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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 0-27812
MEDALLION FINANCIAL CORP.
(Exact name of registrant as specified in its charter)
DELAWARE No. 04-3291176
(State of Incorporation) (IRS Employer Identification No.)
205 East 42nd Street, New York, New York 10017
(Address of principal executive offices) (Zip Code)
(212) 682-3300
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No ___
---
Number of shares of Common Stock outstanding at the latest practicable
date, October 31, 1997:
Class Outstanding Par Value Shares Outstanding
----------------- --------- ------------------
Common Stock............................... $.01 12,866,060
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1
MEDALLION FINANCIAL CORP.
FORM 10-Q
September 30, 1997
INDEX
Page
----
PART I. Financial Information
Item 1. Basis of Preparation ....................................................................... 3
Medallion Financial Corp. Consolidated Balance Sheets
as of December 31, 1996 and September 30, 1997..................................... 4
Medallion Financial Corp. Consolidated Statement of Operations
for the periods ended September 30, 1997 and 1996.................................. 5
Medallion Financial Corp. Consolidated Statement of
Changes in Stockholders' Equity for the nine months
ended September 30, 1997 .......................................................... 6
Medallion Financial Corp. Consolidated Statement of Cash Flows
for the periods ended September 30, 1997 and 1996.................................. 7
Notes to Consolidated Financial Statements............................................. 8
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations .................................................................. 13
General................................................................................ 13
Consolidated Results of Operations (for the three months
ended September 30, 1997 and 1996)................................................. 16
Consolidated Results of Operations (for the nine months
ended September 30, 1997).......................................................... 19
Asset/Liability Management............................................................. 22
Liquidity and Capital Resources........................................................ 24
Investment Considerations.............................................................. 25
PART II. Other Information
Item 6. Exhibits and Reports on Form 8-K............................................................ 28
Signatures ................................................................................... 29
2
PART I
FINANCIAL INFORMATION
ITEM 1. BASIS OF PREPARATION
Medallion Financial Corp. (the "Company") was incorporated in Delaware
in 1995 and commenced operations on May 30, 1996 in connection with the closing
of its initial public offering (the "Initial Offering") and simultaneous
acquisition (the "Acquisitions") of Medallion Funding Corp. ("MFC"), the assets
of Edwards Capital Company, Transportation Capital Corp. ("TCC") and Medallion
Taxi Media, Inc. ("Media"). Media and MFC were subsidiaries of Tri-Magna
Corporation ("Tri-Magna") which was merged into the Company. The Company's
acquisition of these businesses in connection with the Initial Offering and the
resulting two-tier structure were effected pursuant to an order of the
Securities and Exchange Commission (the "Commission") (Release No. I.C. 21969,
May 21, 1996) (the "Acquisition Order") and the approval of the U.S. Small
Business Administration (the "SBA"). A detailed description of the Company, MFC,
Edwards Capital Company, TCC and Media may be found in the Acquisition Order and
the Company's Registration Statement (the "Registration Statement") on Form N-2
(File No. 333-24877) filed in connection with the Company's recent follow-on
public offering which was declared effective on May 12, 1997 (the "Follow-on
Offering").
The financial information included in this report is divided into two
sections. The first section, Item 1, includes the unaudited consolidated balance
sheet of the Company as of September 30, 1997 and the related statements of
operations, changes in stockholders' equity and cash flows for the nine months
ending September 30, 1997. Item 1 also sets forth the audited consolidated
balance sheet of the Company as of December 31, 1996 and the related statements
of operations and cash flows for the period from May 30, 1996 through September
30, 1996. The second section, Item 2, consists of Management's Discussion and
Analysis of Financial Condition and Results of Operations and sets forth an
analysis of the financial information included in Item 1 for the three and nine
months ended September 30, 1997. All references to shares and per share amounts
in this report reflect a 12,500-for-one stock split effected on May 29, 1996.
The consolidated balance sheet of the Company as of September 30, 1997,
the related statements of operations, changes in stockholders' equity and cash
flows for the nine months ended September 30, 1997 and the related statements of
operations and cash flows for the period from May 30, 1996 through September 30,
1996 included in Item 1 have been prepared by the Company, without audit,
pursuant to the rules and regulations of the Commission. Certain information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to such rules and regulations. In the opinion of management,
the accompanying consolidated financial statements include all adjustments
(consisting of normal, recurring adjustments) necessary to summarize fairly the
Company's financial position and results of operations. The results of
operations for the three and nine months ended September 30, 1997 and the period
ended September 30, 1996 are not necessarily indicative of the results of
operations for the full year or any other interim period. These financial
statements should be read in conjunction with the financial statements and notes
thereto included in the Registration Statement.
3
MEDALLION FINANCIAL CORP.
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 1996 AND SEPTEMBER 30, 1997
December 31, September 30,
------------ -------------
1996 1997
----- ----
Assets (Unaudited)
Investments (Note 2)
Medallion loans $ 134,614,899 $ 192,017,079
Commercial installment loans 41,925,289 51,790,848
------------- -------------
Gross investments 176,540,188 243,807,927
Unrealized depreciation of investments (46,300) (71,300)
------------- -------------
Net investments 176,493,888 243,736,627
Investment in unconsolidated subsidiary (Note 3) 937,000 1,017,551
------------- -------------
Total investments 177,430,888 244,754,178
Cash 1,664,603 1,658,920
Accrued interest receivable 1,696,584 2,518,669
Fixed assets, net 89,815 127,338
Goodwill, net (Note 2) 6,250,636 5,935,456
Other assets 2,491,974 3,685,650
------------- -------------
Total assets $ 189,624,500 $ 258,680,211
============= =============
Liabilities
Accounts payable and accrued expenses $ 1,844,033 $ 2,356,053
Dividends payable 1,849,225 116,725
Accrued interest payable 1,086,247 1,372,277
Notes payable to banks and demand notes (Note 4) 96,450,000 90,875,000
SBA debentures payable (Note 4) 29,390,000 27,890,000
------------- -------------
Total liabilities 130,619,505 122,610,055
------------- -------------
Negative goodwill, net (Note 2) 2,517,716 1,975,916
------------- -------------
Commitments and contingencies (Note 6) -- --
Stockholders' equity (Note 1)
Preferred Stock (1,000,000 shares of $0.01 par
value stock authorized - none outstanding) -- --
Common stock (15,000,000 shares of $0.01 par
value stock authorized - 8,250,000 and 12,866,060
shares outstanding at December 31, 1996 and
September 30, 1997, respectively) 82,500 128,661
Capital in excess of par value 56,359,555 130,836,145
Accumulated undistributed income 45,224 3,129,434
------------- -------------
Total stockholders' equity 56,487,279 134,094,240
------------- -------------
Total liabilities and stockholders' equity $ 189,624,500 $ 258,680,211
============= =============
Fully diluted number of common shares 12,947,448
=============
Net asset value per share $10.35
======
See accompanying notes to unaudited consolidated financial statements.
4
MEDALLION FINANCIAL CORP.
CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE PERIODS ENDED SEPTEMBER 30, 1997 AND 1996
(Unaudited)
Period from
Three Months Three Months Nine Months May 30, 1996
Ended Ended Ended through
September 30, September 30, September 30, September 30,
1997 1996 1997 1996
---------------- ---------------- ---------------- ----------------
Investment income:
Interest income on $ 5,971,287 $ 4,255,203 $ 16,113,728 $ 5,618,718
investments
Interest income on treasury bills -- 8,419 28,326 37,603
------------ ------------ ------------ ------------
Total investment income 5,971,287 4,263,622 16,142,054 5,656,321
------------ ------------ ------------ ------------
Interest expense:
Notes payable to banks 1,385,984 1,537,102 4,844,742 2,044,738
SBA debentures 551,256 563,168 1,616,832 754,748
------------ ------------ ------------ ------------
Total interest expense 1,937,240 2,100,270 6,461,574 2,799,486
------------ ------------ ------------ ------------
Net interest income 4,034,047 2,163,352 9,680,480 2,856,835
------------ ------------ ------------ ------------
Non-interest income:
Equity in earnings (loss) of
unconsolidated subsidiary 47,749 (22,697) 80,551 6,241
Accretion of negative goodwill 180,600 180,615 541,800 244,984
Other income 265,999 233,948 703,980 291,822
------------ ------------ ------------ ------------
Total non-interest income 494,348 391,866 1,326,331 543,047
------------ ------------ ------------ ------------
Expenses:
Administrative and advisory fees 66,832 56,250 180,723 75,000
Professional fees 157,051 93,476 462,354 152,379
Salaries and benefits 412,784 348,233 1,040,673 446,172
Other operating expenses 444,401 433,266 1,411,385 524,012
Amortization of goodwill 105,060 101,612 315,180 136,632
------------ ------------ ------------ ------------
Total expenses 1,186,128 1,032,837 3,410,315 1,334,195
------------ ------------ ------------ ------------
Net investment income 3,342,267 1,522,381 7,596,496 2,065,687
Change in unrealized depreciation -- -- (25,000) --
Net realized gain on investments 127,783 25,889 154,714 25,889
------------ ------------ ------------ ------------
Net increase in net assets resulting
from operations $ 3,470,050 $ 1,548,270 $ 7,726,210 $ 2,091,576
============ ============ ============ ============
Net increase in net assets resulting from
operations per common share $ 0.27 $ 0.19 $ 0.73 $ 0.25
============ ============ ============ ============
Weighted average shares and common 12,912,842 8,250,000 10,555,726 8,250,000
share equivalents outstanding ============ ============ ============ ============
See accompanying notes to unaudited consolidated financial statements.
5
MEDALLION FINANCIAL CORP.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997
(Unaudited)
Shares of
Common Common Capital in Accumulated
Stock Stock $0.01 Excess of Undistributed
Outstanding Par Value Par Value Income
----------- --------- --------- -------------
Balance at December 31, 1996 8,250,000 $ 82,500 $ 56,359,555 $ 45,224
(Note 1)
Distributable net investment
income -- -- -- 1,799,336
------------ ------------ ------------ ------------
Balance at March 31, 1997 8,250,000 82,500 56,359,555 1,844,560
Distributable net investment -- -- -- 2,481,824
income
Dividends declared on common -- -- -- (1,815,000)
stock ($0.22 per share)
Change in net unrealized -- -- -- (25,000)
depreciation
Issuance of common stock under
offering (Note 1) 4,600,000 46,000 74,293,425 --
------------ ------------ ------------ ------------
Balance at June 30, 1997 12,850,000 128,500 130,652,980 2,486,384
Distributable net investment
income -- -- -- 3,470,050
Dividends declared on common
stock ($0.22 per share) -- -- -- (2,827,000)
Exercise of stock options 16,060 161 183,165 --
------------ ------------ ------------ ------------
Balance at September 30, 1997 12,866,060 $ 128,661 $130,836,145 $ 3,129,434
============ ============ ============ ============
See accompanying notes to unaudited consolidated financial statements.
6
MEDALLION FINANCIAL CORP.
CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE PERIODS ENDED SEPTEMBER 30, 1997 AND 1996
(Unaudited)
Period From
May 30, 1996
Nine Months Ended through
September 30, 1997 September 30, 1996
------------------ ------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net increase in net assets resulting from operations $ 7,726,210 $ 2,091,576
Adjustments to reconcile net increase in net assets resulting from operations
to net cash provided by (used for) operating activities:
Depreciation and amortization 38,815 7,000
Increase in equity in earnings of unconsolidated subsidiary (80,551) (6,241)
Amortization of goodwill 315,180 136,632
Increase in unrealized depreciation 25,000 --
Increase in accrued interest receivable (822,085) (158,933)
Increase in other assets (1,217,674) (1,879,649)
Increase (decrease) in accounts payable and accrued expenses 512,020 308,722
Accretion of negative goodwill (541,800) (244,984)
Increase (decrease) in accrued interest payable 286,030 (451,501)
------------- -------------
Net cash provided by (used for) operating activities 6,241,145 (197,378)
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Increase in investments (116,661,432) (28,611,154)
Proceeds from sales and maturities of investments 67,625,821 16,249,803
Repurchase of loan participations (18,232,128) --
Payment for purchase of Tri-Magna, net -- (11,848,283)
Payment for purchase of Edwards -- (15,624,995)
Payment for purchase of TCC, net -- (3,748,576)
Capital expenditures (52,340) (80,119)
------------- -------------
Net cash used for investing activities (67,320,079) (43,663,324)
------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of notes payable to banks, net (5,575,000) (9,100,000)
Repayment of SBA debentures (1,500,000) (1,200,000)
Proceeds from public offerings, net of expenses 74,339,425 56,147,056
Proceeds from exercise of stock options 183,326 --
Payment of declared dividends to current stockholders (6,374,500) (542,012)
------------- -------------
Net cash provided by financing activities 61,073,251 45,305,044
------------- -------------
NET INCREASE (DECREASE) IN CASH (5,683) 1,444,342
CASH beginning of period 1,664,603 2,000
------------- -------------
CASH end of period $ 1,658,920 $ 1,446,342
============= =============
SUPPLEMENTAL INFORMATION:
Cash paid during the period for interest $ 6,175,544 $ 3,308,336
============= =============
See accompanying notes to unaudited consolidated financial statements
7
MEDALLION FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(unaudited)
(1) Organization and Structure of Medallion Financial Corp.
The Company is a closed-end management investment company organized as
a Delaware corporation in 1995. The Company has elected to be regulated as a
business development company under the Investment Company Act of 1940, as
amended (the "1940 Act"). On May 29, 1996, the Company completed an initial
public offering (the "Initial Offering") of its common stock, issued and sold
5,750,000 shares at $11.00 per share and split the existing 200 shares of common
stock outstanding into 2,500,000 shares. All share and related amounts in the
accompanying financial statements have been restated to reflect this stock
split. Offering costs incurred by the Company in connection with the sale of
shares totaling $7,102,944 were recorded as a reduction of capital upon
completion of the Initial Offering. These costs were recorded, net of $200,000
payable between the Company and Tri-Magna in accordance with the merger
agreement between the Company and Tri-Magna. In parallel with the Initial
Offering, the Company completed the Acquisitions in which the Company merged
with Tri-Magna; acquired substantially all of the assets and assumed certain
liabilities of Edwards Capital Company, a limited partnership; and acquired all
of the outstanding voting stock of TCC. The assets acquired and liabilities
assumed from Edwards Capital Company, were acquired and assumed by Edwards
Capital Corporation ("Edwards"), a newly formed and wholly-owned subsidiary of
the Company. As a result of the merger with Tri-Magna in accordance with the
Merger Agreement dated December 21, 1995 between the Company and Tri-Magna, MFC
and Media, formerly subsidiaries of Tri-Magna, became wholly-owned subsidiaries
of the Company. In connection with the Acquisitions, the Company applied for and
received the Acquisition Order under the 1940 Act from the Securities and
Exchange Commission. The Company also received approval from the SBA for these
transactions.
MFC, Edwards and TCC are closed-end management investment companies
registered under the 1940 Act and are each licensed as a small business
investment company ("SBIC") by the SBA. As an adjunct to the Company's taxicab
medallion finance business, Media operates a taxicab rooftop advertising
business. Effective January 1, 1997, the Company decided to merge all of the
assets and liabilities of Edwards and TCC into MFC subject to the approval of
the SBA. The Company expects to complete the merger by the end of the fourth
quarter of 1997.
On May 16, 1997, the Company completed the Follow-on Offering and sold
4,600,000 shares at $17.25 per share. Offering costs incurred by the Company in
connection with the sale of shares totaling $5,010,575 were recorded as a
reduction of capital upon completion of the Follow-on Offering.
(2) Summary of Significant Accounting Policies
The Acquisitions were accounted for under the purchase method of
accounting. Under this accounting method, the Company has recorded as its cost
the fair value of the acquired assets and assumed liabilities. The difference
between the cost of acquired companies and the sum of the fair values of
tangible and identifiable intangible assets less liabilities assumed was
recorded as goodwill or negative goodwill.
8
Deferred offering costs incurred by the Company in connection with the
sale of shares were recorded as a reduction of capital upon completion of the
Initial Offering. These costs were recorded net of $200,000 payable by Tri-Magna
in accordance with the merger agreement between the Company and Tri-Magna.
Under the 1940 Act and the Small Business Investment Act of 1958 and
regulations thereunder (the "SBIA"), the Company's long-term loans are
considered investments and are recorded at their fair value. Since no ready
market exists for these loans, fair value is determined by the Board of
Directors in good faith. In determining fair value, the Company and the Board of
Directors take into consideration factors including the financial condition of
the borrower, the adequacy of the collateral, and the relationships between
market interest rates and portfolio interest rates and maturities. Loans are
valued at cost less unrealized depreciation. Any change in the fair value of the
Company's investments as determined by the Board of Directors is reflected in
net unrealized depreciation of investments. Total unrealized depreciation was
$1,568,717 and $1,593,717 on total investments of $176,493,888 and $243,736,627
at December 31, 1996 and September 30, 1997, respectively, of which $1,522,417
existed at the date of the Acquisitions. The Board of Directors have determined
that this valuation approximates fair value.
Net increase in net assets resulting from operations per share is
computed using the weighted average number of shares of common stock and common
stock equivalents outstanding. Common stock equivalents consist primarily of
dilutive outstanding stock options computed under the treasury stock method.
On March 3, 1997, the Financial Accounting Standards Board ("FASB")
issued SFAS No. 128, "Earnings Per Share." This statement establishes standards
for the computation and presentation of earnings per share and applies to
entities with publicly held common stock or potential common stock. This
statement, which supersedes APB Opinion No. 15, is effective for financial
statements for both interim and annual periods ending after December 15, 1997.
Early adoption is not permitted. This statement when adopted, will require the
restatement of all prior-period earnings per share data presented. Management
expects that the adoption of this new statement will not have a material impact
on the Company's previously disclosed earnings per share.
(3) Investment in Unconsolidated Subsidiary
The Company's investment in Media is accounted for under the equity
method because as a non-investment company, Media cannot be consolidated with
the Company which is an investment company under the 1940 Act. Financial
information presented for Media includes the balance sheet as of December 31,
1996 and September 30, 1997 and unaudited statement of operations for the three
and nine months ended September 30, 1997, the three months ended September 30,
1996 and the period from May 30, 1996 through September 30, 1996:
Balance Sheet December 31, 1996 September 30, 1997
------------- ----------------- ------------------
(unaudited)
Cash $ 79,827 $ -
Accounts receivable 307,303 576,278
Equipment, net 976,442 1,444,268
Other 330,839 356,896
---------- ----------
Total assets $1,694,411 $2,377,442
========== ==========
9
Notes payable to parent $ 584,566 $ 951,066
Accrued expenses 64,516 300,496
---------- -----------
Total liabilities 649,082 1,251,562
---------- -----------
Equity 1,001,000 1,001,000
Retained earnings 44,329 124,880
---------- -----------
Total equity 1,045,329 1,125,880
---------- -----------
Total liabilities and
shareholders' equity $1,694,411 $2,377,442
========== ==========
Period from
Three Months Three Months Nine Months May 30, 1996
Ended Ended Ended through
September 30, September 30, September 30, September 30,
Statement of Operations 1997 1996 1997 1996
- --------------------------- ----------------- ----------------- ----------------- -----------------
Advertising revenue $ 725,766 $ 452,943 $1,716,926 $ 604,196
Cost of service 273,812 215,846 690,385 261,274
---------- ---------- ---------- ----------
Gross margin 451,954 237,097 1,026,541 342,922
Other operating expenses 379,205 272,295 920,990 334,181
---------- ---------- ---------- ----------
Income (loss) before taxes 72,749 (35,197) 105,551 8,741
Income taxes 25,000 (12,500) 25,000 2,500
---------- ---------- ---------- ----------
Net Income (loss) $ 47,749 $ (22,697) $ 80,551 $ 6,241
========== ========== ========== ==========
On March 6, 1997, Media entered into a five-year agreement with the
Metropolitan Taxi Board of Trade, Inc. ("MTBOT") to provide rooftop advertising
on New York City taxicabs affiliated with the MTBOT commencing on September 22,
1997.
10
(4) Debt
The table below summarizes the various debt agreements the Company had
outstanding at December 31, 1996 and September 30, 1997:
December 31, 1996 September 30, 1997
----------------- ------------------
Notes payable to banks:
Total facilities $107,000,000 $144,500,000
Maturity of facilities 4/97-12/97 10/97-6/99
Total amounts outstanding $ 96,450,000 $ 90,875,000
============ ============
SBA debentures payable $ 29,390,000 $ 27,890,000
============ ============
Maturity 4/97-9/04 6/98-9/04
Under the revolving credit agreement between MFC and its lenders, as
amended, MFC is required to maintain minimum tangible net assets of $45,000,000
and certain financial ratios. The Company believes that MFC was in compliance
with such requirements at September 30, 1997.
(5) Pro Forma Results of Operations
The unaudited pro forma combined financial information for the nine
months ended September 30, 1996 is presented as follows assuming the formation
of the Company and the Acquisitions described in Note 1 occurred on January 1,
1996:
Nine Months Ended
September 30, 1996
------------------
Investment income $ 12,224,362
Net investment income $ 6,473,256
Net increase in net assets
resulting from operations $ 4,547,665
Earnings per share $ 0.55
Pro forma weighted average
shares outstanding 8,250,000
11
(6) Subsequent Events
On October 31, 1997, the Company consummated the purchase of
substantially all of the assets and liabilities of Business Lenders, Inc.
through the Company's wholly-owned subsidiary, BLI Acquisition Co., LLC. In
connection with the transaction BLI Acquisition Co., LLC was renamed Business
Lenders, LLC. The acquisition will be accounted for under the purchase method of
accounting and the purchase price paid to Business Lenders, Inc. at the closing
was $1,279,522 in cash plus $1,700,000 in repayment of subordinated debt. These
amounts are based on the September 30, 1997 net book value and are subject to
final adjustment based on the audited balance sheet at October 31, 1997. BLI
Acquisition Co., LLC also assumed approximately $12,500,000 of debt. The balance
of the purchase price is payable pursuant to an earn-out provision based on a
multiple of net after tax earnings over the next 3 years and could result in a
maximum payment of (i) $700,000 during the three months following October 31,
1999 and (ii) $13,450,000, less the amount of cash paid in respect of the net
book value at October 31, 1997, during the three months following October 31,
2000.
On November 5, 1997, MFC declared a dividend payable to the Company in
the amount of $275 per share payable on November 17, 1997 (aggregating
$1,831,225), Edwards declared a dividend payable to the Company in the amount of
$9,000 per share payable on November 17, 1997 (aggregating $900,000) and TCC
declared a dividend payable to the Company in the amount of $3,000 per share
payable on November 17, 1997 (aggregating $300,000). With the proceeds of these
dividends, on November 5, 1997 the Company declared a dividend in the amount of
$0.24 per share (aggregating $3,087,854) payable on December 1, 1997 to the
stockholders of record on November 17, 1997.
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The information contained in this section should be read in conjunction
with the Consolidated Financial Statements and Notes thereto appearing in this
Report on Form 10-Q. In addition, this Management's Discussion and Analysis
contains forward-looking statements. These forward-looking statements are
subject to the inherent uncertainties in predicting future results and
conditions. Certain factors that could cause actual results and conditions to
differ materially from those projected in these forward-looking statements are
set forth below in the Investment Considerations section.
General
The Company's principal activity is the origination and servicing of
loans secured by taxicab medallions ("Medallion Loans") and loans to small
businesses secured by equipment and other suitable collateral ("Commercial
Installment Loans"). The earnings of the Company depend primarily on its level
of net interest income, which is the difference between interest earned on
interest-earning assets consisting primarily of Medallion Loans and Commercial
Installment Loans, and the interest paid on interest-bearing liabilities
consisting primarily of credit facilities with bank syndicates and subordinated
debentures issued to or guaranteed by the SBA. Net interest income is a function
of the net interest rate spread, which is the difference between the average
yield earned on interest-earning assets and the average interest rate paid on
interest-bearing liabilities, as well as the average balance of interest-earning
assets as compared to interest-bearing liabilities. Net interest income is
affected by economic, regulatory and competitive factors that influence interest
rates, loan demand and the availability of funding to finance the Company's
lending activities. The Company, like other financial institutions, is subject
to interest rate risk to the degree that its interest-earning assets reprice on
a different basis than its interest-bearing liabilities.
On May 12, 1997, the Company's Registration Statement on Form N-2 was
declared effective and the Company executed an underwriting agreement with
certain underwriters providing for the public offering of 4,600,000 shares of
the Company's Common Stock at a price to the public of $17.25 per share. The
Follow-on Offering closed on May 16, 1997. The net proceeds to the Company from
the offering, after deducting underwriting discounts and other offering expenses
payable by the Company of $5.0 million was $74.3 million. The Company used the
net proceeds to increase its loan portfolio, to repurchase loan participations
that the Company previously sold to third parties and to reduce short-term LIBOR
based debt.
Trend in Loan Portfolio Yield. The Company's investment income is
driven by the principal amount of and yields on Medallion Loans and Commercial
Installment Loans. The following table illustrates the Company's weighted
average portfolio yield at the dates indicated:
13
December 31, 1996 September 30, 1997
----------------- ------------------
Weighted Percentage Weighted Percentage
Average Principal of Total Average Principal of Total
Yield Amounts Portfolio Yield Amounts Portfolio
-----------------------------------------------------------------------------------------
Medallion Loan Portfolio 9.92% $134,614,899 76.3% 9.38% $192,017,079 78.8%
Commercial Installment
Loan Portfolio 13.51% 41,925,289 23.7% 13.28% 51,790,848 21.2%
------ ------------ ------ ------ ------------ ------
Total Portfolio 10.80% $176,540,188 100.0% 10.21% $243,807,927 100.0%
====== ============ ====== ====== ============ ======
The weighted average yield e.o.p. of the Medallion Loan portfolio
decreased 54 basis points from 9.92% at December 31, 1996 to 9.38% at September
30, 1997. Medallion Loans constituted 76.3% of the total portfolio of $176.5
million at December 31, 1996 and 78.8% of the total portfolio of $243.8 million
at September 30, 1997. The yields on the Company's Medallion Loans have been in
a long-term decline. For the nine months ended September 30, 1997, the weighted
average yield of the Medallion Loan portfolio has declined as the Company has
increased the percentage of its Medallion Loan originations which are made to
owners of large taxicab fleets. Such loans reprice more frequently than other
Medallion Loans in the Company's portfolio, thereby reducing the Company's
interest rate risk exposure. In addition, using a portion of the proceeds of the
Follow-on Offering, the Company has repurchased approximately $18.2 million in
such Medallion Loans to large taxicab fleet owners which the Company had
previously participated out to other lenders. The weighted average yield e.o.p.
of the Commercial Installment Loan portfolio decreased 23 basis points from
13.51% at December 31, 1996 to 13.28% at September 30, 1997. As a result of the
decline in the Medallion Loan portfolio yield, coupled with a decline in the
Commercial Installment Loan portfolio yield, the weighted average yield e.o.p.
of the entire portfolio decreased 59 basis points from 10.80% at December 31,
1996 to 10.21% at September 30, 1997.
The decrease in the average yield of the entire portfolio has been
offset in part by the strong growth in the total loan portfolio during the year,
including growth in the Company's portfolio of Commercial Installment Loans,
which historically have been originated at a yield of approximately 350 basis
points higher than Medallion Loans and 500 to 700 basis points higher than the
prevailing Prime Rate. Although the Company has followed a strategy of trying to
shift its portfolio mix towards higher yielding Commercial Installment Loans and
intends to continue to pursue this strategy, this shift was reversed during the
third quarter by higher than expected growth in the Medallion Loan Portfolio
during the period. The percentage of Commercial Installment Loans to the total
portfolio decreased slightly from 23.7%, or $41.9 million, at December 31, 1996
to 21.2%, or $51.8 million at September 30, 1997. The Company intends to try and
continue to increase the percentage of Commercial Installment Loans in the total
portfolio.
Trend in Interest Expense. The Company's interest expense is driven by
the interest rate payable on the Company's LIBOR-based short-term credit
facilities with bank syndicates and, to a lesser degree, fixed-rate, long-term
subordinated debentures issued to or guaranteed by the SBA. In recent years, the
Company has reduced its reliance on SBA financing and increased the relative
proportion of bank debt to total liabilities. SBA financing can offer very
attractive rates, but such financing is restricted in its application and its
availability is uncertain. In addition, SBA financing subjects its recipients to
limits on the amount of secured bank debt they may incur. Accordingly, the
Company plans to continue to limit its use of SBA funding and will seek such
funding only when advantageous, such as when SBA financing rates are
particularly attractive, and to fund loans that
14
qualify under the SBIA and SBA regulations through subsidiaries already subject
to SBA restrictions. The Company believes that its transition to financing its
operations primarily with short-term LIBOR-based bank debt has generally
decreased its interest expense thus far, but has also increased the Company's
exposure to the risk of increases in market interest rates which the Company
attempts to mitigate with certain matching strategies. The Company also expects
that net interest income should increase because bank debt is more readily
available than SBA financing and will thus permit an increase in the size of the
loan portfolio. At December 31, 1996 and September 30, 1997, short-term LIBOR-
based debt constituted 75.1% and 74.2% of total indebtedness, respectively. On
March 26, 1997, the Federal Reserve System increased the federal-funds interest
rate by 25 basis points and, as a result, the prevailing Prime Rate has
increased by 25 basis points. If these increases lead to a trend of higher
interest rates, net interest rate spread could decline at least until the
Company is able to originate new loans at the higher prevailing interest rates.
The Company's cost of funds is primarily driven by (i) the average
maturity of debt issued by the Company, (ii) the premium to LIBOR paid by the
Company on its LIBOR-based debt, and (iii) the ratio of LIBOR-based debt to SBA
financing. The Company incurs LIBOR-based debt for terms generally ranging from
30-180 days. The Company's subordinated debentures issued to or guaranteed by
the SBA typically have terms of ten years. The Company's cost of funds reflects
fluctuations in LIBOR to a greater degree than in the past because LIBOR-based
debt has come to represent a greater proportion of the Company's debt. The
Company measures its cost of funds as its aggregate interest expense for all of
its interest-bearing liabilities divided by the face amount of such liabilities.
The Company analyzes its cost of funds in relation to the average of the 90- and
180-day LIBOR (the "LIBOR Benchmark"). The Company's average cost of funds
e.o.p. increased slightly from 7.11% or 153 basis points over the LIBOR
Benchmark of 5.58% at December 31, 1996 to 7.13%, or 133 basis points over the
LIBOR Benchmark of 5.80% at September 30, 1997. The increase in the Company's
average cost of funds e.o.p. resulted primarily from the increase in the LIBOR
benchmark of 22 basis points offset by a decrease in the premium over LIBOR that
the banks charge the Company.
Taxicab Rooftop Advertising. In connection with its Medallion Loan
finance business, the Company also conducts a taxicab rooftop advertising
business through Media. Media's revenue is affected by the number of taxicab
rooftop advertising displays ("Displays") that it owns and the occupancy rate
and advertising rate of those Displays. At September 30, 1997, Media had
approximately 3,625 installed Displays. On March 6, 1997 Media entered into a
five year agreement with the MTBOT to provide advertising on New York City
taxicabs affiliated with the MTBOT which commenced on September 22, 1997. With
this agreement, Media is the leading taxicab rooftop advertiser in New York
City. The Company expects that Media will continue to expand its operations.
Although Media is a wholly-owned subsidiary of the Company, its results of
operations are not consolidated with the Company because Securities and Exchange
Commission regulations prohibit the consolidation of non-investment companies,
such as Media, with investment companies, such as the Company.
Factors Affecting Net Assets. Factors which affect the Company's net
assets include net realized gain/loss on investments and change in net
unrealized depreciation of investments. Net realized gain/loss on investments is
the difference between the proceeds derived upon foreclosure of a loan and the
cost basis of such loan. Change in net unrealized depreciation of investments is
the amount, if any, by which the Company's Board of Directors estimate of the
fair market value of its loan portfolio is below the cost basis of the loan
portfolio. Under the 1940 Act and the SBIA, the Company's loan portfolio must be
recorded at fair market value or "marked to market." Unlike certain lending
institutions, the Company is not permitted to establish reserves for loan
losses, but
15
adjusts quarterly the valuation of its loan portfolio to reflect the Company's
estimate of the current realizable value of the loan portfolio. Since no ready
market exists for the Company's loans, fair market value is subject to the good
faith determination of the Company. In determining such value, the Company takes
into consideration factors such as the financial condition of its borrowers and
the adequacy of the collateral. Any change in the fair value of portfolio loans
as determined by the Company is reflected in net unrealized depreciation of
investments and affects net increase in net assets resulting from operations but
has no impact on net investment income or distributable income. Therefore, if
the latest increases in prevailing interest rates lead to a trend of higher
interest rates, net increase in net assets resulting from operations could
decline. Upon the completion of the Acquisitions on May 29, 1996, the Company's
loan portfolio was recorded on the balance sheet at fair market value, which
included $1.5 million of net unrealized depreciation, as estimated by the
Company in accordance with the 1940 Act and the purchase method of accounting.
From December 31, 1996 through September 30, 1997, net unrealized depreciation
of investments increased by $25,000.
Recent Commencement of Operations. The Company commenced operations in
connection with the simultaneous closing of the Initial Offering and the
Acquisitions on May 29, 1996. Prior to that date, the Company had no results of
operations and each of Tri-Magna, Edwards and TCC had been operating
independently of each other. The following discussion under the caption
"Consolidated Results of Operations" sets forth an analysis of the Company's
actual results of operations and assets and liabilities for the three and nine
month periods ended September 30, 1997. All period percentages involving income
statement accounts have been annualized for discussion purposes.
Consolidated Results of Operations
For the Three Months Ended September 30, 1996 and September 30, 1997.
Performance Summary. For the three months ended September 30, 1997, net
investment income has been positively impacted by the strong growth of the
Medallion Loan Portfolio and reduced interest expense. Interest expense for the
period was lower due to reduced short-term debt outstanding as well as a
reduction in the spread over LIBOR on the Company's revolving credit facilities
offset by a slight increase in the LIBOR benchmark e.o.p. of 8 basis points.
Strong portfolio growth was offset by the decline in spread between the average
yield on the entire portfolio and average costs of funds.
Investment Income. Investment income increased $1.7 million or 40.3%
from $4.3 million for the three months ended September 30, 1996 to $6.0 million
for the three months ended September 30, 1997. The Company's investment income
reflects the positive impact of portfolio growth during the three months ended
September 30, 1997. Total portfolio growth was $5.7 million or 3.6% from $156.2
million at June 30, 1996 to $161.8 million at September 30, 1996 compared to
$28.8 million or 13.4% from $215.0 million at June 30, 1997 to $243.8 million at
September 30, 1997. The average portfolio outstanding was $159.0 million, for
the three month period ended September 30, 1996, which produced investment
income of $4.3 million at a weighted average interest rate of 10.82% compared to
an average of $229.4 million for the three-month period ended September 30,
1997, which produced investment income of $6.0 million at a weighted average
interest rate of 10.41%.
Gross loan originations net of participations increased by $23.1
million or 131.3% from $17.6 million for the three-month period ended September
30, 1996 to $40.7 million for the three-
16
month period ended September 30, 1997. The originations were offset by
prepayments, terminations and refinancings by the Company aggregating $21.2
million for the three month period ended September 30, 1996 compared to $12.0
million for the three month period ended September 30, 1997. Average yield
e.o.p. of the entire portfolio decreased 49 basis points from 10.70% at
September 30, 1996 to 10.21% at September 30, 1997. The decrease in the yield of
the entire loan portfolio was caused by a decrease in the average yield on
Medallion Loans, coupled with a decrease in the average yield on Commercial
Installment Loans and a decrease in the percentage of the portfolio composed of
higher yielding Commercial Installment Loans which historically have been
originated at a yield of approximately 350 basis points higher than Medallion
Loans and 500 to 700 basis points higher than the prevailing Prime Rate. The
average yield e.o.p. of the Medallion Loan portfolio decreased 47 basis points
from 9.85% at September 30, 1996 to 9.38% at September 30, 1997 and the average
yield of the Commercial Installment Loan portfolio decreased 21 basis points
from 13.49% at September 30, 1996 to 13.28% at September 30, 1997. The decrease
in the average yield on Medallion Loans was caused by the reduction of loan
yields at Edwards and MFC, which have increased the percentage of their
Medallion Loan originations which are made to owners of large taxicab fleets.
Such loans reprice more frequently than other Medallion Loans in the Company's
portfolio, thereby reducing the Company's interest rate risk exposure. Moreover,
certain of the loans that the Company originates to large fleet owners are
participated out to other lenders and the Company earns a servicing fee on such
participations. The decrease in the average yield on the Commercial Installment
Loan portfolio was due primarily to an increase in competition and the overall
market trend of lower long-term interest rates. The decrease in average yield
e.o.p. of the entire loan portfolio was offset in part by the strong growth in
the Medallion Loan portfolio during the period. The percentage of the portfolio
composed of Commercial Installment Loans decreased from 22.7% at September 30,
1996 to 21.2% at September 30, 1997. Although the Company continues to try and
shift its portfolio mix towards higher yielding Commercial Installment Loans,
this shift was impacted by higher than expected growth in the Medallion Loan
portfolio during the period. The additional growth was due in part to the
Company's use of a portion of the proceeds from the Follow-on Offering to
repurchase approximately $6.8 million in Medallion Loans to large taxicab fleet
owners which the Company had previously participated out to other lenders.
Interest Expense. The Company's interest expense decreased $163,000 or
7.8% from $2.1 million for the three months ended September 30, 1996 to $1.9
million for the three months ended September 30, 1997. The Company's average
cost of funds e.o.p. increased slightly from 7.12% or 140 basis points over the
LIBOR benchmark of 5.72% at September 30, 1996 to 7.13% or 133 basis points over
the LIBOR benchmark of 5.80% at September 30, 1997. The increase in the average
cost of funds e.o.p. was caused by an 8 basis point increase in the LIBOR
benchmark offset by a reduction in the premium to LIBOR paid by the Company.
Average borrowings decreased $5.8 million or 5.3% from $110.6 million for the
three months ended September 30, 1996, which produced an interest expense of
$2.1 million at a weighted average interest rate of 7.61% to $104.6 million for
the three months ended September 30, 1997 which produced an interest expense of
$1.9 million at a weighted average interest rate of 7.41%. The reduction in the
weighted average interest rates reflects the reduction in the spread over LIBOR
that the Company pays. The weighted average interest rates include commitment
fees and amortization of premiums on existing interest rate cap agreements as a
reflection of total cost of funds borrowed. The percentage of the Company's
short-term LIBOR based indebtedness increased as a percentage of total
indebtedness from 69.9% at September 30, 1996 to 74.2% at September 30, 1997.
Net Interest Income. Net interest income increased $1.8 million or
86.5% from $2.2 million for the three months ended September 30, 1996 to $4.0
million for the three months ended September 30, 1997. Net interest income
reflects the positive impact of the portfolio growth during
17
the three months ended September 30, 1997 offset by a decrease in the spread
between average yield and average cost of funds. The average spread between the
average yield on the portfolio and the average cost of funds decreased 21 basis
points or 6.5% from 3.21% for the three-month period ended September 30, 1996 to
3.0% for the three-month period ended September 30, 1997.
Equity in Earnings of Unconsolidated Subsidiary. Advertising revenue
increased $273,000 or 60.3% from $453,000 for the three months ended September
30, 1996 to $726,000 for the three months ended September 30, 1997. Display
rental costs increased $58,000 or 27.0% from $216,000 for the three months ended
September 30, 1996 to $274,000 for the three months ended September 30, 1997.
This resulted in a gross margin of approximately $237,000 or 52.3% of
advertising revenue for the three months ended September 30, 1996 compared to
$452,000 or 62.3% for the three months ended September 30, 1997. The number of
Displays owned by Media increased 1,505 or 71.0% from 2,120 at September 30,
1996 to 3,625 at September 30, 1997. Operating costs increased $107,000 or 39.3%
from $272,000 for the three months ended September 30, 1996 to $379,000 for the
three months ended September 30, 1997. Media generated an net operating loss of
$23,000 for the three-month period ended September 30, 1996 compared to net
income of $48,000 for the three-month period ended September 30, 1997, which is
recorded as equity in earnings or losses of unconsolidated subsidiary on the
Company's statement of operations as a result of increases in the number of
Displays owned and occupancy rates. Display occupancy increased from 87.8% for
the three months ended September 30, 1996 to 97.9% for the three months ended
September 30 1997.
Other Income. The Company's other income increased $32,000 or 13.7%
from $234,000 for the three months ended September 30, 1996 to $266,000 for the
three months ended September 30, 1997. Other income was primarily derived from
late charges, prepayment fees and miscellaneous income. Prepayment fees are
heavily influenced by the level and volatility of interest rates and
competition.
Non-Interest Expenses. The Company's non-interest expenses increased
$153,000 or 14.8% from $1,033,000 for the three months ended September 30, 1996
to $1,186,000 for the three months ended September 30, 1997. Other operating
expenses increased $11,000 or 2.5% from $433,000 for the three months ended
September 30, 1996 to $444,000 for the three months ended September 30, 1997.
Salaries and benefits increased $65,000 or 18.7% from $348,000 for the three
months ended September 30, 1996 to $413,000 for the three months ended September
30, 1997. Professional fees increased $64,000 or 68.8% from $93,000 for the
three months ended September 30, 1996 to $157,000 for the three months ended
September 30, 1997. Investment advisory fees increased $11,000 or 19.6% from
$56,000 for the three months ended September 30, 1996 to $67,000 for the three
months ended September 30, 1997. The operating expense ratio decreased to 2.06%
for the three-month period ended September 30, 1997 from 2.30% for the three-
month period ended September 30, 1996, on an annualized basis. The Company
believes that operating expenses as a percentage of average assets will continue
to decline as the loan portfolio increases due to economies of scale.
Amortization of Goodwill and Accretion of Negative Goodwill. The
amortization of goodwill was $102,000 for the three months ended September 30,
1996 and $105,000 for the three months ended September 30, 1997, and relates to
$6.5 million of goodwill generated in the acquisitions of Edwards and TCC.
Goodwill is the amount by which the cost of acquired businesses exceeds the fair
value of the net assets acquired. Goodwill is being amortized on a straight-line
basis over 15 years. Negative goodwill is the excess of fair market value of net
assets of an acquired business over the cost basis of such business. Negative
goodwill of $2.9 million was generated in
18
the acquisition of Tri-Magna and is being amortized on a straight-line basis
over four years.
Net Realized Gain/Loss on Investments. The Company had an increase in
realized net gain on investments of $102,000 from $26,000 for the three months
ended September 30, 1996 to $128,000 for the three months ended September 30,
1997. The majority of the increase resulted from the gain on the valuation of a
warrant issued by a radio station of $250,000 which was subsequently sold,
offset by write-offs of certain uncollectible equipment secured loans totaling
$125,000.
Net Investment Income. Net investment income earned increased $1,820,000 or
119.5% from $1,522,000 for the three-month period ended September 30, 1996 to
$3,342,000 for the three months ended September 30, 1997. The increase was
attributable to the positive impact of portfolio growth offset by a decrease in
the spread between average yield and average cost of funds.
Net Increase in Net Assets Resulting from Operations. Net increase in
net assets resulting from operations increased $1,922,000 or 124.2% from
$1,548,000 for the three months ended September 30, 1996 to $3,470,000 for the
three months ended September 30, 1997. The increase was attributable to the
positive impact of portfolio growth offset by a decrease in the spread between
average yield and average cost of funds. Return on assets and return on equity
for the three months ended September 30, 1997, on an annualized basis, were 6.3%
and 10.9%, respectively, compared to 3.6% and 10.8% for the three months ended
September 30, 1996.
Consolidated Results of Operations
For the Nine Months Ended September 30, 1997.
Performance Summary. For the nine months ended September 30, 1997,
investment income has been positively impacted by the strong growth of the
entire loan portfolio. Interest expense for the period reflected an increase in
the LIBOR benchmark e.o.p. of 22 basis points, slightly offset by the repayment
of amounts outstanding under the Company's revolving credit facilities. Strong
portfolio growth offset by the decline in spread between the average yield on
the entire portfolio and the average of costs of funds contributed to the $7.6
million of net investment income earned during the period.
Investment Income. Investment income for the nine months ended
September 30, 1997 was $16.1 million. The Company's investment income reflects
the positive impact of portfolio growth during the period. Total portfolio
growth was $67.3 million or an increase of 38.1% from $176.5 million at December
31, 1996 to $243.8 million at September 30, 1997. The average portfolio
outstanding during the nine-month period ended September 30, 1997 was $204.9
million which produced investment income of $16.1 million at a weighted average
interest rate of 10.50%.
Gross loan originations net of participations during the nine-month
period ended September 30, 1997 was $116.7 million offset by prepayments,
terminations and refinancings by the Company aggregating $67.6 million. In
addition, during the nine-month period ended September 30, 1997, the Company
repurchased approximately $18.2 million in Medallion Loans previously
participated out to other lenders. Average yield e.o.p. of the entire portfolio
decreased 59 basis points from 10.80% at December 31, 1996 to 10.21% at
September 30, 1997. The decrease in the yield of the entire loan portfolio was
caused by a decrease in the average yield on Medallion Loans coupled with a
decrease in the average yield on Commercial Installment Loans and a decrease in
the percentage of the portfolio composed of higher yielding Commercial
Installment Loans which historically have been originated at a yield of
approximately 350 basis points higher than Medallion Loans and 500 to 700 basis
points higher than the prevailing Prime Rate. The average yield e.o.p. of the
Medallion Loan portfolio decreased 54 basis points from 9.92% at December 31,
1996 to 9.38% at September
19
30, 1997 and the average yield of the Commercial Installment Loan portfolio
decreased 23 basis points from 13.51% at December 31, 1996 to 13.28% at
September 30, 1997. The decrease in the average yield on Medallion Loans was
caused by a reduction in loan yields at Edwards and MFC, which have increased
the percentage of their Medallion Loan originations which are made to owners of
large taxicab fleets. Such loans reprice more frequently than other Medallion
Loans in the Company's portfolio, thereby reducing the Company's interest rate
risk exposure. Moreover, certain of the loans that the Company originates to
large fleet owners are participated out to other lenders and the Company earns a
servicing fee on such participations. The decrease in the average yield on the
Commercial Installment Loan portfolio was due primarily to an increase in
competition and the overall market trend of lower long-term interest rates. The
percentage of the portfolio composed of higher yielding Commercial Installment
Loans decreased from 23.7% at December 31, 1996 to 21.2% at September 30, 1997.
Although the Company continues to follow a strategy of trying to shift its
portfolio mix towards higher yielding Commercial Installment Loans, this shift
was reversed by higher than expected growth in the Medallion Loan portfolio
during the period. The additional growth in the Medallion Loan portfolio was due
in part to the Company's use of a portion of the proceeds from the Follow-on
Offering to repurchase approximately $18.2 million in Medallion Loans to large
taxicab fleet owners which the Company had previously participated out to other
lenders.
Interest Expense. The Company's interest expense was $6.5 million for
the nine months ended September 30, 1997. The Company's average cost of funds
e.o.p. increased from 7.11% or 153 basis points over the LIBOR benchmark of
5.58% at December 31, 1996 to 7.13% or 133 basis points over the LIBOR benchmark
of 5.80% at September 30, 1997. The increase in the average cost of funds e.o.p.
was caused by a 22 basis point increase in the LIBOR benchmark offset by a
reduction in the premium to LIBOR paid by the Company. The Company's net
borrowings at the end of the period, however, decreased by $7.0 million or 5.5%
from $125.8 million at December 31, 1996 to $118.8 million at September 30,
1997. The decreased borrowings were the result of the use of proceeds from the
Follow-on Offering to reduce short-term LIBOR based debt. The percentage of the
Company's short-term LIBOR based indebtedness decreased as a percentage of total
indebtedness from 74.9% at December 31, 1996 to 74.2% at September 30, 1997.
Average borrowings during the nine months ended September 30, 1997 were $117.6
million which produced an interest expense of $6.5 million at a weighted average
interest rate of 7.33%. The weighted average interest rate of 7.33% includes
commitment fees and amortization of premiums on existing interest rate cap
agreements as a reflection of total cost of funds borrowed.
Net Interest Income. Net interest income was $9.7 million for the nine
months ended September 30, 1997. Net interest income reflects the positive
impact of the portfolio growth coupled with a slight decrease in the average
cost of funds offset by a decrease in the spread between average yield and
average cost of funds. The average spread between the average yield on the
portfolio and the average cost of funds during the nine-month period ended
September 30, 1997 was 3.17%.
Equity in Earnings of Unconsolidated Subsidiary. For the nine months
ended September 30, 1997, Media generated advertising revenue of $1,717,000 and
incurred Display rental costs of approximately $690,000, resulting in a gross
margin of approximately $1,027,000 or 59.8% of advertising revenue. The number
of Displays owned by Media were approximately 3,625 at September 30, 1997. For
the nine months ended September 30, 1997, operating expenses were $921,000 and
Media generated after tax net income of $81,000 which is recorded as equity in
earnings of unconsolidated subsidiary on the Company's statement of operations
as a result of increases in the number of Displays owned and occupancy rates.
Display occupancy increased from
20
64% at December 31, 1996 to 97.8% at September 30, 1997. Media's operating
expenses increased with the addition of a new salesman and a controller.
Other Income. The Company derived $704,000 in other income, or 0.34% of
investments for the nine months ended September 30, 1997. Other income was
primarily derived from late charges, prepayment fees and miscellaneous income.
Prepayment fees are heavily influenced by the level and volatility of interest
rates and competition.
Non-Interest Expenses. The Company had non-interest expenses of $3.4
million for the period. Approximately $1,041,000, or 30.6% of non-interest
expenses, were related to salaries and benefits, $462,000, or 13.6%, consisted
of professional fees and $181,000, or 5.3% consisted of investment advisory
fees. The operating expense ratio was 2.1% for the nine-month period ended
September 30, 1997. The Company believes that operating expenses as a percentage
of average assets will decline as the loan portfolio increases due to economies
of scale.
Amortization of Goodwill and Accretion of Negative Goodwill. The
amortization of goodwill of $315,000 for the nine months ended September 30,
1997 relates to $6.5 million of goodwill generated in the acquisitions of
Edwards and TCC. Goodwill is the amount by which the cost of acquired businesses
exceeds the fair value of the net assets acquired. Goodwill is being amortized
on a straight-line basis over 15 years. Negative goodwill is the excess of fair
market value of net assets of an acquired business over the cost basis of such
business. Negative goodwill of $2.9 million was generated in the acquisition of
Tri-Magna and is being amortized on a straight-line basis over four years.
Net Realized Gain/Loss on Investments. The Company realized a net gain
on investments of $155,000 during the nine months ended September 30, 1997. The
gain was the result of the sale of foreclosed real estate previously written
down for a gain of $28,000, recoveries in the amount of $6,000 on certain loans
secured by radio dispatch and broadcast equipment and other assets used in
connection with livery taxicab services previously written off and the valuation
of a common stock warrant in a radio station for a gain of $250,000, which was
subsequently sold, offset by write-offs of $133,000 related to foreclosures on
various equipment secured loans.
Net Investment Income. Net investment income earned during the
nine-month period ended September 30, 1997 was $7.6 million reflecting the
positive impact of portfolio growth offset by a decline in the average cost of
funds offset by a decrease in the spread between average yield and average cost
of funds.
Net Increase in Net Assets Resulting from Operations. Net increase in
net assets resulting from operations was $7.7 million for the nine months ended
September 30, 1997 and reflects portfolio growth offset by a decrease in the
spread between average yield and average cost of funds. Return on assets and
return on equity for the nine months ended September 30, 1997, on an annualized
basis, were 4.7% and 12.1%, respectively.
Asset/Liability Management
Interest Rate Sensitivity. The Company, like other financial
institutions, is subject to interest rate risk to the extent its
interest-earning assets (consisting of Medallion Loans and Commercial
Installment Loans) reprice on a different basis over time in comparison to its
interest-bearing liabilities (consisting primarily of credit facilities with
bank syndicates and subordinated
21
SBA debentures).
A relative measure of interest rate risk can be derived from the
Company's interest rate sensitivity gap. The interest rate sensitivity gap
represents the difference between interest-earning assets and interest-bearing
liabilities which mature and/or reprice within specified intervals of time. The
gap is considered to be positive when repriceable assets exceed repriceable
liabilities and negative when the inverse situation exists. A relative measure
of interest rate sensitivity is provided by the cumulative difference between
interest sensitive assets and interest sensitive liabilities for a given time
interval expressed as a percentage of total assets.
Having interest-bearing liabilities that mature or reprice more
frequently on average than assets may be beneficial in times of declining
interest rates, although such an asset/liability structure may result in
declining net earnings during periods of rising interest rates. Conversely,
having interest-earning assets that mature or reprice more frequently on average
than liabilities may be beneficial in times of rising interest rates, although
this asset/liability structure may result in declining net earnings during
periods of falling interest rates. The mismatch between maturities and interest
rate sensitivities of the Company's interest-earning assets and interest-bearing
liabilities results in interest rate risk. Abrupt increases in market rates of
interest may have an adverse impact on the Company's earnings. Accordingly, if
the latest increases in prevailing interest rates like that caused by a 25 basis
point increase in the federal-funds rate lead to a trend of higher interest
rates, net interest rate spread could decline at least until the Company is able
to originate new loans at the higher prevailing interest rates.
The effect of changes in market rates of interest is mitigated by
regular turnover of the portfolio. From inception of its business in 1979
through 1996, the period between the origination and final payments of all
Medallion Loans originated by MFC is estimated by the Company to have been 29
months on a weighted average basis. Accordingly, the Company anticipates that
approximately 40% of the portfolio will mature or be prepaid each year. The
Company believes that the average life of its loan portfolio varies to some
extent as a function of changes in interest rates because borrowers are more
likely to exercise prepayment rights in a decreasing interest rate environment
when the interest rate payable on the borrower's loan is high relative to
prevailing interest rates and are less likely to prepay in a rising interest
rate environment.
The Company seeks to manage the exposure of the balance of the
portfolio to increases in market interest rates by entering into interest rate
cap agreements to hedge a portion of its variable-rate debt against increases in
interest rates and by incurring fixed-rate debt consisting primarily of
subordinated SBA debentures. The Company has entered into interest rate cap
agreements to limit the Company's interest rate exposure as summarized below:
Effective Maturity
Amount Rate Date Date
------ ---- ---- ----
$20,000,000 7.0% 11/16/95 11/16/97
$10,000,000 6.0% 4/21/97 4/21/98
$10,000,000 7.0% 5/13/97 5/13/99
$10,000,000 6.5% 5/13/97 5/13/98
7.0% 5/13/98 11/13/99
Total premiums of $195,500 paid under the agreements are being
amortized over the respective terms of the agreements. In addition, the Company
manages its exposure to increases in market rates of interest by incurring fixed
rate indebtedness, such as subordinated SBA debentures.
22
The Company currently has outstanding subordinated SBA debentures in the
principal amount of $27.9 million with a weighted average rate of interest of
7.91%. At September 30, 1997, these debentures constituted 22.7% of the
Company's total indebtedness.
The Company will seek to manage interest rate risk by evaluating and
purchasing, if appropriate, additional derivatives, originating adjustable-rate
loans, incurring fixed-rate indebtedness and revising, if appropriate, its
overall level of asset and liability matching. Nevertheless, the Company accepts
varying degrees of interest rate risk depending on market conditions and
believes that the resulting asset/liability interest rate mismatch results in
opportunities for higher net interest income.
Liquidity and Capital Resources
The Company's sources of liquidity are credit facilities with bank
syndicates, fixed rate, long-term subordinated debentures that are issued to or
guaranteed by the SBA and loan amortization and prepayments. As a Regulated
Investment Company ("RIC") under the Internal Revenue Code of 1986, as amended,
the Company distributes at least 90% of its investment company taxable income;
consequently, the Company primarily relies upon external sources of funds to
finance growth. At September 30, 1997, 76.5% of the Company's $118.8 million of
debt consisted of bank debt, substantially all of which was at variable
effective rates of interest with a weighted average rate of 6.89% or 161 basis
points below the Prime Rate and 23.5% consisted of subordinated SBA debentures
with fixed rates of interest with a weighted average rate of 7.91%. The Company
is eligible to seek SBA funding but plans to continue to limit its use of SBA
funding and will seek such funding only when advantageous, such as when SBA
financing rates are particularly attractive, or to fund loans that qualify under
SBA regulations through Edwards and TCC which are already subject to SBA
restrictions. In the event that the Company seeks SBA funding, no assurance can
be given that such funding will be obtained. In addition to possible additional
SBA funding, an additional $53.6 million of debt was available at September 30,
1997 at variable effective rates of interest averaging below the Prime Rate
under the Company's $144.5 million revolving credit facilities with banks.
The following table illustrates the Company's and each of the
subsidiaries' sources of available funds and amounts outstanding under credit
facilities at September 30, 1997.
The
Company MFC Edwards TCC Total
------- --- ------- --- -----
(dollars in thousands)
Cash........................................ $ 230 $ 857 $ -- $ 572 $ 1,659
Revolving lines of credit................... 7,500 125,000 12,000 -- 144,500
Amounts available......................... -- 51,225 2,400 -- 53,625
Amounts outstanding....................... 7,500 73,775 9,600 -- 90,875
Average interest rate............... 6.91% 6.89% 6.98% -- 6.89%
Maturity............................ 12/97 6/99 10/97-12/97 -- 10/97-6/99
Term loans................................ -- -- -- -- -- (1)
Interest rate...................... -- -- -- -- --
Maturity........................... -- -- -- -- --
SBA debentures............................ -- -- 22,250 5,640 27,890
Average interest rate.............. -- -- 7.88% 8.00% 7.91%
Maturity........................... -- -- 6/98-9/04 6/02 6/98-9/04
Total cash and remaining amounts
available under credit facilities...... 230 52,082 2,400 572 55,284
Total debt outstanding...................... $ 7,500 $ 73,775 $ 31,850 $ 5,640 $118,765
23
- --------------------
(1) On July 31, 1997, the Company's $2.0 million term loan matured
and was paid in full.
Loan amortization and prepayments also provide a source of funding for
the Company. Prepayments on loans are influenced significantly by general
interest rates, Medallion Loan market rates, economic conditions and
competition. Medallion Loan prepayments have slowed since early 1994, initially
because of increases, and then stabilization, in the level of interest rates and
more recently because of an increase in the percentage of the Company's
Medallion Loans which are refinanced with the Company rather than through other
sources of financing.
The Company makes limited use of SBA funding and will seek such funding
only when advantageous. Since May 30, 1996, the Company has expanded its loan
portfolio, reduced its level of SBA financing and increased its level of bank
funding.
Media funds its operations through internal cash flow and inter-company
debt. Media is not a RIC and, therefore, is able to retain earnings to finance
growth.
The Company believes that anticipated borrowings from the SBA and the
increased amounts available under the Company's credit facility after repayment
of a substantial portion of amounts outstanding thereunder from proceeds of the
Company's Follow-on Offering and cash flow from operations (after distributions
to stockholders) will be adequate to fund the continuing operations of the
Company's loan portfolio and advertising business for the foreseeable future. In
addition, in order to provide the funds necessary for the Company's expansion
strategy, the Company expects to incur, from time to time, additional short- and
long-term bank debt and (to the extent permitted and advantageous) to use SBA
financing, and to issue, in public or private transactions, its equity and debt
securities. The Company is currently exploring such external financing
possibilities and MFC is exploring establishing a commercial paper program and
money market loan program. The issuance of commercial paper and money market
loans will be contingent upon MFC maintaining its investment grade rating, among
other conditions, and no assurance can be given that MFC will be able to
establish such a program. The availability and terms of any additional financing
will depend upon market, regulatory and other conditions and there can be no
assurance that such additional financing will be available on terms acceptable
to the Company.
The Company expects to incur costs during the next two to three years
as it addresses the impact of the year 2000 on its information systems.
According to published reports, certain information systems, primarily computer
software programs, cannot properly recognize and process date sensitive
information for the year 2000 and beyond. The Company is evaluating its systems
to determine whether they are year 2000 compliant and is in the process of
addressing this issue. Accordingly, management has not yet estimated the cost of
this effort.
Recent Acquisitions
On October 31, 1997, the Company consummated the purchase of
substantially all of the assets and liabilities of Business Lenders, Inc.
through the Company's wholly-owned subsidiary, BLI Acquisition Co., LLC. In
connection with the transaction BLI Acquisition Co., LLC was renamed Business
Lenders, LLC. The acquisition was accounted for under the purchase method of
accounting and the purchase price paid to Business Lenders, Inc. at the closing
was $1,279,522 in cash plus $1,700,000 in repayment of subordinated debt. These
amounts are based on the September 30, 1997 net book value and are subject to
final adjustment based on the audited balance sheet at October 31, 1997. BLI
Acquisition Co., LLC also assumed approximately $12,500,000 of debt. The balance
of the purchase price is payable pursuant to an earn-out provision based on a
multiple of net after tax earnings over the next 3 years and could result in a
maximum payment of (i) $700,000 during the three months following October 31,
1999 and (ii) $13,450,000, less the amount of cash paid in respect of the net
book value at October 31, 1997, during the three months following October 31,
2000.
24
Investment Considerations
The following are certain of the factors which could affect the
Company's future results. They should be considered in connection with
evaluating forward-looking statements contained in this Management's Discussion
and Analysis and elsewhere in this Report and otherwise made by or on behalf of
the Company since these factors, among others, could cause actual results and
conditions to differ materially from those projected in these forward-looking
statements.
Interest Rate Spread. The Company's net interest income is largely
dependent upon achieving a positive interest rate spread and other factors.
Leverage. The Company's use of leverage poses certain risks for holders
of the Common Stock, including the possibility of higher volatility of both the
net asset value of the Company and the market price of the Common Stock and,
therefore, an increase in the speculative character of the Common Stock.
Availability of Funds. The Company has a continuing need for capital to
finance its lending activities. The Company funds its operations through credit
facilities with bank syndicates and, to a lesser degree, through subordinated
SBA debentures. Reductions in the availability of funds from banks and under SBA
programs on terms favorable to the Company could have a material adverse effect
on the Company. Because the Company distributes to its shareholders at least 90%
of its investment company taxable income, such earnings are not available to
fund loan originations.
Industry and Geographic Concentration. A substantial portion of the
Company's revenue is derived from operations in New York City and these
operations are substantially focused in the area of financing New York City
taxicab medallions and related assets. There can be no assurance that an
economic downturn in New York City in general, or in the New York City taxicab
industry in particular, would not have an adverse impact on the Company.
Reliance on Management. The success of the Company will be largely
dependent upon the efforts of senior management. The death, incapacity or loss
of the services of any of such individuals could have an adverse effect on the
Company.
Taxicab Industry Regulation. Every city in which the Company originates
Medallion Loans, and most other major cities in the United States, limit the
supply of taxicab medallions. In many markets, regulation results in supply
restrictions which, in turn, support the value of medallions; consequently,
actions which loosen such restrictions and result in the issuance of additional
medallions into a market could decrease the value of medallions in that market
and, therefore, the collateral securing the Company's then outstanding Medallion
Loans, if any, in that market. The Company is unable to forecast with any degree
of certainty whether any potential increases in the supply of medallions will
occur. In New York City, and in other markets where the Company originates
Medallion Loans, taxicab fares are generally set by government agencies, whereas
expenses associated with operating taxicabs are largely unregulated. As a
consequence, in the short term, the ability of taxicab operators to recoup
increases in expenses is limited. Escalating expenses, therefore, can render
taxicab operation less profitable and make it more difficult for borrowers to
service loans from the Company and could potentially adversely affect the value
of the Company's collateral.
Government Regulation of Tobacco Advertising. Currently, 50% of the
Company's taxicab rooftop advertising revenue is derived from tobacco products
advertising. In August 1996, President Clinton signed an executive order
adopting rules proposed by the U.S. Food and Drug Administration (the "FDA")
restricting the sale and advertising of cigarette and smokeless tobacco
products. Certain of these regulations which include provisions prohibiting the
placement of tobacco product advertising within 1,000 feet of playgrounds and
schools only apply to stationery advertising such as placards and billboards
and, accordingly, do not restrict taxicab rooftop
25
advertising. Certain other of these regulations, however, which limit tobacco
products advertising to a format consisting of black text on a white background
and require the inclusion of a statement which identifies the product as "a
nicotine-delivery device for persons over 18" apply to taxicab rooftop
advertising. Certain advertisers may be unwilling to advertise in this format;
accordingly, these restrictions, which become effective on August 28, 1997,
could have an adverse effect upon the taxicab rooftop advertising business of
the Company. On April 25, 1997, however, a federal district court in Greensboro,
North Carolina ruled that the FDA does not have the authority to restrict such
advertising. The FDA has indicated that it will appeal the decision. If the FDA
is successful in its appeal, the Company believes that these restrictions could
have an adverse effect upon the taxicab rooftop advertising business of the
Company. In addition, in June 1997 several of the major tobacco companies in the
U.S. and certain state attorney generals reached agreement on a proposed
settlement of litigation between such parties. The terms of this proposed
settlement include a ban on all outdoor advertising of tobacco products
commencing nine months after finalization of the settlement. The settlement,
however, is subject to several conditions, the most notable of which is the
enactment of legislation by the federal government. At this time, it is
uncertain when a definitive settlement will be reached, if at all, or what the
terms of any such settlement will be. A reduction in taxicab rooftop advertising
by the tobacco industry could cause an immediate reduction in the Company's
taxicab rooftop advertising revenues and may simultaneously increase the
Company's available inventory. An increase in available inventory could result
in the Company reducing its rates or limiting its ability to raise rates for
some period of time. If the tobacco litigation settlement were to be finalized
in its current form and if the Company were unable to replace revenues from
tobacco advertising with revenues from other sources, such settlement could have
an adverse effect upon the Company's taxicab rooftop advertising business.
In addition the states of Florida and Mississippi have entered into
separate settlements of litigation with the tobacco industry. These settlements
are not conditioned on federal government approval and provide for the
elimination of all outdoor advertising of tobacco products. If similar
settlements occur in jurisdictions where the Company operates such settlements
could adversely affect the Company's taxicab rooftop advertising business.
26
PART II
OTHER INFORMATION
(a) Exhibits.
10.1 Employment Agreement dated August 29, 1997
between the Company and Allen S. Greene.
10.2 Asset Purchase Agreement dated as of August 20, 1997 among the
Company, BLI Acquisition Co., LLC, Business Lenders, Inc.,
Thomas Kellogg, Gary Mullin, Penn Ritter and
Triumph-Connecticut, Limited Partnership (including all
exhibits thereto - schedules omitted).
27 Financial Data Schedule
(b) Reports on Form 8-K.
27
MEDALLION FINANCIAL CORP.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
MEDALLION FINANCIAL CORP.
Date: November 13, 1997 By: /s/ Daniel F. Baker
-----------------------------
Daniel F. Baker
Chief Financial Officer
(Principal Financial Officer and
Chief Accounting Officer)
28