TO BRING
THEIR SYSTEMS INTO YEAR 2000 COMPLIANCE.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
In normal operations, the Company must deal with effects of changes in
interest rates and currency exchange rates. The following discussion presents an
overview of how such changes are managed and a view of their potential effects.
The Company uses various financial instruments, particularly interest rate
and currency swaps, but also options, floors and currency forwards, to manage
its respective interest rate and currency risks. The Company is exclusively an
end user of these instruments, which are commonly referred to as derivatives.
Established practices require that derivative financial instruments relate to
specific asset, liability or equity transactions or to currency exposure. More
detailed information about these financial instruments, as well as the
strategies and policies for their use, is provided in notes 14 and 18.
The Securities and Exchange Commission requires that registrants include
information about potential effects of changes in interest rates and currency
exchange in their financial statements. Although the rules offer alternatives
for presenting this information, none of the alternatives is without
limitations. The following discussion is based on so-called "shock tests", which
model effects of interest rate and currency shifts on the reporting company.
Shock tests, while probably the most meaningful analysis permitted, are
constrained by several factors, including the necessity to conduct the analysis
based on a single point in time and by their inability to include the
extraordinarily complex market reactions that normally would arise from the
market shifts modeled. While the following results of shock tests for interest
rate and currencies may have some limited use as benchmarks, they should not be
viewed as forecasts.
o One means of assessing exposure to interest rate changes is a
duration-based analysis that measures the potential loss in net earnings
resulting from a hypothetical 10% change in interest rates across all
maturities (sometimes referred to as a "parallel shift in the yield
curve"). Under this model, it is estimated that, all else constant, such an
increase, including repricing effects in the securities portfolio, would
not materially effect the 1998 net earnings of the Company based on
year-end 1997 positions.
o One means of assessing exposure to changes in currency exchange rates is to
model effects on reported earnings using a sensitivity analysis. Year-end
1997 consolidated currency exposures, including financial instruments
designated and effective as hedges, were analyzed to identify the Company's
assets and liabilities denominated in other than their relevant functional
currency. Net unhedged exposures in each currency were then remeasured
assuming a 10% change in currency exchange rates compared with the U.S.
dollar. Under this model, it is estimated that, all else constant, such a
change would not materially effect the 1998 net earnings of the Company
based on year-end 1997 positions.
Item 8. Financial Statements and Supplementary Data
See Financial Statement and Financial Statement Schedule Index commencing on
page F-1 hereof.
Item 9. Changes in and Disagreements with Accountants and Financial Disclosure
(a) As reported in the Company's Report on Form 8-K filed on May 14, 1997,
the Board of Directors of the Company engaged the accounting firm of
Deloitte & Touche LLP, as independent accountants for the Company,
effective as of May 12, 1997 and, accordingly, dismissed KPMG Peat
Marwick LLP in such capacity effective with the completion of their
report on the financial statements of PHH Corporation included in this
transition report on Form 10-K for the period ended December 31, 1996.
(b) During the eight-month transition period ended December 31, 1996 and
the two most recent fiscal year ended April 30, 1996 and 1995, and the
subsequent interim period through May 12, 1997, there have been no
disagreements with KPMG Peat Marwick LLP on any matter of accounting
principles or practices, financial statement disclosure or auditing
scope or procedure or any reportable events.
(c) The reports of KPMG Peat Marwick LLP on the financial statements for
the transition period and past the two fiscal years contained no
adverse opinion or disclaimer of opinion and were not qualified or
modified as to uncertainty, audit scope or accounting principles.
PART III
Item 10. Directors and Executive Officers of the Registrant
Not applicable.
Item 11. Executive Compensation
Not applicable.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Not applicable.
Item 13. Certain Relationships and Related Transactions
Not applicable.
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
Item 14(a)(1) Financial Statements
See Financial Statement and Financial Statement Schedule Index commencing on
page F-1 hereof.
Item 14(a)(2) Financial Statement Schedules
See Financial Statement and Financial Statement Schedule Index commencing on
page F-1 hereof.
Item 14(a)(3) Exhibits
The exhibits identified by an asterisk (*) are on file with the Commission and
such exhibits are incorporated by reference from the respective previous
filings. The exhibits identified by a double asterisk (**) are being filed with
this report.
Exhibit No.
2-1 Agreement and Plan of Merger dated as of November 10, 1996, by
and among HFS Incorporated, PHH Corporation and Mercury
Acquisition Corp., filed as Annex 1 in the Joint Proxy
Statement/Prospectus included as part of Registration No.
333-24031(*).
3-1 Charter of PHH Corporation, as amended August 23, 1996 (filed
as Exhibit 3-1 to the Company's Transition Report on
Form 10-K filed on July 29, 1997)(*).
3-2 By-Laws of PHH Corporation, as amended October (filed as
Exhibit 3-1 to the Company's Annual Report on Form 10-K for
the year ended December 31, 1997).(*)
4-1 Indenture between PHH Corporation and Bank of New York,
Trustee, dated as of May 1, 1992, filed as Exhibit 4(a)(iii)
to Registration Statement 33-48125(*).
4-2 Indenture between PHH Corporation and First National Bank of
Chicago, Trustee, dated as of March 1, 1993, filed as Exhibit
4(a)(i) to Registration Statement 33-59376(*).
4-3 Indenture between PHH Corporation and First National Bank of
Chicago, Trustee, Dated as of June 5, 1997, filed as Exhibit
4(a) to Registration Statement 333-27715(*).
Exhibit No.
4-4 Indenture between PHH Corporation and Bank of New York,
Trustee Dated as of June 5, 1997, filed as Exhibit 4(a)(11) to
Registration Statement 333-27715(*).
4-5 364-Day Credit Agreement Among PHH Corporation, PHH Vehicle
Management Services, Inc., the Lenders, the Chase Manhattan
Bank, as Administrative Agent and the Chase Manhattan Bank of
Canada, as Canadian Agent, Dated March 4, 1997, filed as
Exhibit 10.1 to Registration Statement 333-27715(*).
4-6 Five-year Credit Agreement among PHH Corporation, the Lenders,
and Chase Manhattan Bank, as Administrative Agent, dated March
4, 1997 filed as Exhibit 10.2 to Registration Statement
333-27715(*).
4-7 SECOND AMENDMENT, dated as of September 26, 1997 (the "Second
Amendment"), to (i) 364-day Competitive Advance and
Revolving Credit Agreement, dated as of March 4, 1997 (as
heretofore and hereafter amended, supplemented or
otherwise modified from time to time, the "364-Day Credit
Agreement"), PHH Corporation (the "Borrower"), PHH Vehicle
Management Services, Inc., the Lenders referred to therein,
the Chase Manhattan Bank of Canada, as agent for the US
Lenders (in such capacity, the "Administrative Agent"), and
The Chase Manhattan Bank of Canada, as administrative agent
for the Canadian Lenders (in such capacity, the "Canadian
Agent"); and (ii) the Five Year Competitive Advance and
Revolving Credit Agreement, dated as of March 4, 1997, among
the Borrower, the Lenders referred to therein and the
Administrative Agent (incorporated by reference to Exhibit
10.1 of the Company's Quarterly Report on Form 10-Q
for the quarter ended September 30, 1997).(*)
10-1 Distribution Agreement between the Company and CS First Boston
Corporation; Goldman, Sachs & Co.; Merrill Lynch & Co.;
Merrill Lynch, Pierce, Fenner & Smith, Incorporated; and J.P.
Morgan Securities, Inc. dated November 9, 1995, filed as
Exhibit 1 to Registration Statement 33-63627(*).
10-2 Distribution Agreement between the Company and Credit Suisse;
First Boston Corporation; Goldman Sachs & Co. and Merrill
Lynch & Co., dated June 5, 1997 filed as Exhibit 1 to
Registration Statement 333-27715(*).
10-3 Distribution Agreement, dated March 2, 1998, among PHH
Corporation, Credit Suisse First Boston Corporation, Goldman
Sachs & Co., Merrill Lynch & Co., Merrill Lynch, Pierce,
Fenner & Smith Incorporated and J.P. Morgan Securities, Inc.
filed as Exhibit 1 to Form 8-K dated March 3, 1998, File No.
1-07797.(*)
12 Schedule containing information used in the computation of the
ratio of earnings to fixed charges.(**)
23.1 Consent of Deloitte & Touche LLP.(**)
23.2 Consent of KPMG Peat Marwick LLP.(**)
27 Financial Data Schedule (filed electronically only).(**)
The registrant hereby agrees to furnish to the Commission upon request
a copy of all constituent instruments defining the rights of holders of
long-term debt of the registrant and all its subsidiaries for which
consolidated or unconsolidated financial statements are required to be
filed under which instruments the total amount of securities authorized
does not exceed 10% of the total assets of the registrant and its
subsidiaries on a consolidated basis.
Exhibit No.
(b) Reports on Form 8-K
There was one report on Form 8-K filed during the fourth quarter of
1997 as follows:
The Company filed a Current Report on Form 8-K on December 18, 1997
announcing that, as a result of the merger of HFS Incorporated and CUC
International Inc., the Company became a wholly owned subsidiary of
Cendant Corporation.
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly cause this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
PHH CORPORATION
By: /s/ Robert D. Kunisch
Robert D. Kunisch
October 26, 1998 Chief Executive Officer and President
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
registrant and in the capacities and on the dates indicated:
Principal Executive Officer:
/s/Robert D. Kunisch
October 26, 1998
Robert D. Kunisch
Chief Executive Officer and President
Principal Financial Officer:
/s/ Michael P. Monaco
October 26, 1998
Michael P. Monaco
Executive Vice President,
Chief Financial Officer and Assistant Treasurer
Principal Accounting Officer:
/s/ Scott Forbes
October 26, 1998
Scott Forbes
Executive Vice President
Board of Directors:
/s/ James E. Buckman
October 26, 1998
James E. Buckman
Director
/s/ Stephen P. Holmes
October 26, 1998
Stephen P. Holmes
Director
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholder of
PHH Corporation
We have audited the consolidated balance sheet of PHH Corporation and its
subsidiaries (a wholly-owned subsidiary of Cendant Corporation), (the "Company")
as of December 31, 1997, and the related consolidated statements of operations,
shareholder's equity and cash flows for the year then ended. 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 audit. We did not audit the financial statements of PHH Corporation for the
year ended December 31, 1996 and the year ended January 31, 1996.
We conducted our audit 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 audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of the
Company at December 31, 1997 and the results of their operations and their cash
flows for the year then ended, in conformity with generally accepted accounting
principles.
We also audited the adjustments described in Note 4 that were applied to restate
the financial statements to give effect to the merger of Cendant Corporation's
relocation business with the Company, which has been accounted for in a manner
similar to a pooling-of-interests. Additionally, we also audited the
reclassifications described in Note 4 that were applied to restate the December
31, 1996 and January 31, 1996 financial statements to conform to the
presentation used by Cendant Corporation. In our opinion, such adjustments and
reclassifications are appropriate and have been properly applied.
As discussed in Note 3, the accompanying consolidated balance sheet as of
December 31, 1997 and the related consolidated statements of operations,
shareholder's equity and cash flows for the period then ended have been
restated.
Deloitte & Touche LLP
Parsippany, New Jersey
October 22, 1998
INDEPENDENT AUDITORS' REPORT
The Stockholders and Board of Directors
PHH Corporation
We have audited the consolidated balance sheet of PHH Corporation and
subsidiaries as of December 31, 1996, and the related consolidated statements of
income, shareholders' equity and cash flows for the years ended December 31,
1996 and January 31, 1996, before the restatement and reclassifications
described in Notes 4 and 7 to the consolidated financial statements. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with 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 consolidated financial statements (before restatement and
reclassifications) referred to above present fairly, in all material respects,
the financial position of PHH Corporation and subsidiaries as of December 31,
1996 and the results of their operations and their cash flows for the years
ended December 31, 1996 and January 31, 1996, in conformity with generally
accepted accounting principles.
KPMG Peat Marwick LLP
Baltimore, Maryland
April 30, 1997
PHH Corporation and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands)
Year Ended
------------------------------------------------
December 31, January 31,
1997 1996 1996
------------------------------- -------------
As Restated
(Note 3)
REVENUES
Fleet management services $ 212,427 $ 199,206 $ 206,798
Relocation services, net of interest 409,385 342,064 258,707
Mortgage services (net of amortization of mortgage
servicing rights and interest of $180,621
$116,897 and $80,536, respectively) 179,241 127,729 93,251
------------- -------------- -------------
Service fees - net 801,053 668,999 558,756
Fleet leasing (net of depreciation and interest costs of
$1,205,184, $1,132,408 and $1,088,993, respectively) 59,497 56,660 52,079
-------------- -------------- -------------
Net revenues 860,550 725,659 610,835
-------------- -------------- -------------
EXPENSES
Operating 422,870 346,917 280,875
General and administrative 164,341 173,877 164,524
Merger-related costs and other unusual charges 251,048 -- --
Depreciation and amortization 25,726 28,577 32,321
-------------- -------------- -------------
Total expenses 863,985 549,371 477,720
-------------- -------------- -------------
Income (loss) before income taxes (3,435) 176,288 133,115
Provision for income taxes 44,156 71,818 54,995
-------------- -------------- -------------
Net income (loss) $ (47,591) $ 104,470 $ 78,120
============== ============== =============
See accompanying notes to consolidated financial statements.
PHH Corporation and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(In thousands)
December 31,
-------------------------------
1997 1996
------------- -------------
As Restated
ASSETS (Note 3)
Cash and cash equivalents $ 2,102 $ 13,779
Restricted cash 23,727 89,849
Accounts and notes receivable,
net of allowance for doubtful accounts
of $12,058 and $8,157, respectively 567,598 540,569
Property and equipment - net 104,062 92,145
Goodwill - net 22,409 47,279
Other assets 296,852 184,400
------------- -------------
Total assets exclusive of assets under programs 1,016,750 968,021
------------- -------------
Assets under management and mortgage programs:
Net investment in leases and leased vehicles 3,659,049 3,418,666
Relocation receivables 775,284 773,326
Mortgage loans held for sale 1,636,341 1,248,299
Mortgage servicing rights 373,049 288,943
------------- --------------
6,443,723 5,729,234
------------- -------------
TOTAL ASSETS $ 7,460,473 $ 6,697,255
============= =============
See accompanying notes to consolidated financial statements.
PHH Corporation and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
December 31,
-----------------------------
1997 1996
-------------- -------------
As Restated
LIABILITIES AND SHAREHOLDER'S EQUITY (Note 3)
Accounts payable and accrued liabilities $ 692,471 $ 591,589
Deferred revenue 53,261 42,045
-------------- --------------
Total liabilities exclusive of liabilities under programs 745,732 633,634
-------------- --------------
Liabilities under management and mortgage programs:
Debt 5,602,600 5,089,943
-------------- -------------
Deferred income taxes 295,707 281,948
-------------- -------------
Total liabilities 6,644,039 6,005,525
-------------- -------------
Commitments and contingencies (Note 15)
SHAREHOLDER'S EQUITY
Preferred stock - authorized 3,000,000 shares -- --
Common stock, no par value - authorized 75,000,000 shares;
issued and outstanding 100 and 34,956,835 shares, respectively 289,157 101,143
Retained earnings 544,716 598,951
Currency translation adjustment (17,439) (8,364)
-------------- -------------
TOTAL SHAREHOLDER'S EQUITY 816,434 691,730
-------------- -------------
TOTAL LIABILITIES AND SHAREHOLDER'S EQUITY $ 7,460,473 $ 6,697,255
============== =============
See accompanying notes to consolidated financial statements.
PHH Corporation and Subsidiaries
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(In thousands, except share data)
Currency
Common Stock Retained Translation
Shares Amount Earnings Adjustment
---------- ----------- ------------- ------------
Balance, February 1, 1995 33,722,486 $ 78,072 $ 466,562 $ (18,855)
Net income - - 78,120 -
Cash dividends declared - - (22,812) -
Currency translation adjustment - - - (4,245)
Stock option plan transactions,
net of related income tax benefits 781,062 13,729 - -
Repurchases of common stock (15,800) (282) - -
------------ ------------ ------------- -----------
Balance, January 31, 1996 34,487,748 91,519 521,870 (23,100)
Less January 1996 activity:
Net loss - - (8,264) -
Cash dividend declared - - 5,859 -
Currency translation adjustment - - - 2,380
Stock option plans transactions,
net of related income tax benefits (35,400) (635) - -
Net income - - 104,470 -
Cash dividends declared - - (24,984) -
Currency translation adjustment - - 12,356
Stock option plan transactions,
net of related income tax benefits 504,487 10,259 - -
----------- ----------- ------------- -----------
Balance, December 31, 1996 34,956,835 101,143 598,951 (8,364)
Net loss, as restated (Note 3) - - (47,591) -
Cash dividends declared - - (6,644) -
Currency translation adjustment - - - (9,075)
Stock option plan transactions
net of related income tax benefits 876,264 22,014 - -
Retirement of common stock (35,832,999) - - -
Parent company capital contribution - 166,000 - -
----------- ----------- ------------- -----------
Balance, December 31, 1997,
as restated (Note 3) 100 $ 289,157 $ 544,716 $ (17,439)
=========== ============ ============= ============
See accompanying notes to consolidated financial statements.
PHH Corporation and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Year Ended
--------------------------------------------------
December 31, January 31,
1997 1996 1996
------------------------------- ------------
As Restated
Operating Activities: (Note 3)
Net income (loss) $ (47,591) $ 104,470 $ 78,120
Merger-related costs and other unusual charges 251,048 - -
Payments of merger-related costs and other unusual charge liabilities (149,702) - -
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 25,726 28,577 32,321
Gain on sales of mortgage servicing rights (15,849) (5,194) (17,400)
Accounts and notes receivable (15,529) (21,037) (31,079)
Accounts payable and other accrued liabilities 27,805 28,168 52,778
Other 108,433 74,172 62,563
-------------- ----------- -----------
184,341 209,156 177,303
------------- ----------- -----------
Increase (decrease) from changes in assets under
management and mortgage programs:
Depreciation and amortization under
management and mortgage programs 1,121,941 1,021,761 960,913
Mortgage loans held for sale (388,042) (73,308) (139,520)
-------------- ------------ ------------
Net cash provided by operating activities 918,240 1,157,609 998,696
------------- ------------ ------------
Investing Activities:
Assets under management and mortgage programs:
Investment in leases and leased vehicles (2,068,818) (1,901,265) (2,008,559)
Repayment of investment in leases and leased vehicles 588,981 595,852 576,670
Equity advances on homes under management (6,844,522) (4,307,978) (6,238,538)
Payments received on advances on homes under management 6,862,572 4,348,857 6,070,490
Additions to mortgage servicing rights (270,463) (164,393) (130,135)
Proceeds from sales and transfers of leases and leased vehicles 186,424 162,839 109,859
------------- ----------- -----------
(1,545,826) (1,266,088) (1,620,213)
Funding of grantor trusts - (89,849) -
Additions to property and equipment - net (43,724) (17,584) (20,052)
Proceeds from sale of subsidiary - 38,018 -
Other 25,173 4,271 2,926
-------------- ------------ -----------
Net cash used in investing activities (1,564,377) (1,331,232) (1,637,339)
-------------- ------------ ------------
Financing Activities:
Liabilities under management and mortgage programs:
Proceeds from debt issuance or borrowings 2,816,285 1,656,038 1,858,826
Principal payments on borrowings (1,692,883) (1,645,879) (1,237,021)
Net change in short term borrowings (613,471) 231,819 17,419
-------------- ----------- -----------
509,931 241,978 639,224
Parent company capital contribution 90,000 - -
Stock option plan transactions, net of related income
tax benefits 22,014 10,271 13,729
Payment of dividends (6,644) (24,984) (23,094)
-------------- ------------ ------------
Net cash provided by financing activities 615,301 227,265 629,859
------------- ----------- -----------
Effect of exchange rates on cash and cash equivalents 19,159 (46,677) 6,545
------------- ------------ -----------
Increase (decrease) in cash and cash equivalents (11,677) 6,965 (2,239)
Cash and cash equivalents at beginning of period 13,779 6,814 9,053
-------------- ------------ ------------
Cash and cash equivalents at end of period $ 2,102 $ 13,779 $ 6,814
============= =========== ============
See accompanying notes to consolidated financial statements.
PHH Corporation and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation and Description of Business
PHH Corporation together with its wholly owned subsidiaries, (the
"Company") is a leading provider of corporate relocation, fleet management
and mortgage services. On April 30, 1997, the Company merged with HFS
Incorporated ("HFS") (the "HFS Merger") and on December 17, 1997, HFS
together with the Company, was merged with and into CUC International Inc.
("CUC")to form Cendant Corporation ("Cendant" or the "Parent Company"),
(the "Cendant Merger") (See Notes 5 and 6). Effective with the Cendant
Merger, the Company became a wholly owned subsidiary of Cendant.
However, pursuant to certain covenant requirements under the
indentures in which the Company issues debt, the Company continues to
operate and maintain its status as a separate public reporting entity,
which is the basis under which the accompanying financial statements
and footnotes are presented. The accompanying financial statements
and notes hereto have been restated for certain adjustments as described
in Note 3 and have been updated to disclose reportable events through
the date of this filing. A description of the Company's industry segments
and underlying businesses are as follows:
Fleet management segment
o Fleet management. Fleet management services primarily consist of the
management, purchase, leasing, and resale of vehicles for corporate
clients and government agencies. These services also include fuel,
maintenance, safety and accident management programs and other
fee-based services for clients' vehicle fleets. The Company leases
vehicles primarily to corporate fleet users under operating and direct
financing lease arrangements. Open-end operating leases and direct
financing leases generally have a minimum lease term of 12 months with
monthly renewal options thereafter. Closed-end operating leases
typically have a longer term, usually 30 months or more, but are
cancelable under certain conditions.
Real estate segment
o Relocation. Relocation services are provided to client corporations and
include selling transferee residences, providing equity advances on
transferee residences for the purchase of new homes and certain home
management services. The Company also offers fee-based programs such as
home marketing assistance, household goods moves, destination services
and property dispositions for financial institutions and government
agencies.
o Mortgage. Mortgage services primarily include the origination, sale and
servicing of residential first mortgage loans. The Company markets a
variety of first mortgage products to consumers through relationships
with corporations, affinity groups, financial institutions, real estate
brokerage firms and other mortgage banks.
2. Summary of Significant Accounting Policies
Principles of consolidation: The consolidated financial statements include
the accounts and transactions of the Company together with its wholly owned
subsidiaries. All material intercompany balances and transactions have been
eliminated in consolidation.
Use of estimates: The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect reported amounts and related
disclosures. Actual results could differ from those estimates.
Cash and cash equivalents: The Company considers highly liquid investments
purchased with an original maturity of three months or less to be cash
equivalents.
Restricted cash: Restricted cash consists of cash held in trust for
employee benefit liabilities which were required to be funded prior to
consummation of the merger of the Company with and into HFS. The Company
funded several grantor trusts in accordance with the merger agreement.
Property and equipment: Property and equipment is stated at cost less
accumulated depreciation and amortization. Depreciation is computed by the
straight-line method over the estimated useful lives of the related assets.
Amortization of leasehold improvements is computed by the straight-line
method over the estimated useful lives of the related assets or the lease
term, if shorter.
Goodwill: Goodwill, which represents the excess of cost over fair value of
net assets acquired, is amortized on a straight-line basis over the
estimated useful lives, ranging over various periods up to a maximum of 40
years. At December 31, 1997 and 1996, accumulated amortization amounted to
$19.0 million and $19.7 million, respectively.
Asset Impairment: The Company periodically evaluates the recoverability of
its long-lived assets, comparing the respective carrying values to the
current and expected future cash flows to be generated from such assets.
Property and equipment is evaluated separately within each business
segment. The recoverability of goodwill is evaluated on a separate basis
for each acquisition.
Revenue and expense recognition:
Fleet management. Revenues from fleet management services other than
leasing are recognized over the period in which services are provided and
the related expenses are incurred. The Company records the cost of leased
vehicles as "net investment in leases and leased vehicles." Amounts charged
to lessees for interest on the unrecovered investment are credited to
income on a level yield method, which approximates the contractual terms.
Vehicles under operating leases are amortized using the straight-line
method over the expected lease term.
Relocation. The relocation services provided by the Company include
facilitating the purchase and resale of the transferee's residence,
providing equity advances on the transferee's residence and home management
services. The home is purchased under a contract of sale and the Company
obtains a deed to the property, however, it does not generally record the
deed or transfer of title. Transferring employees are provided equity on
their home based on an appraised value determined by independent
appraisers, after deducting any outstanding mortgages. The mortgage is
generally retired concurrently with the advance of the equity and the
purchase of the home. Based on its client agreements, the Company is given
parameters under which it negotiates for the ultimate sale of the home. The
gain or loss on resale is generally borne by the client corporation.
While homes are held for resale, the amount funded for such homes carry an
interest charge computed at a floating rate based on various indices.
Direct costs of managing the home during the period the home is held for
resale, including property taxes and repairs and maintenance, are generally
borne by the client. All such costs are generally guaranteed by the client
corporation. The client normally advances funds to cover a portion of such
carrying costs. When the home is sold, a settlement is made with the client
corporation netting actual costs with any advanced billing.
Revenues and related costs associated with the resale of a residence are
recognized over the period in which services are provided which concludes
upon closing of such resale. Relocation services revenue is shown net of
costs reimbursed by client corporations and interest expenses incurred to
fund the purchase of a transferee's residence. Under the terms of contracts
with clients, the Company is generally protected against losses from
changes in real estate market conditions. The Company also offers fee-based
programs such as home marketing assistance, household goods moves,
destination services, and property dispositions for financial institutions
and government agencies. Revenues from these fee-based services are
recognized when the service is provided.
Mortgage. Loan origination fees, commitment fees paid in connection with
the sale of loans and direct loan origination costs associated with loans
held for resale are deferred until the loan is sold. Fees received for
servicing loans owned by investors are based on the difference between the
weighted average yield received on the mortgages and the amount paid to the
investor, or on a stipulated percentage of the outstanding monthly
principal balance on such loans. Servicing fees are credited to income when
received. Costs associated with loan servicing are charged to expense as
incurred.
Sales of mortgage loans are generally recorded on the date a loan is
delivered to an investor. Sales of mortgage securities are recorded on the
settlement date. The Company acquires mortgage-servicing rights by
originating or purchasing mortgage loans and selling those loans with
servicing retained, or it may purchase mortgage-servicing rights
separately. The carrying value of mortgage servicing rights is amortized
over the estimated life of the related loan portfolio. Such amortization is
recorded as a reduction of loan servicing fees in the consolidated
statements of income. Gains or losses on the sale of mortgage servicing
rights are recognized when title and all risks and rewards have irrevocably
passed to the buyer and there are no significant unresolved contingencies.
Gains or losses on sales of mortgage loans are recognized based upon the
difference between the selling price and the carrying value of the related
mortgage loans sold. The carrying value of the loans excludes the cost
assigned to originated servicing rights (see Note 11). Such gains and
losses are also increased or decreased by the amount of deferred mortgage
servicing fees recorded.
The Company reviews the recoverability of mortgage servicing rights based
on their fair values, and records impairment to individual strata. For
measuring impairment, the interest rate bands of the underlying loans are
the risk characteristic used to stratify the capitalized servicing
portfolio. To determine the fair value of mortgage servicing rights, the
Company uses market prices for comparable mortgage servicing, when
available, or alternatively uses a valuation model that calculates a
present value for mortgage servicing rights with assumptions that market
participants would use in estimating future net servicing income.
Income taxes: The provision for income taxes includes deferred income taxes
resulting from items reported in different periods for income tax and
financial statement purposes. Deferred tax assets and liabilities represent
the expected future tax consequences of the differences between the
financial statement carrying amounts of existing assets and liabilities and
their respective tax bases. The effects of changes in tax rates on deferred
tax assets and liabilities are recognized in the period that includes the
enactment date. No provision has been made for U.S. income taxes on
approximately $128.4 million of cumulative undistributed earnings of
foreign subsidiaries at December 31, 1997 since it is the present intention
of management to reinvest the undistributed earnings indefinitely in
foreign operations. The determination of unrecognized deferred U.S. tax
liability for unremitted earnings is not practicable. In addition, it is
estimated that foreign withholding taxes of approximately $2.1 million may
have been payable if such earnings were remitted.
Accounts and notes receivable: Changes in the allowance for doubtful
accounts, including the provision for bad debts, write-offs and recoveries
are not material.
Translation of foreign currencies: Assets and liabilities of foreign
subsidiaries are translated at the exchange rates as of the balance sheet
dates, equity accounts are translated at historical exchange rates and
revenues, expenses and cash flows are translated at the average exchange
rates for the periods presented. Translation gains and losses are included
in shareholders' equity. Gains and losses resulting from the change in
exchange rates realized upon settlement of foreign currency transactions
are substantially offset by gains and losses realized upon settlement of
forward exchange contracts. Therefore, the resulting net income effect of
transaction gains and losses in the years ended December 31, 1997 and 1996
and January 31, 1996 was insignificant.
New Accounting Pronouncement: In June 1998, the Financial Accounting
Standards Board issued Statement of Financial Accounting Standards
("SFAS") No. 133 "Accounting for Derivative Instruments and Hedging
Activities" effective for all quarterly and annual periods beginning after
June 15, 1999. SFAS No. 133 requires the recognition of all derivatives in
the consolidated balance sheet as either assets or liabilities measured
at fair value. The Company will adopt SFAS No. 133 effective January 1,
2000. The Company has not yet determined the impact SFAS No. 133 will have
on its financial statements.
Reclassifications: Certain reclassifications have been made to the 1997
financial statements to conform to the presentation currently used in 1998.
3. 1997 Restatement
Subsequent to the issuance of the 1997 consolidated financial statements,
management determined that there were errors in the financial statements.
Adjustments to correct these errors reduced the net loss by $472,000
($8.1 million decrease in net income excluding Unusual Charges). Errors
relate to the accrual and classification of merger-related costs and
other unusual charges ("Unusual Charges") and errors made in conforming the
accounting policies when the Company's relocation business was merged with
HFS's relocation business (See Note 7). The financial position and results
of operations as of and for the year ended December 31, 1997 have been
restated to adjust Unusual Charges and to reflect the impact of the
accounting changes to conform accounting policies. The effect of the
accounting change on the financial statements for periods prior to 1997 was
not material.
Provided below is a reconciliation of the financial results from amounts
previously reported to the restated amounts. Certain reclassifications have
been made to the previously reported 1997 financial statements to conform
to the presentation currently used in 1998.
Statement of Operations
(In thousands)
Year Ended December 31, 1997
---------------------------------------------------
Adjustments
As previously for accounting As
reported errors restated
-------------- -------------- ----------------
Net revenues $ 853,678 $ 6,872 $ 860,550
------------- -------------- ----------------
Expenses
Operating 405,514 17,356 422,870
General and administrative 162,543 1,798 164,341
Depreciation and amortization 25,009 717 25,726
Merger-related charges costs and other
unusual charges 262,170 (11,122) 251,048
------------- -------------- ----------------
Total expenses 855,236 8,749 863,985
------------- ------------- ----------------
Loss before income taxes (1,558) (1,877) (3,435)
Provision for income taxes 46,505 (2,349) 44,156
------------- -------------- ----------------
Net loss $ (48,063) $ 472 $ (47,591)
================ ============= =================
Balance Sheet
(In thousands)
At December 31, 1997
-----------------------------------------------------
Adjustments
As previously for accounting As
reported errors restated
------------------ ---------------- -------------
Assets
Cash and cash equivalents $ 2,102 $ - $ 2,102
Receivables, net 570,755 (3,157) 567,598
Property and equipment, net 105,167 (1,105) 104,062
Other assets 344,346 (1,358) 342,988
---------------- ---------------- -------------
Total assets exclusive of
assets under programs 1,022,370 (5,620) 1,016,750
---------------- ---------------- -------------
Assets under management
and mortgage programs 6,443,723 - 6,443,723
---------------- --------------- -------------
Total assets $ 7,466,093 $ (5,620) $ 7,460,473
================ ================ =============
Liabilities and shareholder's
equity
Accounts payable and other $ 698,500 $ (6,029) $ 692,471
Deferred revenue 53,324 (63) 53,261
---------------- ---------------- -------------
Total liabilities exclusive of
liabilities under programs 751,824 (6,092) 745,732
---------------- ---------------- -------------
Liabilities under management
and mortgage programs 5,898,307 - 5,898,307
---------------- --------------- -------------
Total shareholder's equity 815,962 472 816,434
---------------- --------------- -------------
Total liabilities and
shareholder's equity $ 7,466,093 $ (5,620) $ 7,460,473
================ ================ =============
4. Historical Adjustments
Certain reclassifications have been made to the historical financial
statements of the Company to conform with the presentation used subsequent
to the HFS Merger. Additionally, the historical financial statements of the
Company have been restated to give effect to the merger of HFS's relocation
business with and into the Company (See Note 7). The effect of such
reclassifications and restatement (collectively the "Adjustments") were as
follows ($000's):
Statement of Income Data:
Year ended January 31, 1996
------------------------------------------------
As previously As
Reported Adjustments Adjusted
------------- -------------- -------------
Net revenues $ 1,815,120 $ (1,204,285) $ 610,835
Total expenses 1,682,005 (1,204,285) 477,720
Provision for income taxes 54,995 - 54,995
------------- ------------- -------------
Net income $ 78,120 $ - $ 78,120
============= ============= =============
Year ended December 31, 1996
------------------------------------------------
As previously As
Reported Adjustments Adjusted
------------- -------------- -------------
Net revenues $ 1,938,537 $ (1,212,878) $ 725,659
Total expenses 1,790,317 (1,240,946) 549,371
Provision for income taxes 60,575 11,243 71,818
------------- ------------- -------------
Net income $ 87,645 $ 16,825 $ 104,470
============= ============= =============
Balance Sheet Data:
As of December 31, 1996
------------------------------------------------
As previously As
Reported Adjustments Adjusted
------------- ------------- -------------
ASSETS
Total assets exclusive of assets under programs $ 971,074 $ (3,053) $ 968,021
Assets under management and mortgage programs 5,603,572 125,662 5,729,234
------------- ------------- -------------
TOTAL ASSETS $ 6,574,646 $ 122,609 $ 6,697,255
============= ============= =============
LIABILITIES AND SHAREHOLDER'S EQUITY
Total liabilities exclusive of liabilities
under programs $ 1,999,790 $ (1,366,156) $ 633,634
Liabilities under management and
mortgage programs:
Debt 3,904,296 1,185,647 5,089,943
Deferred income taxes - 281,948 281,948
Shareholder's equity 670,560 21,170 691,730
------------- ------------- -------------
TOTAL LIABILITIES AND SHAREHOLDER'S
EQUITY $ 6,574,646 $ 122,609 $ 6,697,255
============= ============= =============
5. Merger with HFS Incorporated
Pursuant to a merger agreement (the "HFS Merger Agreement") by and among
the Company, HFS and Mercury Acquisition Corp. ("Mercury"), a wholly owned
subsidiary of HFS, effective April 30, 1997, Mercury was merged into the
Company, with the Company being the surviving corporation, which became a
wholly owned subsidiary of HFS (the "HFS Merger"). In connection with the
HFS Merger, all outstanding shares of the Company's common stock, including
shares issued to holders of the Company's employee stock options, were
converted into approximately 30.3 million shares of HFS common stock (72.8
million equivalent shares of Cendant common stock). Prior to the HFS
Merger, the Company maintained incentive and non-statutory stock option
plans for its key employees and outside directors. Upon consummation of the
HFS Merger, all unexercised Company stock options were converted into .737
million shares of HFS common stock (1.8 million shares of Cendant common
stock).
Pursuant to the change of control provisions under the HFS Merger
Agreement, certain grantor trusts were established in connection with the
Senior Executive Severance Plan, Supplemental Executive Retirement Plan and
the Company's Excess Benefits Plan (collectively, the "Plans"). The Company
was required to fund the trusts for the present value of amounts expected
to be paid under the Plans, a large portion of which was due and paid on
April 30, 1997. The funded amounts of the grantor trusts, which remain
unpaid, are shown as restricted cash in the Consolidated Balance Sheets.
In connection with the HFS Merger, to conform with its parent Company's
calendar year end, the Company changed its fiscal year end from April 30 to
December 31, and accordingly, filed a transition report on Form 10-K for
the eight month period ended December 31, 1996. In connection with its
change in fiscal year, the Company has restated its financial statements to
present its financial position as of December 31, 1997 and 1996 and its
operating results and cash flows for the years ended December 31, 1997 and
1996 and January 31, 1996. As a result of such restatement, the Company's
operating results for January 1996 have been duplicated and, accordingly,
an adjustment has been made to 1996 retained earnings for such one-month
period for the duplication of net loss of $8.3 million and cash dividends
declared of $5.9 million.
6. Merger of HFS with CUC
On December 17, 1997, HFS (together with the Company) was merged with and
into CUC to form Cendant Corporation ("Cendant"). The Cendant Merger was
consummated with CUC issuing 440.0 million shares of its common stock in
exchange for all of the outstanding common stock of HFS. Pursuant to the
terms of the agreement and plan of merger, HFS shareholders received 2.4031
shares of CUC common stock for each share of HFS common stock. Upon
consummation of the Cendant Merger, CUC changed its name to Cendant
Corporation and effective with such merger, the Company became a wholly
owned subsidiary of Cendant. As a combined company, Cendant is a leading
global provider of various services to businesses serving consumer
industries.
7. Merger of HFS's Relocation Business
During June 1997, HFS merged its relocation business with and into the
Company. As both entities were under common control, such transaction has
been accounted for in a manner similar to a pooling-of-interests (See Note
4).
8. Merger-Related Costs and Other Unusual Charges
The Company incurred aggregate merger-related costs and other unusual
charges ("Unusual Charges") in 1997 of $251.0 million primarily associated
with the Cendant Merger and the HFS Merger.
The Unusual Charges recorded during 1997 related to the aforementioned
mergers and the reduction of related liabilities is summarized below by
category of expenditure and by charge as follows:
Unusual Liabilities at
Charges, Cash Non- December 31,
(In thousands) as restated Adjustments Payments Cash 1997
----------- ------------- ----------- ---------- -------------
Professional fees $ 14,461 $ - $ 13,771 $ - $ 690
Personnel related 147,663 (110) 101,196 (6,668) 53,025
Business terminations 68,760 - 32,246 35,007 1,507
Facility related and other 34,477 (14,203) 2,489 2,240 15,545
----------- ------------ ----------- ---------- -------------
Total Unusual Charges $ 265,361 $ (14,313) $ 149,702 $ 30,579 $ 70,767
=========== ============ =========== ========== =============
Unusual Liabilities at
Charges, Cash Non- December 31,
(In thousands) as restated Adjustments Payments Cash 1997
----------- ------------- ----------- -------- -------------
Cendant Merger Charge $ 42,236 $ - $ 30,000 $ - $ 12,236
HFS Merger Charge 223,125 (14,313) 119,702 30,579 58,531
----------- ------------ ----------- -------- -------------
Total Unusual Charges $ 265,361 $ (14,313) $ 149,702 $ 30,579 $ 70,767
=========== ============ =========== ======== =============
Cendant Merger Charge
In connection with the Cendant Merger, the Company recorded a
merger-related charge (the "Cendant Merger Charge") of $42.2 million ($29.6
million after tax) of which $30 million was paid through December 31, 1997.
The Cendant Merger Charge includes approximately $30 million of
termination costs associated with exiting certain activities associated
with fleet management operations and a non-compete agreement which was
terminated in December 1997 for which $10.7 million of outstanding
obligations were paid in January 1998.
HFS Merger Charge
The Company incurred $223.1 million of Unusual Charges in the second
quarter of 1997 primarily associated with the HFS Merger. During the fourth
quarter, as a result of the changes in estimates, the Company reduced
certain merger-related liabilities, which resulted in a $14.3 million
credit to Unusual Charges. The Company incurred $110.0 million of
professional fees and executive compensation expenses directly as a result
of the merger, and also incurred $113.1 million of expenses resulting from
reorganization plans formulated prior to and implemented as of the merger
date. The merger afforded the combined Company an opportunity to
rationalize its combined corporate, real estate and travel segment
businesses, and corresponding support and service functions to gain
organizational efficiencies and maximize profits. Such initiatives included
450 job reductions including the elimination of substantially all PHH
Corporate functions and facilities in Hunt Valley, Maryland. Management
initiated a plan just prior to the merger to continue the downsizing of
fleet operations by reducing headcount and eliminate unprofitable products.
Management also formalized a plan to centralize the management and head-
quarters functions of the world's largest, second largest and other
company-owned corporate relocation business unit subsidiaries. The real
estate segment initiatives resulted in approximately 277 planned job
reductions, write-offs of abandoned systems and leasehold assets
commencing in the second quarter of 1997.
Following is a description of costs by type of expenditure and reduction of
corresponding liabilities through December 31, 1997:
Unusual Charges include $135.5 million of personnel-related costs
associated with employee reductions necessitated by the planned and
announced consolidation of the Company's several corporate relocation
service businesses worldwide as well as the consolidation of corporate
activities. Personnel related charges also include termination benefits
such as severance, medical and other benefits. Personnel related charges
also include retirement benefits pursuant to pre-existing contracts
resulting from a change in control. Several grantor trusts were
established and funded by the Company in November 1996 to pay such benefits
in accordance with the terms of the PHH merger agreement. The Company's
restructuring plan resulted in the termination of approximately 450
employees (principally corporate employees located in North America),
of which approximately 99 were terminated by December 31, 1997.
Approximately $101.2 million of personnel related costs were paid in 1997
and $6.7 million of non-cash balance sheet adjustments related to personnel
-related liabilities were recorded. Unusual Charges also include
professional fees of $14.5 million of which $13.8 million was paid in 1997
and is primarily comprised of investment banking, accounting and legal fees
incurred in connection with the PHH Merger. Unusual Charges also include
business termination charges of $38.9 million, which are comprised of $25.0
million of costs to exit certain activities primarily within the Company's
fleet management business. In connection with the business termination
charges, approximately $2.2 million was paid in 1997 and $35.0 million of
assets associated with discontinued activities were written off. Facility
related and other charges totaling $34.5 million include costs associated
with contract and lease terminations, asset disposals and other charges
incurred in connection with the consolidation and closure of excess office
space. In 1997, approximately $2.5 million was paid, $2.2 million of assets
were written off and a $14.2 million credit was recorded representing a
change in estimate. The remaining facility related obligations will be
paid or are otherwise anticipated to be extinguished in 1998.
The Company had substantially completed the aforementioned restructuring
activities by the second quarter of 1998. The $58.5 million of liabilities
remaining at December 31, 1997 primarily consist of $40.8 million of
severance and benefit plan payments and $15.5 million related to contract,
leasehold and lease termination obligations.
9. Property and Equipment
Property and equipment consists of ($000's):
Useful Lives December 31,
In Years 1997 1996
------------ ------------ ------------
Land $ 6,826 $ 9,122
Building and leasehold improvements 5 - 50 28,601 55,967
Furniture, fixtures and equipment 3 - 10 183,368 145,294
------------- ------------
218,795 210,383
Accumulated depreciation and amortization (114,733) (118,238)
------------- ------------
Property and equipment - net $ 104,062 $ 92,145
============= ============
10. Net Investment in Leases and Leased Vehicles
The net investment in leases and leased vehicles consists of ($000's):
December 31,
------------------------------
1997 1996
------------- -------------
Vehicles under open-end operating leases $ 2,640,076 $ 2,617,263
Vehicles under closed-end operating leases 577,245 443,853
Direct financing leases 440,757 356,699
Accrued interest on leases 971 851
------------- -------------
Net investment in leases and leased vehicles $ 3,659,049 $ 3,418,666
============= =============
The Company records the cost of leased vehicles as an "investment in leases
and leased vehicles". The vehicles are leased primarily to corporate fleet
users for initial periods of twelve months or more under either operating
or direct financing lease agreements. Vehicles under operating leases are
amortized using the straight-line method over the expected lease term. The
Company's experience indicates that the full term of the leases may vary
considerably due to extensions beyond the minimum lease term. Amounts
charged to lessees for interest on the unrecovered investment are credited
to income on a level yield method, which approximates the contractual
terms. Lessee repayments of investment in leases and leased vehicles for
1997 and 1996 were $1.6 billion, in both 1997 and 1996 and the ratio of
such repayments to the average net investment in leases and leased vehicles
in 1997 and 1996 was 46.80% and 47.19%, respectively.
The Company has two types of operating leases. Under one type, open-end
operating leases, resale of the vehicles upon termination of the lease is
generally for the account of the lessee except for a minimum residual value
which the Company has guaranteed. The Company's experience has been that
vehicles under this type of lease agreement have consistently been sold for
amounts exceeding the residual value guarantees. Maintenance and repairs of
vehicles under these agreements are the responsibility of the lessee. The
original cost and accumulated depreciation of vehicles under this type of
operating lease was $5.0 billion and $2.4 billion, respectively, at
December 31, 1997 and $4.6 billion and $2.0 billion, respectively, at
December 31, 1996.
Under the other type of operating lease, closed-end operating leases,
resale of the vehicles on termination of the lease is for the account of
the Company. The lessee generally pays for or provides maintenance, vehicle
licenses and servicing. The original cost and accumulated depreciation of
vehicles under these agreements was $754.4 million and $177.2 million,
respectively, at December 31, 1997 and $600.6 million and $156.7 million,
respectively, at December 31, 1996. The Company believes adequate reserves
are maintained in the event of loss on vehicle disposition.
Under the direct financing lease agreements, resale of the vehicles upon
termination of the lease is generally for the account of the lessee.
Maintenance and repairs of these vehicles are the responsibility of the
lessee.
Gross leasing revenues, which are reflected in fleet leasing on the
Consolidated Statements of Operations consist of ($000's):
For the Years Ended
------------------------------------------------
December 31, January 31,
1997 1996 1996
------------------------------- -------------
Operating leases $ 1,222,865 $ 1,145,745 $ 1,098,697
Direct financing leases, primarily interest 41,816 43,323 42,375
------------- ------------- -------------
$ 1,264,681 $ 1,189,068 $ 1,141,072
============= ============= =============
Other managed vehicles are subject to leases serviced by the Company for
others, and neither the vehicles nor the leases are included as assets of
the Company. The Company receives a fee under such agreement, which covers
or exceeds its cost of servicing.
The Company has transferred existing managed vehicles and related leases to
unrelated investors and has retained servicing responsibility. Credit risk
for such agreements is retained by the Company to a maximum extent in one
of two forms: excess assets transferred, which were $7.6 million and $7.1
million at December 31, 1997 and 1996, respectively or guarantees to a
maximum extent. There were no guarantees to a maximum extent outstanding at
December 31, 1997 and 1996, respectively. All such credit risk has been
included in the Company's consideration of related reserves. The
outstanding balances under such agreements aggregated $224.6 million and
$158.5 million at December 31, 1997 and 1996, respectively.
Other managed vehicles with balances aggregating $75.6 million and $93.9
million at December 31, 1997 and 1996, respectively, are included in a
special purpose entity which is not owned by the Company. This entity does
not require consolidation as it is not controlled by the Company and all
risks and rewards rest with the owners. Additionally, managed vehicles
totaling approximately $69.6 million and $47.4 million at December 31, 1997
and 1996, respectively, are owned by special purpose entities which are
owned by the Company. However, such assets and related liabilities have
been netted in the Consolidated Balance Sheet since there is a two-party
agreement with determinable accounts, a legal right of offset exists and
the Company exercises its right of offset in settlement with client
corporations.
11. Mortgage Loans Held for Sale
Mortgage loans held for sale represent mortgage loans originated by the
Company and held pending sale to permanent investors. Such mortgage loans
are recorded at the lower of cost or market value as determined by
outstanding commitments from investors or current investor yield
requirements calculated on the aggregate loan basis. There was no valuation
reserve at December 31, 1997 and the valuation reserve was approximately
$10.1 million at December 31, 1996. The Company issues mortgage-backed
certificates insured or guaranteed by the Fannie Mae Corp.(FNMA), Home Loan
Mortgage Corporation (FHLMC), Government National Mortgage Association
(GNMA) and other private insurance agencies. The insurance provided by FNMA
and FHLMC and other private insurance agencies are on a non-recourse basis
to the Company. However, the guarantee provided by GNMA is only to the
extent recoverable from insurance programs of the Federal Housing
Administration and the Veterans Administration. The outstanding principal
balance of mortgages backing GNMA certificates issued by the Company
aggregated approximately $4.6 billion and $3.4 billion at December 31, 1997
and 1996, respectively. Additionally, the Company sells mortgage loans as
part of various mortgage-backed security programs sponsored by FNMA, FHLMC
and GNMA. Certain of these sales are subject to recourse or indemnification
provisions in the event of default by the borrower. As of December 31,
1997, mortgage loans sold with recourse amounted to approximately $58.5
million. The Company believes adequate reserves are maintained to cover all
potential losses.
12. Mortgage Servicing Rights and Fees
Capitalized mortgage servicing rights and fees activity was as follows
($000's):
Mortgage
Servicing Impairment
Rights & Fees Allowance Total
-------------- ----------- -------------
Balance February 1, 1995 $ 97,213 $ - $ 97,213
Additions 130,135 - 130,135
Amortization (28,556) - (28,556)
Write-down/provision (1,630) (1,386) (3,016)
Sales (4,342) - (4,342)
------------- ----------- -------------
Balance January 31, 1996 192,820 (1,386) 191,434
Less: PHH activity for January
1996 to reflect change in
PHH fiscal year (14,020) 183 (13,837)
Additions 164,393 - 164,393
Amortization (51,750) - (51,750)
Write-down/provision - 622 622
Sales (1,919) - (1,919)
------------- ----------- -------------
Balance December 31, 1996 289,524 (581) 288,943
Additions 270,463 - 270,463
Amortization (95,619) - (95,619)
Write-down/provision - (4,076) (4,076)
Sales (33,125) - (33,125)
Other (53,537) - (53,537)
------------- ----------- -------------
Balance December 31, 1997 $ 377,706 $ (4,657) $ 373,049
============= ============ =============
Effective January 1, 1997, the Company adopted Statement of Financial
Accounting Standards No. 125 (SFAS No. 125), "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities". The
statement provides criteria for: (i) recognizing the transfer of assets as
sales or secured borrowings; (ii) recognizing servicing assets and other
retained interests in the transferred assets and; (iii) overall guidance
for amortizing servicing rights and measuring such assets for potential
impairment. The servicing right and any other retained interests are
recorded by allocating the previous carrying amount between assets sold and
the retained interests, based on their relative fair values at the date of
the transfer. SFAS No. 125 also eliminated the distinction between the
various classes of servicing rights (purchased, originated, excess). Upon
adoption of the statement, assets previously recognized as excess servicing
rights were classified as mortgage servicing rights to the extent that the
recorded value related to the contractually specified servicing fee. The
remaining recorded asset represents an interest-only strip in the amount of
$48.0 million, which has been reclassified to mortgage related securities.
The impact of adopting SFAS No. 125 was not material to the Company's
financial statements.
The Company stratifies its servicing rights according to the interest rate
bands of the underlying mortgage loans for purposes of impairment
evaluation. The Company measures impairment for each stratum by comparing
estimated fair value to the recorded book value. The Company records
amortization expense in proportion to, and over the period of the projected
net servicing income. Temporary impairment is recorded through a valuation
allowance and amortization expense in the period of occurrence.
13. Liabilities Under Management and Mortgage Programs
Borrowings to fund assets under management and mortgage programs are
classified as "Liabilities under management and mortgage programs" and
consists of the following ($000's):
December 31,
------------------------------
1997 1996
------------- -------------
Commercial paper $ 2,577,534 $ 3,090,843
Medium-term notes 2,747,800 1,662,200
Other 277,266 336,900
------------- -------------
Liabilities under management and mortgage
programs - debt $ 5,602,600 $ 5,089,943
============= =============
Commercial paper, all of which matures within 90 days, is supported by
committed revolving credit agreements described below and short-term lines
of credit. The weighted average interest rates on the Company's outstanding
commercial paper were 5.9% and 5.4% at December 31, 1997 and 1996,
respectively.
Medium-term notes of $2.6 billion represent unsecured loans, and mature
during 1998. The weighted average interest rates on such medium-term notes
were 5.9% and 5.7% at December 31, 1997 and 1996, respectively. The
remaining $0.1 billion of medium-term notes represents an unsecured
obligation having a fixed interest rate of 6.5% with interest payable
semi-annually and a term of seven years payable in full in the year 2000.
Other liabilities under management and mortgage programs are principally
comprised of unsecured debt, all of which matures during 1998, and includes
borrowings under short-term lines of credit and other bank facilities. The
weighted average interest rate on unsecured debt was 6.7% and 5.8% at
December 31, 1997 and 1996, respectively.
Interest expense is incurred on indebtedness, which is used to finance
fleet leasing, relocation, and mortgage servicing activities. Interest
incurred on borrowings used to finance fleet leasing activities was $177.0
million, $161.8 million and $159.7 million for the years ended December 31,
1997 and 1996 and January 31, 1996, respectively, and is included net
within fleet leasing revenue in the Consolidated Statements of Operations.
Interest related to equity advances on homes was $32.0 million, $35.0
million and $26.0 million for the years ended December 31, 1997 and 1996
and January 31, 1996, respectively. Interest related to mortgage servicing
activities were $77.6 million, $63.4 million and $49.9 million for the
years ended December 31, 1997 and 1996 and January 31, 1996, respectively.
Interest expenses incurred on borrowings used to finance both equity
advances on homes and mortgage servicing activities are recorded net within
service fee revenue in the Consolidated Statements of Operations. Total
interest payments were $290.7 million, $262.0 million and $261.1 million
for the years ended December 31, 1997, 1996 and January 31, 1996.
The Company maintains a $2.5 billion syndicated unsecured credit facility
backed by a consortium of domestic and foreign banks. The facility is
comprised of $1.25 billion of credit lines maturing in 364 days and $1.25
billion maturing in five years. Under this facility and prior facilities,
the Company is obligated to pay annual commitment fees, which were $1.7
million, $2.4 million and $2.3 million for the years ended December 31,
1997, 1996 and January 31, 1996, respectively. The Company had other unused
lines of credit of $180.7 and $301.5 million at December 31, 1997 and 1996,
respectively, with various banks.
Although the period of service for a vehicle is at the lessee's option, and
the period a home is held for resale varies, management estimates, by using
historical information, the rate at which vehicles will be disposed and the
rate at which homes will be resold.
Projections of estimated liquidations of assets under management and
mortgage programs and the related estimated repayments of liabilities under
management and mortgage programs as of December 31, 1997, are set forth as
follows ($000's):
Assets under Management Liabilities under Management
Years and Mortgage Programs and Mortgage Programs (1)
----- -------------------------- -----------------------------
1998 $ 3,321,381 $ 2,746,592
1999 1,855,212 1,702,595
2000 838,564 766,357
2001 272,835 245,761
2002 92,901 84,357
2003-2007 62,830 56,938
------------- -------------
$ 6,443,723 $ 5,602,600
============= =============
--------------
(1) The projected repayments of liabilities under management and mortgage
programs are different than required by contractual maturities.
14. Fair Value of Financial Instruments and Servicing Rights
The following methods and assumptions were used by the Company in
estimating fair value disclosures for material financial instruments. The
fair values of the financial instruments presented may not be indicative of
their future values.
Mortgage loans held for sale: Fair value is estimated using the quoted
market prices for securities backed by similar types of loans and current
dealer commitments to purchase loans. These loans are priced to be sold
with servicing rights retained. Gains (losses) on mortgage-related
positions used to reduce the risk of adverse price fluctuations for both
mortgage loans held for sale and anticipated mortgage loan closings arising
from commitments issued are included in the carrying amount of mortgage
loans held for sale.
Mortgage servicing rights: Fair value is estimated based on market quotes
and discounted cash flow analyses based on current market information
including market prepayment rates consensus. Such market information is
subject to change as a result of changing economic conditions.
Debt: The fair value of the Company's Medium-term notes is estimated based
on quoted market prices.
Interest rate swaps, foreign exchange contracts, forward delivery
commitments, futures contracts and options: The fair value of interest rate
swaps, foreign exchange contracts, forward delivery commitments, futures
contracts and options is estimated, using dealer quotes, as the amount that
the Company would receive or pay to execute a new agreement with terms
identical to those remaining on the current agreement, considering interest
rates at the reporting date.
The carrying amounts and fair values of the Company's financial instruments
at December 31, are as follows ($000's):
1997 1996
------------------------------------- -------------------------------------
Estimated Estimated
Notional Carrying Fair Notional Carrying Fair
Amount Amount Value Amount Amount Value
----------- ----------- ----------- ----------- ----------- -----------
Other assets:
Investment in mortgage
securities under management
and mortgage programs $ - $ 48,020 $ 48,020 $ - $ - $ -
Assets under management and
mortgage programs:
Relocation receivables - 775,284 775,284 - 773,326 773,326
Mortgage loans held for sale - 1,636,341 1,668,140 - 1,248,299 1,248,299
Mortgage servicing rights - 373,049 394,572 - 288,943 324,135
Liabilities under management
and mortgage programs:
Debt - 5,602,600 5,604,237 - 5,089,943 5,089,943
Off balance sheet:
Interest rate swaps 2,550,143 - - 1,670,155 - -
In a gain position - - 5,550 - - 2,457
In a loss position - - (3,865) - - (10,704)
Foreign exchange forwards 415,453 - 2,533 329,088 - 10,010
Mortgage-related positions:(a)
Forward delivery
commitments 2,582,500 19,437 (16,184) 1,703,495 11,425 7,448
Option contracts to sell 290,000 539 - 265,000 952 746
Option contracts to buy 705,000 1,094 4,355 350,000 1,346 (463)
Treasury options used to hedge
servicing rights 331,500 4,830 4,830 313,900 1,327 278
Constant maturity
treasury floors 825,000 12,530 17,100 - - -
Interest rate swaps 175,000 1,250 1,250 - - -
---------
(a) Gains (losses) on mortgage-related positions are included in the
determination of market value of mortgage loans held for sale.
15. Commitments and Contingencies
Leases. The Company has noncancelable operating leases covering various
equipment and facilities. Rental expense for the years ended December 31,
1997 and 1996 and January 31, 1996 approximated $22.5 million, $24.6
million and $24.3 million, respectively.
Future minimum lease payments required under non-cancelable operating
leases as of December 31, 1997 are as follows ($000's):
1998 $ 22,141
1999 22,072
2000 20,207
2001 13,463
2002 11,417
Thereafter 34,219
----------
Total minimum lease payments $ 123,519
==========
Parent Company Investigation and Litigation. On April 15, 1998, Cendant
announced that it discovered accounting irregularities in the former CUC
business units. Since the Parent Company's announcement and prior to the
date hereof, seventy-one purported class action lawsuits and one individual
lawsuit have been filed against the Parent Company and certain current and
former officers and directors of the Parent Company and HFS, asserting
various claims under the federal securities laws (the "Federal Securities
Actions"). Some of the actions also name as defendants Merrill Lynch & Co.
and, in one case, Chase Securities, Inc., underwriters for the Parent
Company's PRIDES securities offering; two others also name Ernst & Young
LLP, the Parent Company's former independent accountants. Sixty-four of the
Federal Securities Actions were filed in the United States District Court
for the District of New Jersey, six were filed in the United States
District Court for the District of Connecticut (including the individual
action), one was filed in the United States District Court for the Eastern
District of Pennsylvania and one has been filed in New Jersey Superior
Court. The Federal Securities Actions filed in the District of Connecticut
and Eastern District of Pennsylvania have been transferred to the District
of New Jersey. On June 10, 1998, the Parent Company moved to dismiss or
stay the Federal Securities Actions filed in New Jersey Superior Court on
the ground that, among other things, it is duplicative of the actions filed
in federal courts. The court granted that motion on August 7, 1998, without
prejudice to the plaintiff's right to re-file the case in the District of
New Jersey.
Certain of these Federal Securities Actions purport to be brought on behalf
of purchasers of the Parent Company's common stock and/or options on common
stock during various periods, most frequently beginning May 28, 1997 and
ending April 15, 1998 (although the alleged class periods begin as early as
March 21, 1995 and end as late as July 15, 1998). Others claim to be
brought on behalf of persons who exchanged common stock of HFS for the
Parent Company's common stock in connection with the Merger. Some
plaintiffs purport to represent both of these types of investors. In
addition, eight actions pending in the District of New Jersey purport to be
brought, either in their entirety or in part, on behalf of purchasers of
the Parent Company's PRIDES securities. The complaints in the Federal
Securities Actions allege, among other things, that as a result of
accounting irregularities, the Parent Company's previously issued financial
statements were materially false and misleading and that the defendants
knew or should have known that these financial statements caused the prices
of the Parent Company's securities to be inflated artificially. The Federal
Securities Actions variously allege violations of Section 10(b) of the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), and Rule
10b-5 promulgated thereunder, Section 14(a) of the Exchange Act and Rule
14a-9 promulgated thereunder, Section 20(a) of the Exchange Act, and
Sections 11, 12 and 15 of the Securities Act of 1933, as amended (the
"Securities Act"). Certain actions also allege violations of common law.
The individual action also alleges violations of Section
18(a) of the Exchange Act and the Florida securities law. The class action
complaints seek damages in unspecified amounts. The individual action seeks
damages in the amount of approximately $9 million plus interest and
expenses.
On May 29, 1998, United States Magistrate Judge Joel A. Pisano entered an
Order consolidating the 50 Federal Securities Actions that had at that time
been filed in the United States District Court for the District of New
Jersey, under the caption In re: Cendant Corporation Litigation, Master
File No. 98-1664 (WHW). Pursuant to the Order, all related actions
subsequently filed in the District of New Jersey are to be consolidated
under that caption. United States District Court Judge William H. Walls has
selected lead plaintiffs and lead counsel to represent all potential class
members in the consolidated action. He has also ordered that applications
seeking appointment as lead counsel to represent the lead plaintiffs are to
be filed with the Court by September 17, 1998. The selection of lead
counsel is pending.
In addition, on April 27, 1998, a purported shareholder derivative action,
Deutch v Silverman, et al., No. 98-1998 (WHW), was filed in the District of
New Jersey against certain of the Parent Company's current and former
directors and officers; The Bear Stearns Companies, Inc.; Bear Stearns &
Co. Inc.; and, as a nominal party, the Parent Company. The complaint in the
Deutch action alleges that certain individual officers and directors of the
Parent Company breached their fiduciary duties by selling shares of the
Parent Company's stock while in possession of non-public material
information concerning the accounting irregularities. The complaint also
alleges various other breaches of fiduciary duty, mismanagement, negligence
and corporate waste and seeks damages on behalf of the Parent Company.
Another action, entitled Corwin v Silverman, et al., No. 16347-NC, was
filed on April 29, 1998 in the Court of Chancery for the State of Delaware.
The Corwin action is purportedly brought both derivatively, on behalf of
the Parent Company, and as a class action, on behalf of all shareholders of
HFS who exchanged their HFS shares for the Parent Company's shares in
connection with the Merger. The Corwin action names as defendants HFS and
twenty-eight individuals who are and were directors of Cendant and HFS. The
complaint in the Corwin action alleges that defendants breached their
fiduciary duties of loyalty, good faith, care and candor in connection with
the Merger, in that they failed to properly investigate the operations and
financial statements of the Parent Company before approving the Merger at
an allegedly inadequate price. The amended compliant also alleges that the
Parent Company's directors breached their fiduciary duties by entering into
an employment agreement with Cendant's former Chairman, Walter Forbes, in
connection with the Merger that purportedly amounted to corporate waste.
The Corwin action seeks, among other things, recision of the Merger and
compensation for all losses and damages allegedly suffered in connection
therewith.
The staff of the Securities and Exchange Commission (the "SEC") and the
United States Attorney for the District of New Jersey are conducting
investigations relating to the matters referenced above. The SEC staff has
advised the Parent Company that its inquiry should not be construed as an
indication by the SEC or its staff that any violations of law have
occurred.
In connection with the Cendant Merger, certain officers and directors
of HFS exchanged their shares of HFS common stock and options exercisable
for HFS common stock for shares of the Parent Company's common stock and
options exercisable for the Parent Company's common stock, respectively.
As a result of the aforementioned accounting irregularities, such officers
and directors have advised the Parent Company that they believe they have
claims against the Parent Company in connection with such exchange. In
addition, certain current and former officers and directors of the Parent
Company would consider themselves to be members of any class ultimately
certified in the Federal Securities Actions now pending in which the Parent
Company is named as a defendant by virtue of their have been HFS
stockholders at the time of the Merger.
While it is not feasible to predict or determine the final outcome of these
proceedings or to estimate the amounts or potential range of loss with
respect to these matters, management believes that an adverse outcome with
respect to such Parent Company proceedings could have a material adverse
impact on the financial condition and cash flows of the Company.
Other pending litigation. The Company and its subsidiaries are involved in
pending litigation in the usual course of business. In the opinion of
management, such litigation will not have a material effect on the
Company's consolidated financial position, results of operations or cash
flows.
16. Income Taxes
The income tax provision consists of ($000's):
For the Years Ended
-------------------------------------------------
December 31, January 31,
1997 1996 1996
------------------------------- --------------
Current
Federal $ 19,267 $ 10,527 $ (5,354)
State 7,243 3,497 7,611
Foreign 14,338 8,806 7,138
------------- ------------- --------------
40,848 22,830 9,395
------------- ------------- --------------
Deferred
Federal 5,697 42,888 43,900
State (814) 5,300 700
Foreign (1,575) 800 1,000
------------- ------------- -------------
3,308 48,988 45,600
------------- ------------- -------------
Provision for income taxes $ 44,156 $ 71,818 $ 54,995
============= ============= =============
Net deferred income tax assets and liabilities are comprised of the
following ($000's):
December 31,
-------------------------------
1997 1996
------------- -------------
Merger-related costs $ 12,817 $ -
Current net deferred tax asset (accrued liabilities and
deferred income) 48,530 44,748
------------- -------------
$ 61,347 $ 44,748
============= =============
Management and mortgage programs:
Depreciation $ (233,080) $ (245,146)
Unamortized mortgage servicing rights (74,586) (51,239)
Accrued liabilities and deferred income 9,476 1,359
Alternative minimum tax and net operating loss carryforwards 2,483 13,078
------------- --------------
Net deferred tax liabilities under management
and mortgage programs $ (295,707) $ (281,948)
=============== ==============
The Company has $2.5 million of alternative minimum tax carryforwards at
December 31, 1997, which may be carried forward indefinitely.
The Company paid income taxes of $16.1 million, $2.5 million and $6.3
million for the years ended December 31, 1997, 1996 and January
31, 1996, respectively.
The Company's effective income tax rate differs from the statutory federal
rate as follows:
For the Years Ended
----------------------------------------
December 31, January 31,
1997 1996 1996
----------------------- -----------
Federal statutory rate (35.0%) 35.0% 35.0%
Merger-related costs 1,203.0% - -
State income taxes net of federal benefit 121.7% 3.9% 4.1%
Amortization of non-deductible goodwill 18.4% .5% 0.9%
Foreign tax in excess of domestic rate (27.1%) 1.0% 0.9%
Other 4.5% 0.3% 0.4%
--------- --------- --------
Effective tax rate 1,285.5% 40.7% 41.3%
========= ========= ========
17. Employee Benefit Plans
Under provisions of the Company's employee investment plan, a qualified
retirement plan, eligible employees may generally have up to 10% of their
base salaries withheld and placed with an independent custodian and elect
to invest in common stock of Cendant, an index equity fund, a growth equity
fund, an international equity fund, a fixed income fund, an asset
allocation fund, and/or a money market fund. The Company's contributions
vest proportionately in accordance with an employee's years of vesting
service, with an employee being 100% vested after three years of vesting
service. The Company matches employee contributions to 3% of their base
salaries, with up to an additional 3% match available at the time of
deferral. The Company's additional matches of employee contributions
greater than 3% up to 6%, were 50% in 1997, 75% in 1996 and 50% in 1995.
The additional match is allocated into the investment elections noted above
based on the same percentage as the respective employees' base salary
withholdings. The Company's expenses for contributions were $5.1 million,
$4.7 million and $4.4 million for the years ended December 31, 1997, 1996
and January 31, 1996, respectively.
Pension and supplemental retirement plans
The Company has a non-contributory defined benefit pension plan covering
substantially all domestic employees of the Company and its subsidiaries.
The Company's foreign subsidiary located in the United Kingdom has a
contributory defined benefit pension plan, with participation at the
employee's option. Under both the domestic and foreign plans, benefits are
based on an employee's years of credited service and a percentage of final
average compensation. The Company's policy for both plans is to contribute
amounts sufficient to meet the minimum requirements plus other amounts as
the Company deems appropriate from time to time. The Company also sponsors
two unfunded supplemental retirement plans to provide certain key
executives with benefits in excess of limits under the federal tax law and
to include annual incentive payments in benefit calculations.
Net costs included the following ($000's):
For the Years Ended
-------------------------------------------
December 31, January 31,
1997 1996 1996
----------- ----------- -----------
Service cost $ 5,851 $ 5,594 $ 4,927
Interest cost 8,678 8,268 7,391
Actual return on assets (8,474) (10,313) (9,019)
Net amortization and deferral 141 3,905 3,712
----------- ------------ ------------
Net cost $ 6,196 $ 7,454 $ 7,011
=========== =========== ===========
A summary of the plans' status and the Company's recorded liability
recognized in the Consolidated Balance Sheets is as follows ($000's):
Funded plans December 31,
1997 1996
----------- -----------
Accumulated benefit obligation:
Vested $ 77,182 $ 69,743
Unvested 8,061 7,058
----------- -----------
Total accumulated benefit obligation $ 85,243 $ 76,801
=========== ===========
Projected benefit obligation $ 108,139 $ 97,145
Funded assets, at fair value (primarily common stock and bond
mutual funds) (102,731) (88,416)
Unrecognized net (gain) loss from past experience different from that
assumed and effects of changes in assumptions 1,445 (4,544)
Unrecognized prior service cost 508 (761)
Unrecognized net obligation (300) (356)
----------- -----------
Recorded liability $ 7,061 $ 3,068
=========== ===========
Unfunded plans Accumulated benefit obligation:
Vested $ 1,657 $ 13,031
Unvested 12 601
----------- -----------
Total accumulated benefit obligation $ 1,669 $ 13,632
=========== ===========
Projected benefit obligation $ 1,982 $ 17,977
Unrecognized net loss from past experience different from that
assumed and effects of changes in assumptions (25) (3,087)
Unrecognized prior service cost (175) (2,641)
Unrecognized net obligation -- (1,237)
Minimum liability adjustment -- 2,620
----------- -----------
Recorded liability $ 1,782 $ 13,632
=========== ===========
Significant percentage assumptions used in determining the cost and
related obligations under the domestic pension and unfunded supplemental
retirement plans are as follows:
For the Years Ended
------------------------------------------
December 31, January 31,
1997 1996 1996
----------------------- ----------
Discount rate 8.00% 8.00% 8.00%
Rate of increase in compensation 5.00% 5.00% 5.00%
Long-term rate of return on assets 10.00% 10.00% 9.50%
In connection with the HFS Merger and the resulting change in control of
the Company's supplemental retirement plans, the Company recognized a
loss of $20.2 million, which reflects a curtailment of the plans and the
related contractual termination of benefits, and settlement of certain
plan obligations. The loss was recorded as a component of the HFS Merger
Charge for the year ended December 31, 1997.
Postretirement benefits other than pensions
The Company provides health care and life insurance benefits for certain
retired employees up to the age of 65. A summary of the plan's status and
the Company's recorded liability recognized in the Consolidated Balance
Sheets was as follows ($000's):
December 31,
1997 1996
----------- ----------
Accumulated postretirement benefit obligation:
Active employees $ 5,829 $ 5,811
Current retirees 2,214 1,670
------------ ----------
Total accumulated postretirement benefit obligation 8,043 7,481
Unrecognized transition obligations (4,506) (4,799)
Unrecognized net gain 2,441 1,832
----------- ---------
Recorded liability $ 5,978 $ 4,514
=========== ========
Net periodic postretirement benefit costs included the following
components ($000's):
For the Years Ended
-------------------------------------------
December 31, January 31,
1997 1996 1996
---------------------------- -----------
Service cost $ 857 $ 830 $ 755
Interest cost 582 526 519
Net amortization and deferral 173 199 237
----------- ------------ -----------
Net cost $ 1,612 $ 1,555 $ 1,511
=========== =========== ===========
Significant percentage assumptions used in determining the cost and
obligations under the postretirement benefit plan are as follows:
For the Years Ended
-------------------------------------------
December 31, January 31,
1997 1996 1996
------------------------- -----------
Discount rate 8.00% 8.00% 8.00%
Health care costs trend rate for subsequent year 8.00% 10.00% 10.00%
The health care cost trend rate is assumed to decrease gradually through
the year 2004 when the ultimate trend rate of 4.75% is reached. At December
31, 1997, a one-percentage-point increase in the assumed health care cost
trend rate for each future year would increase the annual service interest
cost by approximately $149,000 and the accumulated postretirement benefit
obligations by approximately $564,000.
18. Derivative Financial Instruments
The Company uses derivative financial instruments as part of its overall
strategy to manage its exposure to market risks associated with
fluctuations in interest rates, foreign currency exchange rates, prices of
mortgage loans held for sale and anticipated mortgage loan closings arising
from commitments issued. The Company performs analyses on an on-going basis
to determine that a high correlation exists between the characteristics of
derivative instruments and the assets or transactions being hedged. As a
matter of policy, the Company does not engage in derivatives activities for
trading or speculative purposes. The Company is exposed to credit-related
losses in the event of non-performance by counterparties to certain
derivative financial instruments. The Company manages such risk by
periodically evaluating the financial position of counterparties and
spreading its positions among multiple counterparties. The Company
presently does not expect non-performance by any of the counterparties.
Interest rate swaps: If the interest characteristics of the funding
mechanism that the Company uses does not match the interest characteristics
of the assets being funded, the Company enters into interest rate swap
agreements to offset the interest rate risk associated with such funding.
The swap agreements correlate the terms of the assets to the maturity and
rollover of the debt by effectively matching a fixed or floating interest
rate with the stipulated revenue stream generated from the portfolio of
assets being funded. Amounts to be paid or received under interest rate
swap agreements are accrued as interest rates change and are recognized
over the life of the swap agreements as an adjustment to interest expense.
For the years ended December 31, 1997 and 1996, the Company's hedging
activities increased interest expense $4.0 million and $4.1 million,
respectively, and had no effect on its weighted average borrowing rate. The
fair value of the swap agreements is not recognized in the consolidated
financial statements since they are accounted for as hedges.
The following table summarizes the maturity and weighted average rates of
the Company's interest rate swaps employed at December 31, 1997 ($000's):
Maturities
-----------------------------------------------------------------------------
Total 1998 1999 2000 2001 2002 2003
----------- --------- --------- --------- --------- --------- ---------
United States
Commercial Paper:
Pay fixed/receive floating:
Notional value $ 355,753 $ 184,276 $ 110,146 $ 40,631 $ 11,825 $ 3,375 $ 5,500
Weighted average receive rate 5.68% 5.68% 5.68% 5.68% 5.68% 5.68%
Weighted average pay rate 6.25% 6.29% 6.19% 6.28% 6.40% 6.61%
Medium-Term Notes:
Pay floating/receive fixed:
Notional value 586,000 500,000 86,000
Weighted average receive rate 6.12% 6.71%
Weighted average pay rate 5.89% 5.89%
Pay floating/receive floating:
Notional value 965,000 965,000
Weighted average receive rate 5.76%
Weighted average pay rate 5.70%
Canada
Commercial Paper:
Pay fixed/receive floating:
Notional value 54,814 29,574 18,388 5,943 909
Weighted average receive rate 4.53% 4.53% 4.53% 4.53%
Weighted average pay rate 5.36% 5.12% 4.89% 4.93%
Pay floating/receive floating:
Notional value 59,746 31,178 16,709 6,498 5,060 301
Weighted average receive rate 5.88% 5.88% 5.88% 5.88% 5.88%
Weighted average pay rate 4.91% 4.91% 4.91% 4.91% 4.91%
Pay floating/receive fixed:
Notional value 28,273 28,273
Weighted average receive rate 3.68%
Weighted average pay rate 4.53%
UK
Commercial Paper:
Pay floating/receive fixed:
Notional value 491,496 174,644 167,546 113,898 35,408
Weighted average receive rate 7.22% 7.15% 7.24% 7.28%
Weighted average pay rate 7.69% 7.69% 7.69% 7.69%
Germany
Commercial Paper:
Pay fixed/receive fixed:
Notional value $ 9,061 $ 2,548 $ (5,663) $ 3,115 $ 9,061
Weighted average receive rate 3.76% 3.76% 3.76% 3.76%
Weighted average pay rate 5.34% 5.34% 5.34% 5.34%
----------- --------- --------- --------- --------- --------- ---------
Total $ 2,550,143 $1,915,493 $ 307,126 $ 256,085 $ 62,263 $ 3,676 $ 5,500
=========== ========== ========= ========= ========= ========= =========
Foreign exchange contracts: In order to manage its exposure to fluctuations
in foreign currency exchange rates on a selective basis, the Company enters
into foreign exchange contracts. Such contracts are utilized as hedges of
intercompany loans. Market value gains and losses on the Company's foreign
currency transaction hedges related to intercompany loans are deferred and
recognized upon maturity of the loan. Such contracts effectively offset the
currency risk applicable to approximately $409.8 million and $329.1 million
of obligations at December 31, 1997 and 1996, respectively.
Other financial instruments: With respect to both mortgage loans held for
sale and anticipated mortgage loan closings arising from commitments
issued, the Company is exposed to the risk of adverse price fluctuations.
The Company uses forward delivery contracts, financial futures and option
contracts to reduce such risk. Market value gains and losses on such
positions used as hedges are deferred and considered in the valuation of
cost or market value of mortgage loans held for sale.
The value of the Company's mortgage servicing rights is sensitive to
changes in interest rates. The Company has developed and implemented a
hedge program to manage the associated financial risks of loan prepayments.
The Company has acquired certain derivative financial instruments,
primarily interest rate floors, futures and options to administer its hedge
program. Premiums paid or received on the acquired derivative instruments
are capitalized and amortize over the life of the contract. Gains and
losses associated with the hedge instruments are deferred and recorded as
adjustments to the basis of the mortgage servicing rights. In the event the
performance of the hedge instruments do not meet the requirements of the
hedge program, changes in fair value of the hedge instruments will be
reflected in the income statement in the current period. Deferrals under
the hedge programs are allocated to each applicable stratum of mortgage
servicing rights based upon its original designation and included in the
impairment measurement.
19. Industry Segment Information
The Company's operations are classified into two industry segments: fleet
management and real estate. See Note 1 for a description of the Company?s
industry segments and the underlying businesses comprising such segments.
Operations by segment ($000's):
Year Ended December 31, 1997
Fleet Real
Management Estate Other Consolidated
------------- ----------- ----------- -------------
Net revenues $ 271,924 $ 588,626 $ - $ 860,550
Operating income (loss)(1) 33,541 116,665 (153,641) (3,435)
Identifiable assets 3,995,826 3,307,378 157,269 7,460,473
Depreciation and amortization 12,516 13,210 - 25,726
Capital expenditures 16,781 39,189 2,943 58,913
-------------------
(1) Operating income (loss) includes merger-related charges associated with
business combinations of $61.1 million, $34.5 million and $155.4
million applicable to the fleet management, real estate and other
segment (corporate expenses).
Year Ended December 31, 1996
Fleet Real
Management Estate Consolidated
------------- ----------- -------------
Net revenues $ 255,866 $ 469,793 $ 725,659
Operating income 76,260 100,028 176,288
Identifiable assets 3,868,472 2,828,783 6,697,255
Depreciation and amortization 13,214 15,363 28,577
Capital expenditures 9,999 15,385 25,384
Year Ended January 31, 1996
Fleet Real
Management Estate Consolidated
------------- ----------- -------------
Net revenues $ 258,877 $ 351,958 $ 610,835
Operating income (loss) 56,918 76,197 133,115
Identifiable assets 3,649,654 2,125,973 5,775,627
Depreciation and amortization 18,837 13,484 32,321
Capital expenditures 9,872 11,159 21,031
The Company's operations outside of North America principally include fleet
management and corporate relocation business operations in Europe. Geographic
operations of the Company are as follows ($000's):
North
Year Ended December 31, 1997 America Europe Consolidated
---------------------------- ------------- ----------- -------------
Net revenues $ 746,986 $ 113,564 $ 860,550
Operating income (37,623) 34,188 (3,435)
Identifiable assets 6,592,143 868,330 7,460,473
Year Ended December 31, 1996
Net revenues 658,327 67,332 725,659
Operating income 154,103 22,185 176,288
Identifiable assets 5,977,267 719,988 6,697,255
North
Year Ended January 31, 1996 America Europe Consolidated
---------------------------- ------------- ----------- -------------
Net revenues $ 548,855 $ 61,980 $ 610,835
Operating income 119,277 13,838 133,115
Identifiable assets 5,178,710 596,917 5,775,627
20. Subsequent Event
Mortgage Facility. The Company's mortgage services subsidiary ("Mortgage
Services") entered into a three year agreement effective May, 1998 (the
"Effective Date") under which an unaffiliated Buyer (the "Buyer") has
committed to purchase at Mortgage Services option, mortgage loans
originated by Mortgage Services on a daily basis, up to the Buyer's asset
limit of $1.5 billion.
Under the terms of this sale agreement, Mortgage Services retains the
servicing rights on the mortgage loans sold to the Buyer and provides the
Buyer with options to sell or securitize the mortgage loans into the
secondary market.