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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, 2001
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.)
437 Madison Ave, New York, New York 10022
(Address of principal executive offices) (Zip Code)
(212) 328-2100
(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, November 8, 2001:
Class Outstanding Par Value Shares Outstanding
----------------- --------- ------------------
Common Stock........................$.01 18,242,035
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1
MEDALLION FINANCIAL CORP.
FORM 10-Q
INDEX
PART I ..................................................................................................3
FINANCIAL INFORMATION ...................................................................................3
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS ..........................................................3
CONSOLIDATED STATEMENTS OF OPERATIONS ...........................................................4
CONSOLIDATED BALANCE SHEETS .....................................................................5
CONSOLIDATED STATEMENTS OF CASH FLOWS ...........................................................6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ......................................................7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS .....17
PART II ................................................................................................33
OTHER INFORMATION ......................................................................................33
ITEM 1. LEGAL PROCEEDINGS .........................................................................33
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS .................................................33
ITEM 3. DEFAULTS UPON SENIOR SECURITIES ...........................................................33
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS .......................................33
ITEM 5. OTHER INFORMATION .........................................................................33
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K ..........................................................33
SIGNATURES ........................................................................................34
2
PART I
FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
BASIS OF PREPARATION
Medallion Financial Corp. (the Company) is a closed-end management
investment company organized as a Delaware corporation. The Company has elected
to be regulated as a business development company under the Investment Company
Act of 1940, as amended (the 1940 Act). The Company conducts its business
through various wholly owned subsidiaries including its primary operating
company, Medallion Funding Corp. (MFC). As an adjunct to the Company's taxicab
medallion finance business, the Company operates a taxicab rooftop advertising
business, Medallion Taxi Media, Inc. (Media).
The financial information is divided into two sections. The first
section, Item 1, includes the unaudited consolidated financial statements of the
Company including related footnotes. The second section, Item 2, consists of
Management's Discussion and Analysis of Financial Condition and Results of
Operations for the three and nine months ended September 30, 2001 and 2000.
The consolidated balance sheets of the Company as of September 30,
2001, the related consolidated statements of operations for the three and nine
months ended September 30, 2001, and the consolidated statements of cash flows
for the nine months ended September 30, 2001 included in Item 1 have been
prepared by the Company, without audit, pursuant to the rules and regulations of
the Securities Exchange Commission (SEC). 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 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, 2001
or for any other interim period may not be indicative of future performance.
These financial statements should be read in conjunction with the financial
statements and notes thereto included in the Company's Annual Report on Form
10-K for the fiscal year ended December 31, 2000.
3
MEDALLION FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
==================================================================================================================================
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------------------------------------------------
2001 2000 2001 2000
==================================================================================================================================
Interest and dividend income on investments $6,721,202 $14,131,817 $31,464,181 $42,309,749
Interest income on short-term investments 313,450 172,582 562,759 312,219
-------------------------------------------------------------------
Total investment income 7,034,652 14,304,399 32,026,940 42,621,968
Notes payable to banks 4,325,065 3,237,136 15,810,256 10,009,751
Senior secured notes 839,116 821,865 2,499,908 2,465,595
SBA debentures 668,842 409,803 1,553,597 1,221,989
Commercial paper 1,951 2,851,866 184,767 7,356,102
-------------------------------------------------------------------
Total interest expense 5,834,974 7,320,670 20,048,528 21,053,437
-------------------------------------------------------------------
Net interest income 1,199,678 6,983,729 11,978,412 21,568,531
Gain on sale of loans 228,417 373,209 940,454 1,877,505
Equity in earnings (losses) of unconsolidated subsidiary (1,499,515) 140,305 (1,809,710) (32,179)
Accretion of negative goodwill - - - 350,516
Other (loss) income (795,160) 1,009,721 1,193,582 2,788,877
-------------------------------------------------------------------
Total noninterest (loss) income (2,066,258) 1,523,235 324,326 4,984,719
Salaries and benefits 2,304,545 2,584,747 7,140,851 7,445,293
Professional fees 826,974 823,112 1,808,557 1,717,960
Amortization of goodwill 253,606 163,352 521,227 405,287
Other operating expenses 1,611,276 1,690,406 3,764,955 5,123,240
-------------------------------------------------------------------
Total operating expenses 4,996,401 5,261,617 13,235,590 14,691,780
-------------------------------------------------------------------
Net investment income (loss) (5,862,981) 3,245,347 (932,852) 11,861,470
Net realized losses on investments (1,002,839) (1,822,831) (2,503,800) (2,639,233)
Net change in unrealized appreciation (depreciation) on
investments (2,186,032) 1,194,157 (909,840) 2,095,135
-------------------------------------------------------------------
Net realized/unrealized loss on investments (3,188,871) (628,674) (3,413,640) (544,098)
Income tax benefit (65,662) (157,424) (13,789) (217,153)
-------------------------------------------------------------------
Net increase (decrease) in net assets resulting from
operations ($8,986,190) $2,774,097 ($4,332,703) $11,534,525
==================================================================================================================================
Net increase (decrease) in net assets resulting from
operations per share
Basic ($0.49) $0.19 ($0.27) $0.79
Diluted (0.49) 0.19 (0.27) 0.79
==================================================================================================================================
Weighted average common shares outstanding
Basic 18,241,383 14,542,990 16,022,814 14,533,675
Diluted 18,241,383 14,589,880 16,022,814 14,548,794
==================================================================================================================================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
4
MEDALLION FINANCIAL CORP.
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
==================================================================================================================
September 30, 2001 December 31, 2000
==================================================================================================================
Assets
Medallion loans $267,839,540 $299,302,548
Commercial loans 200,682,945 212,721,373
Equity investments 2,032,948 2,129,685
----------------------------------------------
Net investments 470,555,433 514,153,606
Investment in and loans to unconsolidated subsidiary 5,819,569 1,856,421
----------------------------------------------
Total investments 476,375,002 516,010,027
Cash 17,326,208 15,652,878
Accrued interest receivable 4,903,607 8,701,981
Servicing fee receivable 3,743,869 6,632,516
Fixed assets, net 1,925,642 2,050,808
Goodwill, net 5,136,524 5,650,045
Other assets, net 5,846,027 6,016,747
----------------------------------------------
Total assets $515,256,879 $560,715,002
- ------------------------------------------------------------------------------------------------------------------
Liabilities
Accounts payable and accrued expenses $ 5,494,138 $ 7,723,812
Dividends payable - 5,244,281
Accrued interest payable 1,470,598 3,887,589
Commercial paper - 24,066,269
Notes payable to banks 247,550,000 305,700,000
Senior secured notes 45,000,000 45,000,000
SBA debentures 39,345,000 21,360,000
----------------------------------------------
Total liabilities 338,859,736 412,981,951
- ------------------------------------------------------------------------------------------------------------------
Shareholders' Equity
Preferred stock (1,000,000 shares of $0.01 par value
stock authorized - none outstanding) - -
Common stock (50,000,000 shares of $0.01 par value stock
authorized -18,242,035 and 14,546,637 shares outstanding
at September 30, 2001 and December 31, 2000, respectively) 182,421 145,467
Capital in excess of par value 184,122,200 146,379,377
Accumulated undistributed net investment income (loss) (7,907,478) 1,208,207
----------------------------------------------
Total shareholders' equity 176,397,143 147,733,051
----------------------------------------------
Total liabilities and shareholders' equity $515,256,879 $560,715,002
==================================================================================================================
Number of common shares 18,242,035 14,546,637
Net asset value per share $9.67 $10.16
==================================================================================================================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
5
MEDALLION FINANCIAL CORP.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
===================================================================================================================================
Nine Months Ended September 30,
-----------------------------------------
2001 2000
===================================================================================================================================
CASH FLOWS FROM OPERATING ACTIVITIES
Net increase (decrease) in net assets resulting from operations ($ 4,332,703) $ 11,534,525
Adjustments to reconcile net increase in net assets resulting from
operations to net cash provided by operating activities:
Depreciation and amortization 445,763 603,364
Amortization of goodwill 521,227 405,287
Amortization of origination costs 884,090 825,767
Accretion of negative goodwill -- (350,516)
Increase in unrealized appreciation (depreciation) 909,840 (2,095,135)
Net realized loss on investments 2,503,800 2,639,233
Net realized gain on sales of loans (940,454) (1,877,505)
Equity in losses of unconsolidated subsidiary 1,809,710 32,179
Decrease (increase) in accrued interest receivable 3,798,374 (3,577,952)
Decrease (increase) in receivable from sale of loans -- 10,563,503
Decrease (increase) in servicing fee receivable 2,888,647 (1,780,704)
Decrease (increase) in other assets 164,013 (1,591,393)
Increase (decrease) in accounts payable and accrued expenses (2,229,674) 1,146,978
Decrease in accrued interest payable (2,416,991) (1,743,162)
-----------------------------------------
Net cash provided by operating activities 4,005,642 14,734,469
===================================================================================================================================
CASH FLOWS FROM INVESTING ACTIVITIES
Originations of investments (90,510,785) (156,491,042)
Proceeds from sales and maturities of investments 130,751,682 120,902,441
Investment in and loans to unconsolidated subsidiary, net (5,772,858) (699,702)
Capital expenditures (321,597) (299,360)
-----------------------------------------
Net cash provided by (used for) investing activities 34,146,442 (36,587,663)
===================================================================================================================================
CASH FLOWS FROM FINANCING ACTIVITIES
Repayments of notes payable to banks (58,150,000) (27,500,000)
Proceeds from issuances of (repayments of) commercial paper (24,066,269) 66,160,670
Proceeds from issuance of SBA debentures 17,985,000 --
Proceeds from public offering of common stock, net of expenses 37,382,777 --
Proceeds from exercise of stock options 397,001 277,996
Payments of declared dividends to current stockholders (10,027,263) (15,575,838)
-----------------------------------------
Net cash provided by (used for) financing activities (36,478,754) 23,362,828
===================================================================================================================================
NET INCREASE IN CASH 1,673,330 1,509,634
CASH, beginning of period 15,652,878 7,459,284
-----------------------------------------
CASH, end of period $ 17,326,208 $ 8,968,918
===================================================================================================================================
SUPPLEMENTAL INFORMATION
Cash paid during the period for interest $ 22,465,519 $ 23,733,210
===================================================================================================================================
The accompanying notes are an integral part of these unaudited consolidated
financial statements.
6
MEDALLION FINANCIAL CORP.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2001
(1) ORGANIZATION OF MEDALLION FINANCIAL CORP. AND ITS SUBSIDIARIES
Medallion Financial Corp. (the Company) is a closed-end management
investment company organized as a Delaware corporation. The Company has elected
to be regulated as a business development company under the Investment Company
Act of 1940, as amended (the 1940 Act). The Company conducts its business
through various wholly owned subsidiaries including its primary operating
company, Medallion Funding Corp. (MFC). As an adjunct to the Company's taxicab
medallion finance business, the Company operates a taxicab rooftop advertising
business, Medallion Taxi Media, Inc. (Media). (See Note 4.)
The Company also conducts its business through Business Lenders, LLC
(BLL), licensed under the Small Business Administration (SBA) Section 7(a)
program, Medallion Business Credit LLC (MBC), an originator of loans to small
businesses for the purpose of financing inventory and receivables, Medallion
Capital, Inc. (MCI) which conducts a mezzanine financing business, and
Freshstart Venture Capital Corp. (FSVC), a Specialized Small Business Investment
Company (SSBIC) which also originates and services medallion and commercial
loans.
During the second quarter the Company completed an equity offering of
3,600,000 common shares at $11 per share raising approximately $40,000,000 of
additional capital. In July, the underwriters' overallotment option on the
offering was exercised on 60,000 shares at $11 per share raising an additional
$660,000.
(2) EFFECT OF NEW YORK CITY TERRORIST ATTACKS AND ECONOMIC RECESSION ON COMPANY
OPERATIONS
The terrorist attacks on New York City on September 11, 2001, created a
tremendous amount of actual and collateral damage to the City, and to the people
and businesses who live, work, and operate there. Thankfully, the Company and
its employees were not directly impacted in a material way; however, indirectly
there were repercussions on certain customers. The slowdown in traffic, tourism,
and other personal concerns resulted in initial operating problems for certain
of our medallion individual and fleet customers. We have worked with the
borrowers to modify payment terms and establish a plan to enable these customers
to again become current. There have been no reductions in medallion values as a
result of this event during the third quarter. The commercial lending side of
the business also has several borrowers who were affected by this event. The
taxi top advertising business, many of whose ads are from Broadway shows,
suffered short term contract cancellations from these and other customers which
had a gross revenue impact of approximately $50,000 during the 2001 third
quarter.
The attacks also further exacerbated the recessionary trends which had
become more apparent as the 2001 third quarter unfolded. The effects of a
general economic slowdown has impacted the Company as evidenced by an increase
in delinquencies and nonperforming loans, increased prepayment activity as
borrowers sought lower rate financing with the Company or other lenders, and
stresses on medallion and other collateral values, primarily in Chicago, and by
reduced levels of advertising in Media.
As a result of the above, the Company reassessed the loss potential on
the loan portfolio, servicing asset, and other receivables which resulted in
charges of $11,300,000 in the 2001 third quarter to provide reserves against or
writedown the values of these assets which were impacted by the attacks and the
recession in the economy. These charges included $4,050,000 related to the
reversal of additional interest income related to collateral appreciation
participation loans whose underlying collateral value dropped significantly
during the quarter, $3,300,000 for additional unrealized depreciation on the
investment portfolio, $2,050,000 to writedown the value of the servicing asset,
primarily related to increased levels of prepayment activity, $1,350,000 related
to the establishment of a reserve against a deferred tax asset in Media
resulting from increased tax losses and tax loss carry back limitations, and
$550,000 for the write-off of previously capitalized transaction costs for
transactions which are no longer expected to close.
As a consequence of these charges, the Company and MFC were not in
compliance with certain operating covenants required by their borrowing
agreements. The indebtedness of the Company under the Revolver became due on
November 5, 2001, and as a result of the charges discussed above, the lenders
have the right to accelerate the maturity of the indebtedness of MFC. The
7
Company and MFC are in discussions with their lenders as to the impact of
noncompliance on existing lending agreements and future renewals. Although there
can be no assurances, the Company believes the outcome of these discussions will
not result in a material adverse effect on the Company's operations or financial
condition.
(3) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates
The accounting and reporting policies of the Company conform with
generally accepted accounting principles and general practices in the investment
company industry. The preparation of financial statements in conformity with
generally accepted accounting principles requires the Company to make estimates
and assumptions that affect the reporting and disclosure of assets and
liabilities, including those that are of a contingent nature, at the date of the
financial statements and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates.
Principles of Consolidation and Use of the Equity Method
The consolidated financial statements include the accounts of the
Company and its wholly owned subsidiaries, except for Media. All significant
intercompany transactions, balances, and profits have been eliminated in
consolidation. The consolidated statements give retroactive effect to the merger
with Freshstart, by retroactively combining Freshstart with the Company's
financial statements as if the merger had occurred at the beginning of the
earliest period presented.
The Company's investment in Media is accounted for under the equity
method. All significant intercompany transactions, balances, and profits have
been eliminated in the use of the equity method. As a non-investment company,
Media cannot be consolidated with the Company, which is an investment company
under the 1940 Act. Refer to Note 4 for the presentation of financial
information for Media.
Investment Valuation
The Company's loans, net of participations and any unearned discount,
are considered investments under the 1940 Act and are recorded at fair value.
Loans are valued at cost less unrealized depreciation. Since no ready market
exists for these loans, the fair value is determined in good faith by the Board
of Directors. In determining the fair value, the Company and Board of Directors
consider factors such as the financial condition of the borrower, the adequacy
of the collateral, individual credit risks, historical loss experience, and the
relationships between current and projected market rates and portfolio rates of
interest and maturities.
Investments in equity securities and stock warrants are recorded at
fair value, represented as cost, plus or minus unrealized appreciation or
depreciation, respectively. The fair value of investments that have no ready
market, are determined by the Board of Directors based upon assets and revenues
of the underlying investee company as well as general market trends for
businesses in the same industry. Included in equity investments at September 30,
2001 are marketable and non-marketable securities of approximately $1,081,000
and $952,000, respectively. Included in equity investments at December 31, 2000
are marketable and non-marketable securities of approximately $1,490,000 and
$640,000, respectively. Because of the inherent uncertainty of valuations, the
Board of Directors' estimates of the values of the investments may differ
significantly from the values that would have been used had a ready market for
the investments existed and these differences could be material.
The Company's investments consist primarily of long-term loans to
persons defined by SBA regulations as socially or economically disadvantaged, or
to entities that are at least 50% owned by such persons. Approximately 57% of
the Company's loan portfolio at September 30, 2001 and 58% at December 31, 2000
had arisen in connection with the financing of taxicab medallions, taxicabs, and
related assets, of which 81% and 77%, respectively, are in New York City. These
loans are secured by the medallions, taxicabs, and related assets, and are
personally guaranteed by the borrowers, or in the case of corporations,
personally guaranteed by the owners. A portion of the Company's portfolio
represents loans to various commercial enterprises, including finance companies,
wholesalers, dry cleaners, restaurants, and real estate. These loans are secured
by various equipment and/or real estate, and are generally guaranteed by the
owners, and in certain cases, by the equipment dealers. These loans are made
primarily in the metropolitan New York City area. The remaining portion of the
Company's portfolio is from the origination of loans guaranteed by the SBA under
its Section 7(a) program, less the sale of the guaranteed portion of those
loans. Funding for the Section 7(a) program depends on annual appropriations by
the U.S. Congress.
8
Collateral Appreciation Participation Loans
During the 2000 first half, the Company originated collateral
appreciation participation loans collateralized by Chicago taxi medallions of
$30,000,000, of which $21,000,000 was syndicated to other financial
institutions. In consideration for modifications from its normal taxi medallion
lending terms, the Company offered loans at higher loan-to-value ratios and is
entitled to earn additional interest income based upon any increase in the value
of all $30,000,000 of the collateral. During the 2001 second quarter, the effect
of the economic downturn began to stress the value of Chicago taxi medallions,
which accelerated in the 2001 third quarter. As a result, the Company determined
that the previously recorded appreciation was no longer supported by current
Chicago medallion prices, and therefore wrote the carrying values down from
$12,950,000 at June 30, 2001, to their original face value of $8,900,000, which
represented approximately 2% of its total loan portfolio. Additional interest
income was reduced $4,050,000 for the 2001 third quarter and $3,100,000 year to
date, compared with increases of $1,175,000 and $3,500,000 for the comparable
2000 periods, and is reflected in investment income on the consolidated
statements of operations and in accrued interest receivable on the consolidated
balance sheets. As a regulated investment company, the Company is required to
mark-to-market these investments on a quarterly basis, just as it does on all of
its other investments. The Company feels that it has adequately calculated the
fair market value on these investments in each accounting period, and by relying
upon information such as recent and historical medallion sale prices.
Income Recognition
Interest income is recorded on the accrual basis. Loans are placed on
nonaccrual status, and all uncollected accrued interest is reversed, when there
is doubt as to the collectibility of interest or principal, or if loans are 90
days or more past due, unless management has determined that the loans are both
well-secured and in the process of collection. Interest income on nonaccrual
loans is recognized when cash is received. At September 30, 2001, total
nonaccrual loans were approximately $32,847,000, compared to $21,242,000 in the
2001 second quarter and $19,973,000 at year-end.
Loan Sales and Servicing Fee Receivable
The principal portion of loans serviced for others by the Company at
September 30, 2001 was $222,940,000, compared to $226,127,000 at June 30, 2001
and $223,574,000 at year end.
Receivables from loans sold and gains or losses on loan sales are
primarily attributable to the sale of commercial loans which have been at least
partially guaranteed by the SBA. The Company recognizes gains or losses from the
sale of the SBA-guaranteed portion of a loan on the date of the sales agreement
when control of the future economic benefits embodied in the loan is
surrendered.
The estimated net servicing income is based, in part, on management's
estimate of prepayment speeds, including default rates, and accordingly, there
can be no assurance that these estimates will approximate actual results. If the
prepayment speeds occur at a faster rate than anticipated, the amortization of
the servicing assets will be accelerated and its value will decline; and as a
result, servicing income during that and subsequent periods would decline. If
prepayments occur slower than anticipated, cash flows would exceed estimated
amounts and income would increase. The constant prepayment rates utilized by the
Company in estimating the lives of the loans depend on the original term of the
loan, industry trends, and the Company's historical data.
The Company periodically assesses the assumptions used in calculating
the servicing fee receivable for appropriateness in light of trends in the
portfolio and in the economy. As a result of those assessments, the Company
periodically revises its assumptions to better reflect actual experience when
evidence indicates that the original assumptions may no longer be applicable. In
the 2001 third quarter, the Company revised prepayment assumptions for
substantially all loan pools which resulted in a charge of $2,058,000 against
servicing fee income. The trends in prepayment speed and in delinquencies have
worsened during 2001, and the pace of the deterioration accelerated in the third
quarter. The change primarily reflects the revision of the prepayment
assumptions from 15% on most loan pools to at least 25% on all aged loan pools,
and as high as 35% on the most stressed pools. Although there can be no
assurances, the Company believes that the servicing asset properly reflects the
present value of future servicing cash flows to be received over the remaining
lives of the servicing asset.
9
The mark-to-market adjustments on the servicing fee receivable were as
follows:
- ---------------------------------------------------------------------------------------------------------------
2001 2000
- ---------------------------------------------------------------------------------------------------------------
Balance at January 1, $ 205,000 $ -
Additions 31,000 -
- ---------------------------------------------------------------------------------------------------------------
Balance at March 31, 236,000 -
Additions 83,000 23,000
- ---------------------------------------------------------------------------------------------------------------
Balance at June 30, 319,000 23,000
Additions 2,058,000 50,000
- ---------------------------------------------------------------------------------------------------------------
Balance at September 30, $2,377,000 $ 73,000
===============================================================================================================
Unrealized Appreciation/(Depreciation) and Realized Gains/(Losses) on
Investments
The change in unrealized appreciation/(depreciation) of investments is
the amount by which the fair value estimated by the Company is greater/(less)
than the cost basis of the investment portfolio. Realized gains or losses on
investments are generated through sales of investments, foreclosure on specific
collateral, and write-offs of loans or assets acquired in satisfaction of loans,
net of recoveries. Unrealized depreciation was $8,272,000 as of September 30,
2001, $6,145,000 as of June 30, 2001, and $7,411,000 as of December 31, 2000.
The table below shows changes in the unrealized depreciation balance
during 2001:
===================================================================================================================
Loans Equity Investments Total
- -------------------------------------------------------------------------------------------------------------------
Balance as of December 31, 2000 ($6,988,790) ($422,577) ($7,411,367)
Change in unrealized
Appreciation on investments - 176,407 176,407
Depreciation on investments (558,159) - (558,159)
Realized
Gains on investments (3,375) (120,389) (123,764)
Losses on investments 1,384,856 - 1,384,856
Other 236,499 240,779 477,278
- -------------------------------------------------------------------------------------------------------------------
Balance as of March 31, 2001 (5,928,969) (125,780) (6,054,749)
Change in unrealized
Appreciation on investments 178,623 452,000 630,623
Depreciation on investments (716,369) (92,080) (808,449)
Realized
Losses on investments 323,633 - 323,633
Other (236,369) - (236,369)
- -------------------------------------------------------------------------------------------------------------------
Balance as of June 30, 2001 (6,379,451) 234,140 (6,145,311)
Change in unrealized
Appreciation on investments - 84,530 84,530
Depreciation on investments (3,132,007) (158,312) (3,290,319)
Realized
Gains on investments (1,895) - (1,895)
Losses on investments 674,763 329,625 1,004,388
Other (53) 76,256 76,203
---------------------------------------------------------------
Balance as of September 30, 2001 ($8,838,643) $566,239 ($8,272,404)
===================================================================================================================
10
The table below summarizes components of unrealized and realized gains
and losses in the investment portfolio:
===================================================================================================================
Three months ended Nine months ended
September 30, 2001 September 30, 2001
- -------------------------------------------------------------------------------------------------------------------
Increase in net unrealized appreciation (depreciation) on
investments
Unrealized appreciation $ 84,530 $ 891,560
Unrealized depreciation (3,290,319) (4,656,927)
Reversal of unrealized appreciation from realized gains (1,895) (125,659)
Reversal of unrealized depreciation from realized losses 1,004,388 2,712,877
Other 17,264 268,309
---------------------------------------------
Total ($2,186,032) ($ 909,840)
===================================================================================================================
Net realized gain (loss) on investments
Realized gains $ 50,579 $ (54,655)
Realized losses (1,053,418) (2,449,145)
---------------------------------------------
Total ($1,002,839) ($2,503,800)
===================================================================================================================
Goodwill
Cost of purchased businesses in excess of the fair value of net assets
acquired (goodwill) is amortized on a straight-line basis over fifteen years.
The excess of fair value of net assets over cost of business acquired (negative
goodwill) was accreted on a straight-line basis over approximately four years.
The Company reviews its goodwill for events or changes in circumstances that may
indicate that the carrying amount of the assets may not be recoverable, and if
appropriate, reduces the carrying amount through a charge to income. See Note 8
for additional information related to new accounting pronouncement on goodwill.
Federal Income Taxes
The Company has elected to be treated for tax purposes as a regulated
investment company (RIC) under the Internal Revenue Code of 1986, as amended
(the Code). As a RIC, the Company will not be subject to U.S. federal income tax
on any investment company taxable income (which includes, among other things,
dividends and interest reduced by deductible expenses) that it distributes to
its stockholders if at least 90% of its investment company taxable income for
that taxable year is distributed. It is the Company's policy to comply with the
provisions of the Code applicable to regulated investment companies.
Media, as a non-investment company, is taxed as a regular corporation.
Net Increase in Net Assets Resulting from Operations per Share (EPS)
Basic earnings per share is computed by dividing net increase in net
assets resulting from operations available to common shareholders by the
weighted average number of common shares outstanding for the period. Diluted
earnings per share reflect the potential dilution that could occur if option
contracts to issue common stock were exercised and has been computed after
giving consideration to the weighted average dilutive effect of the Company's
common stock and stock options.
11
Basic and diluted EPS for the three and nine months ended September 30,
2001 and 2000 are as follows:
------------------------------------------------------------------------------------------------------------------------------
September 30, 2001 September 30, 2000
----------------------------------------------------------------------------
Three months ended # of Shares EPS # of Shares EPS
------------------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in net assets ($8,986,190) $2,774,097
resulting from operations
------------------------------------------------------------------------------------------------------------------------------
Basic EPS
Income (loss) available to common shareholders (8,986,190) 18,241,383 ($0.49) 2,774,097 14,542,990 $0.19
Effect of dilutive stock options(1) - 46,890
------------------------------------------------------------------------------------------------------------------------------
Diluted EPS
Income (loss) available to common shareholders (8,986,190) 18,241,383 (0.49) 2,774,097 14,589,880 0.19
------------------------------------------------------------------------------------------------------------------------------
Nine months ended
------------------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in net assets ($4,332,703) $11,534,525
resulting from operations
------------------------------------------------------------------------------------------------------------------------------
Basic EPS
Income (loss) available to common shareholders (4,332,703) 16,022,814 ($0.27) 11,534,525 14,533,675 $0.79
Effect of dilutive stock options(1) - 15,119
------------------------------------------------------------------------------------------------------------------------------
Diluted EPS
Income (loss) available to common shareholders (4,332,703) 16,022,814 (0.27) 11,534,525 14,548,794 0.79
==============================================================================================================================
(1) Because there are net losses for the 2001 third quarter and nine months, the
effect of stock options is antidilutive, and therefore is not presented.
Derivatives
In June 1998, the Financial Accounting Standards Board issued SFAS 133,
"Accounting for Derivative Instruments and Hedging Activities." SFAS 133
establishes new standards regarding accounting and reporting requirements for
derivative instruments and hedging activities. In June 1999, the Board issued
SFAS 137, "Accounting for Derivative Instruments and Hedging Activities -
Deferral of the Effective Date of FASB Statement No. 133." The new standard
deferred the effective date of SFAS 133 to fiscal years beginning after June 15,
2000. The Company adopted SFAS 133 beginning January 1, 2001. The cumulative
effect of adoption was not material.
The Company is party to certain interest rate cap agreements. These
contracts were entered into as part of the Company's management of interest rate
exposure and effectively limit the amount of interest rate risk that may be
taken on a portion of the Company's outstanding debt. All interest rate caps are
designated as hedges of certain liabilities, however, any hedge ineffectiveness
is charged to earnings in the period incurred. Premiums paid on the interest
rate caps were previously amortized over the lives of the cap agreements and
amortization of these costs was recorded as an adjustment to interest expense.
The amount charged to earnings was $0 and $82,000 for the 2001 third quarter and
nine months compared to $25,000 and $59,000 for the 2000 third quarter and nine
months. Upon adoption of SFAS 133, the interest rate caps are recorded at fair
value, which is determined based on information provided by the Company's
counterparties. Interest rate settlements, if any, are recorded as a reduction
of interest expense over the lives of the agreements. The fair value of the
Company's interest rate cap agreement as of September 30, 2001 was $0.
Reclassifications
Certain reclassifications have been made to prior period balances to
conform with the current period presentation.
(4) Investment in Unconsolidated Subsidiary
The consolidated statements of operations of Media for the three months
and nine months ended September 30, 2001 and 2000 were as follows:
===============================================================================================================
Three Months Ended September 30, Nine Months Ended September 30,
------------------------------------------------------------------------
2001 2000 2001 2000
===============================================================================================================
Advertising revenue $3,525,069 $3,003,541 $10,743,134 $8,216,994
Cost of fleet services 1,996,471 1,244,867 6,008,729 3,668,089
------------------------------------------------------------------------
Gross profit 1,528,598 1,758,674 4,734,405 4,548,905
Other operating expenses 1,737,092 1,524,832 5,575,663 4,287,786
------------------------------------------------------------------------
Income (loss) before taxes (208,494) 233,842 (841,258) 261,119
Income tax provision 1,291,021 93,537 968,452 104,448
------------------------------------------------------------------------
Net income (loss) ($1,499,515) $140,305 ($ 1,809,710) $156,671
===============================================================================================================
12
As a result of the events in New York City on September 11, 2001,
certain advertisers reduced the levels of advertisements for a period, which
included late September and a portion of the fourth quarter. Media has taken
steps to reduce the costs associated with this reduced level of advertising. The
decline in revenue from these reductions was approximately $50,000 in the third
quarter before considering the benefits of cost reduction initiatives.
Also included in the 2001 third quarter is a $1,350,000 tax provision
to establish a valuation allowance against the future realization of a deferred
tax asset that was recorded in prior periods relating to actual tax payments
made for taxable revenue that had not been recorded for financial reporting
purposes. During 2001, primarily as a result of expansion into numerous cities
and the the lag associated with selling those taxi tops, Media began to incur
losses for both financial reporting and tax purposes, indicating that this
deferred tax asset now represents a receivable or refund from the tax
authorities for those taxes previously paid. However, due to statutory
limitations on Media's ability to carry these tax losses back more than two
years, and the uncertainties concerning the level of Media's taxable income in
the future, Media determined to reserve against the receivable.
The consolidated balance sheets at September 30, 2001 and December 31,
2000 for Media are as follows:
===================================================================================================================
September 30, December 31,
---------------------------------------
2001 2000
- -------------------------------------------------------------------------------------------------------------------
Cash $ - $ 5,259
Accounts receivable 1,616,789 2,652,055
Equipment, net 3,303,732 3,281,011
Prepaid signing bonuses 3,050,328 1,521,253
Goodwill 2,145,148 1,659,624
Due from parent - 321,723
Other 1,981,421 2,882,750
---------------------------------------
Total assets $12,097,418 $12,323,675
- -------------------------------------------------------------------------------------------------------------------
Accounts payable and accrued expenses $ 2,192,244 $ 683,369
Deferred revenue 1,113,800 5,453,550
Due to parent 5,342,523 -
Note payable-bank 2,971,805 3,900,000
---------------------------------------
Total liabilities 11,620,372 10,036,919
---------------------------------------
Equity 1,001,000 1,001,000
Retained earnings (523,954) 1,285,756
---------------------------------------
Total equity 477,046 2,286,756
---------------------------------------
Total liabilities and equity $12,097,418 $12,323,675
===================================================================================================================
During 2001, Media made a concerted effort to better utilize taxi tops
capacity by showing ads for which the revenue had been deferred from, but the
cash had been received in, prior periods. As a result, the amount of deferred
revenue available for recognition in future periods has been reduced to
$1,114,000 from $5,454,000 at year-end.
Included in advertising revenue for the 2001 first quarter was
approximately $567,000 related to contracts that were cancelled in prior periods
due to legislative changes and other factors. This revenue was recognized upon
determination that Media had no further obligations under the contracts.
In July 2001, Media acquired certain assets and assumed certain
liabilities of Medallion Media Japan Ltd. (MMJ), a taxi advertising operation
similar to those operated by Media in the U.S., which has advertising rights on
approximately 7,000 cabs servicing various cities in Japan. The transaction has
been accounted for as a purchase for financial reporting purposes and is
included in Media's financial statements above. The terms of the agreement
provide for an earn-out payment to the sellers based on average net income over
the next three years. For the 2001 third quarter, MMJ had a net loss of $40,000.
During 2000, the Company purchased taxi top roof top advertising at average
market rates from Media for a total of $188,850 for the nine months ended
September 30, 2000.
13
(5) COMMERCIAL PAPER, NOTES PAYABLE TO BANKS, AND SENIOR SECURED NOTES
Borrowings under the commercial paper, revolving credit, and senior
note agreements are secured by the assets of the Company. The outstanding
balances were as follows as of September 30, 2001 and December 31, 2000.
===================================================================================================================
Description 2001 2000
- -------------------------------------------------------------------------------------------------------------------
Commercial paper $ - $24,066,269
Revolving credit agreements 247,550,000 305,700,000
Senior secured notes 45,000,000 45,000,000
- -------------------------------------------------------------------------------------------------------------------
Total $ 292,550,000 $374,766,269
===================================================================================================================
(a) Commercial Paper
On March 13, 1998, MFC entered into a commercial paper agreement to
sell up to an aggregate principal amount of $195 million in secured commercial
paper through private placements, and coincident with the extension and
expansion of the Revolving Credit Agreement (the Revolver), the commercial paper
line was expanded to $220,000,000. The commercial paper program ranked on a pari
passu basis with the Revolver. During December 2000, MFC'S outstanding
commercial paper began to mature and was replaced by draws on the Revolver at a
cost of 7.83%, compared to a cost of 7.10%. On November 22, 2000, Fitch IBCA
placed the Company's "BBB" senior secured debt rating and "F2" secured
commercial paper rating on negative watch. In addition, in December 2000, the
Company's other rating agency, Thompson's Bankwatch, was acquired by Fitch IBCA,
leaving it with only one commercial paper rating. Primarily as a result of these
factors, a substantial portion of the Company's commercial paper did not
rollover and was replaced by the Company's bank facility. On January 18, 2001,
Fitch IBCA lowered the Company's senior secured debt rating and secured
commercial paper rating to "BB+" and "B", respectively, and removed them from
negative watch. At September 30, 2001 and December 31, 2000, MFC had
approximately $0 and $24,066,000 outstanding at a weighted average interest rate
of 0% and 7.10%. MFC's weighted average borrowings related to commercial paper
were $59,000 and $3,315,000 for the 2001 third quarter and year-to-date,
compared to $154,965,000 and $138,968,000 for the respective 2000 periods, with
weighted average interest rates of 13.06%, 7.45%, 7.32%, and 7.10%,
respectively. Commercial paper outstandings were deducted from the Revolver as
the Revolver acted as a liquidity facility for the commercial paper. During the
quarter, the commercial paper program matured and was terminated.
(b) Revolving Credit Agreements
On March 27, 1992 (and as subsequently amended), MFC entered into the
Revolver with a group of banks. Effective on February 10, 2000, MFC extended the
Revolver until June 30, 2001 at an aggregate credit commitment amount of
$220,000,000, an increase from $195,000,000 previously, pursuant to the Loan
Agreement dated December 24, 1997. As of September 30, 2001 and December 31,
2000, amounts available under the Revolver were $41,500,000 and $0. On June 29,
2001 MFC renewed the Revolver until June 30, 2002. This renewal clarified and
revised certain provisions of the agreements related to business activities and
financial covenants of the Company and MFC, adjusted the rate of interest paid
on the notes, and established scheduled reductions in the commitment to
$170,000,000 at June 1, 2002. The Revolver may be extended annually after June
30, 2002 at the option of the participating banks and acceptance by MFC.
Outstanding borrowings under the Revolver were $166,500,000 and $195,700,000 at
weighted average interest rates of 6.08% and 7.68% at September 30, 2001 and
December 31, 2000.
On July 31, 1998, (and as subsequently amended) the Company and MBC
entered into a committed revolving credit agreement (the Loan Agreement) with a
group of banks. The aggregate credit commitment amount was $100,000,000 maturing
on June 28, 2000, and was extended on September 22, 2000 to September 21, 2001
at an increased commitment level of $110,000,000. On September 21, 2001, the
Loan Agreement was extended to November 5, 2001 to allow for continuation of
renewal discussions. These discussions are ongoing as of the date of this
filing. As of September 30, 2001 and December 31, 2000, amounts available under
the loan agreement were $28,950,000 and $3,500,000. The Loan Agreement may be
extended annually thereafter upon the option of the participating banks and
acceptance by the Company and MBC. On March 30, 2001, the Company finalized
certain amendments and was granted a waiver of compliance with certain
provisions. These amendments clarified and revised certain provisions of the
agreements related to business activities and financial covenants of the Company
and MFC, and adjusted the rate of interest paid on the notes. Outstanding
borrowings under the Loan Agreement were $81,050,000 and $106,500,000 at a
weighted average interest rate of 4.65% and 8.09% at September 30, 2001 and
December 31, 2000.
As a consequence of the charges discussed in Note 2, the Company and
MFC were not in compliance with certain operating covenants required by the
Revolver and the Loan Agreement. The indebtedness of the Company under the
Revolver became due on November 5, 2001, and as a result of the charges
discussed in Note 2, the lenders have the right to accelerate the maturity of
the indebtedness of MFC. The Company and MFC are in discussions with their
lenders as to the impact of noncompliance on existing lending agreements and
future renewals. Although there can be no assurances the Company believes the
outcome of these discussions will result in no material adverse effect on the
Company's operation or financial condition.
14
On March 6, 1997, Freshstart established a $5,000,000 line of credit
with a bank at a rate of LIBOR plus 1.75%. Pursuant to the terms of the line of
credit, the Company was required to comply with certain terms, covenants, and
conditions, including maintaining minimum balances with the bank. The line of
credit was unsecured. In connection with the Freshstart merger, the line was
reduced to $3,500,000, and was subsequently paid off in July 2001.
The weighted average interest rate for the Company's consolidated
outstanding revolver borrowings at September 30, 2001 and December 31, 2000 was
5.61% and 7.83%. During the three months ended September 30, 2001 and 2000, the
Company's weighted average borrowings were $263,668,500 and $167,950,000 with a
weighted average interest rate of 6.51% and 7.67%, respectively.
(c) Senior Secured Notes
On June 1, 1999, MFC issued $22.5 million of Series A senior secured
notes that mature on June 1, 2004, and on September 1, 1999, MFC issued $22.5
million of Series B senior secured notes that mature on September 1, 2004
(together, the Notes). The Notes bear a fixed rate of interest of 7.35% and
interest is paid quarterly in arrears. The Notes rank pari passu with the bank
agreements through inter-creditor agreements.
(d) Interest Rate Cap Agreements
On June 22, 2000, MFC entered into an interest rate cap agreement
limiting the Company's maximum LIBOR exposure on $10,000,000 of MFC's revolving
credit facility to 7.25% until June 24, 2002. The Company is exposed to credit
loss in the event of nonperformance by the counterparty on interest rate cap
agreements. The Company does not anticipate nonperformance by the counterparty.
(6) SBA DEBENTURES PAYABLE
Outstanding SBA debentures are as follows at September 30, 2001 and
December 31, 2000:
=============================================================================================================
Due Date 2001 2000 Interest Rate
- -------------------------------------------------------------------------------------------------------------
June 15, 2011 $10,500,000 $ - 6.89%
September 26, 2011 7,485,000 - 6.77
December 1, 2006 5,500,000 5,500,000 7.08
March 1, 2007 4,210,000 4,210,000 7.38
September 1, 2007 4,060,000 4,060,000 7.76
June 1, 2007 3,000,000 3,000,000 7.07
March 1, 2006 2,000,000 2,000,000 7.08
December 16, 2002 1,300,000 1,300,000 4.51
June 1, 2005 520,000 520,000 6.69
December 1, 2005 520,000 520,000 6.54
June 1, 2006 250,000 250,000 7.71
- --------------------------------------------------------------------------------------------
Total SBA debentures $39,345,000 $21,360,000 7.09
=============================================================================================================
During the 2001 second quarter, FSVC and MCI were approved by the SBA
to receive $36,000,000 each in funding over a period of 5 years. MCI drew down
$10,500,000 during June 2001, and in July, 2001 FSVC drew down $7,485,000.
(7) SEGMENT REPORTING
The Company has two reportable business segments, lending and taxicab
rooftop advertising. The lending segment originates and services secured taxicab
medallion and commercial loans. The taxicab rooftop advertising segment sells
advertising space to advertising agencies and companies in several major markets
across the United States. The segment represents the unconsolidated subsidiary
Media. The accounting policies of the operating segments are the same as those
15
described in the summary of significant accounting policies. The lending segment
is presented in the consolidated financial statements of the Company. Financial
information relating to the taxicab rooftop advertising segment is presented in
Note 4.
(8) NEW ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board (FASB) has adopted Statements
of Financial Accounting Standards (SFAS) 141, "Business Combinations" and SFAS
142, "Goodwill and Intangible Assets" which the Company intends to adopt January
1, 2002 as required. The new standards prohibit pooling accounting for mergers
and requires the use of the purchase method of accounting for all prospective
acquisitions, which requires that all assets acquired and liabilities assumed in
a business combination be recorded at fair value with any excess amounts
recorded as goodwill. The standard further requires that amortization of all
goodwill cease, and in lieu of amortization, goodwill must be evaluated for
impairment in each reporting period. Management intends to evaluate its goodwill
for impairment quarterly, and does not believe that such valuation will have a
material impact on the Company's consolidated results of operations or financial
position.
16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with our
financial statements and the notes to those statements and other financial
information appearing elsewhere in this report.
This report contains forward-looking statements relating to future
events and future performance of the Company within the meaning of Section 27A
of the Securities Act of 1933 and Section 21E of The Securities Exchange Act of
1934, including, without limitation, statements regarding the Company's
expectations, beliefs, intentions or future strategies that are signified by the
words "expects," "anticipates," "intends," "believes" or similar language.
Actual results could differ materially from those anticipated in such
forward-looking statements. All forward-looking statements included in this
document are based on information available to the Company on the date hereof,
and the Company assumes no obligation to update any forward-looking statements.
The Company cautions investors that its business and financial performance are
subject to substantial risks and uncertainties. In evaluating the Company's
business, prospective investors should carefully consider the information set
forth in our annual report on Form 10-K for the year ended December 31, 2000
under the caption "Investment Considerations" in addition to the other
information set forth herein.
General
We are a specialty finance company that originates and services loans
that finance taxicab medallions and various types of commercial loans. We have a
leading position in taxicab medallion financing. Since 1996, we have increased
our medallion loan portfolio at a compound annual growth rate of approximately
15% and our commercial loan portfolio at a compound annual growth rate of
approximately 26%. Total assets under management at September 30, 2001 were
$738,196,000 up from $215,000,000 at the end of 1996, a compound annual growth
rate of approximately 26%.
The Company's loan related earnings depend primarily on its level of
net interest income. Net interest income is the difference between the total
yield on the Company's loan portfolio and the average cost of funds. The Company
funds its operations through a wide variety of interest-bearing sources, such as
revolving bank facilities, senior secured notes, and debentures issued to and
guaranteed by the SBA. Net interest income fluctuates with changes in the yield
on the Company's loan portfolio and changes in the cost of funds, as well as
changes in the amount of interest-bearing assets and interest-bearing
liabilities held by the Company. Net interest income is also 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.
The Company also invests in small businesses in selected industries
through its subsidiary Medallion Capital. Medallion Capital's investments are
typically in the form of secured debt instruments with fixed interest rates
accompanied by warrants to purchase an equity interest for a nominal exercise
price (such warrants are included in "Equity Investments"). Interest income is
earned on the debt investments.
Realized gains or losses on investments are recognized when the
investments are sold or written-off. The realized gains or losses represent the
difference between the proceeds received from the disposition of portfolio
assets, if any, and the cost of such portfolio assets. In addition, changes in
unrealized appreciation or depreciation of investments are recorded and
represent the net change in the estimated fair values of the portfolio assets at
the end of the period as compared with their estimated fair values at the
beginning of the period. Generally, "realized gains (losses) on investments" and
"changes in unrealized appreciation (depreciation) of investments" are inversely
related. When an appreciated asset is sold to realize a gain, a decrease in the
previously recorded unrealized appreciation occurs. Conversely, when a loss
previously recorded as an unrealized loss is realized by the sale or other
disposition of a depreciated portfolio asset, the reclassification of the loss
from "unrealized" to "realized" causes an increase in net unrealized
appreciation and an increase in realized loss.
The Company's income from the taxicab rooftop advertising business,
operated by Media is reflected on the Company's books as earnings from an
unconsolidated subsidiary. The Company continues to explore other opportunities
in the taxicab and lending industries, including possible strategies to
participate directly and/or indirectly in the appreciation of taxicab
medallions.
TREND IN LOAN PORTFOLIO
The Company's investment income is driven by the principal amount of
and yields on its loan portfolio. To identify trends in the yields, the
portfolio is grouped by medallion loans, commercial loans, and equity
investments. Since December
17
31, 1998, medallion loans, while still making up a significant portion of the
total portfolio, have decreased in relation to the total portfolio composition
and commercial loans have increased.
The following table illustrates the Company's investments at fair value
and the weighted average portfolio yields calculated using the contractual
interest rates of the loans at the dates indicated:
==========================================================================================================================
September 30, 2001 June 30, 2001 December 31, 2000 September 30, 2000
------------------------------------------------------------------------------------------------
Dollars in thousands Rate Balance Rate Balance Rate Balance Rate Balance
- --------------------------------------------------------------------------------------------------------------------------
Medallion loans
New York 8.54% $215,811 8.54% $217,123 8.69% $228,458 8.62% $236,037
Chicago 9.10 22,545 9.58 23,653 10.47 32,621 11.11 34,428
Boston 11.35 14,095 11.06 14,873 11.21 17,279 11.18 16,877
Newark 10.77 6,388 11.40 7,483 11.59 11,092 11.35 12,093
Cambridge 11.66 1,804 11.82 1,766 10.58 927 10.58 1,038
Other 11.37 6,881 11.43 7,397 11.16 8,230 9.20 7,050
- --------------------------------------------------------------------------------------------------------------------------
Total medallion loans 8.89 267,524 8.95 272,295 9.22 298,607 9.17 307,523
Add: FASB 91 764 744 696 759
Less: reserve (448) (67) - -
- --------------------------------------------------------------------------------------------------------------------------
Medallion loans, net 267,840 272,972 299,303 308,282
==========================================================================================================================
Commercial Loans
SBA Section 7 (a) loans 9.00 57,693 9.71 61,079 11.50 66,058 11.94 66,513
Asset based receivable 10.43 51,375 11.38 44,000 12.98 43,120 12.38 41,087
Secured mezzanine 12.70 36,342 12.88 31,252 13.51 26,464 13.60 21,812
Dry cleaning/laundromats 12.29 12,212 12.55 13,902 12.75 17,282 12.76 22,065
Freshstart 9.50 4,994 9.50 4,104 11.00 5,927 11.00 1,443
Other commercial secured 9.51 45,452 10.79 49,425 12.54 59,752 12.12 65,775
- --------------------------------------------------------------------------------------------------------------------------
Total commercial loans 10.30 208,068 11.01 203,762 12.41 218,603 12.32 218,695
Add: FASB 91 1,006 1,135 1,107 2,070
Less: reserve (8,391) (6,312) (6,989) (5,942)
- --------------------------------------------------------------------------------------------------------------------------
Commercial loans, net 200,683 198,585 212,721 214,823
==========================================================================================================================
Equity investments 1,467 1,855 2,552 2,821
Less: unrealized appreciation 566 234 (422) (431)
(depreciation)
- --------------------------------------------------------------------------------------------------------------------------
Equity investments, net 2,033 2,089 2,130 2,390
==========================================================================================================================
Total investments at cost 9.51% 477,058 9.83% 477,912 10.56% 519,762 10.42% 529,039
==========================================================================================================================
Add: FASB 91 1,770 1,879 1,803 2,829
Less: unrealized appreciation
(depreciation) on equities 566 234 (422) (431)
Less: reserve (8,839) (6,379) (6,989) (5,942)
==========================================================================================================================
Total investments, net $470,555 $473,646 $514,154 $525,495
==========================================================================================================================
18
Investment Activity
The following table sets forth the components of investment activity in
the investment portfolios in the periods indicated:
- -----------------------------------------------------------------------------------------------------------------------
Nine months ended Year ended
September 30, December 31,
(Dollars in thousands) 2001 2000
- -----------------------------------------------------------------------------------------------------------------------
Net investments at beginning of period $514,154 $489,567
Investments originated 90,511 197,512
Sales and maturities of investments (130,752) (172,898)
Increase in unrealized appreciation (depreciation), net (910) 2,159
Realized gains (losses), net (1,564) (1,070)
Amortization of origination costs (884) (1,116)
-----------------------------------------------------------
Net increase (decrease) in investments (43,599) 24,587
-----------------------------------------------------------
Net investments at end of period $470,555 $514,154
=======================================================================================================================
PORTFOLIO SUMMARY
Total Portfolio Yield
The weighted average yield of the total portfolio at September 30, 2001
was 9.51%, a decrease of 32 basis points from 9.83% at June 30, 2001 and a
decrease of 91 basis points from 10.42% at September 30, 2000 and down 105 basis
points from 10.56% at year end, primarily due to the decrease in the yields of
the medallion and commercial loan portfolios resulting from the Federal
Reserve's lowering of interest rates during 2001, which continued during the
quarter. The Company expects to try to continue increasing both the percentage
of commercial loans in the total portfolio and originating floating and
adjustable-rate loans and non-New York medallion loans.
Medallion Loan Portfolio
Medallion loans comprised 57% of the total portfolio of $470,555,000 at
September 30, 2001, 58% of the $514,155,000 portfolio at December 31, 2000, and
59% of the $525,494,000 portfolio of at September 30, 2000. The medallion loan
portfolio decreased by $5,132,000 or 2% from the prior quarter and $41,885,000
or 14% from a year ago, reflecting a decrease in medallion loan originations in
most markets, and the Company's execution of participation agreements with third
parties of low yielding New York medallion loans. The Company retains a portion
of most of these participated loans and earns a fee for servicing the loans for
the third parties. Medallion loans serviced for others increased $7,914,000 or
10% from a year ago.
The weighted average yield of the medallion loan portfolio at September
30, 2001 was 8.89%, a decrease of 6 basis points from 8.95% at June 30, 2001 and
28 basis points from 9.17% at September 30, 2000. The decreases primarily
reflected the reduction in interest rates during the quarter. At September 30,
2001, 19% of the medallion loan portfolio represented loans outside New York
compared to 20% at June 30, 2001 and 24% at September 30, 2000.
Collateral Appreciation Participation Loans
During the 2000 first half, the Company originated collateral
appreciation participation loans collateralized by Chicago taxi medallions of
$30,000,000, of which $21,000,000 was syndicated to other financial
institutions. In consideration for modifications from its normal taxi medallion
lending terms, the Company offered loans at higher loan-to-value ratios and is
entitled to earn additional interest income based upon any increase in the value
of all $30,000,000 of the collateral. During the 2001 second quarter, the effect
of the economic downturn began to stress the value of Chicago taxi medallions,
which accelerated in the 2001 third quarter. As a result, the Company determined
that the previously recorded appreciation was no longer supported by current
Chicago medallion prices, and therefore wrote the carrying values down from
$12,950,000 at June 30, 2001, to their original face value of $8,900,000, which
represented approximately 2% of its total loan portfolio. Additional interest
income was reduced $4,050,000 for the 2001 third quarter and $3,100,000
year-to-date, compared with increases of $1,175,000 and $3,500,000 for the
comparable 2000 periods, and is reflected in investment income on the
consolidated statements of operations and in accrued interest receivable on the
consolidated balance sheets. As a regulated investment company, the Company is
required to mark-to-market these investments on a quarterly basis, just as it
does on all of its other investments. The Company feels that it has adequately
calculated the fair market value on these investments in each accounting period,
and by relying upon information such as recent and historical medallion sale
prices.
19
Commercial Loan Portfolio
Since 1997, the Company has continued to shift the total portfolio mix
toward a higher percentage of commercial loans, which historically have had
higher yields than its medallion loans. Commercial loans were 43% of the total
portfolio at September 30, 2001, 42% at June 30, 2001, and 41% at September 30,
2000. The increase in the commercial loan portfolio was primarily due to strong
growth in the asset-based lending portfolio.
The weighted average yield of the commercial loan portfolio at
September 30, 2001 was 10.30%, a decrease of 71 basis points from 11.01% in the
2001 second quarter and 202 basis points from 12.32% in the 2000 third quarter.
The decreases primarily reflected the 400 basis point drop in the prime rate
during 2001, and to lesser extent, a shift in the mix within the commercial
portfolio from fixed-rate loans to floating-rate or adjustable-rate loans tied
to the prime rate, and the corresponding sensitivity of the yield to movements
in the prime rate. The Company continues to originate adjustable-rate and
floating-rate loans tied to the prime rate to help mitigate its interest rate
risk. At September 30, 2001, floating-rate loans represented approximately 55%
of the commercial portfolio compared to 53% at June 30, 2001 and 45% at year
end. Although this strategy initially produces a lower yield, we believe that
this strategy mitigates interest rate risk by better matching our earning assets
to their adjustable-rate funding sources.
Delinquency Trends
The following table shows the trend in loans 90 days or more past due:
==============================================================================================================================
September 30, 2001 June 30, 2001 December 31, 2000 September 30, 2000
--------------------------------------------------------------------------------------
Dollars in thousands $ %(1) $ %(1) $ %(1) $ %(1)
- ------------------------------------------------------------------------------------------------------------------------------
Medallion loans $12,074 2.57% $ 8,530 1.80% $14,027 2.73% $16,875 3.21%
- ------------------------------------------------------------------------------------------------------------------------------
Commercial loans
SBA Section 7(a) loans 12,049 2.56 11,023 2.33 11,125 2.17 - -
Asset-based receivable - - - - - - - -
Secured mezzanine 3,796 0.81 3,803 0.80 3,206 0.62 - -
Other commercial secured loans 11,455 2.43 6,834 1.44 7,354 1.43 10,069 1.92
--------------------------------------------------------------------------------------
Total commercial loans 27,300 5.80 21,660 4.57 21,685 4.22 10,069 1.92%
- ------------------------------------------------------------------------------------------------------------------------------
Total loans 90 days or more past due $39,374 8.37% $30,190 6.37% $35,712 6.95% 26,944 5.13
==============================================================================================================================
(1) Percentage is calculated against the total investment portfolio.
The increase in medallion loan delinquencies resulted partially from
the impact of the events of September 11, 2001 on the New York City taxicab
fleet. The shutdown of New York City impacted the cash flow of a number of
borrowers which we have proactively worked with to modify payments due over a
2-4 month period to ease the borrowers short-term cash flow shortfalls. The
increase in other commercial secured delinquencies is largely concentrated in
one large restaurant borrower and a number of smaller credits, some of which
were impacted by the events of September 11, 2001, and the overall deterioration
in the economy. The Company is actively working with each delinquent borrower to
bring them current, and believes that any potential loss exposure is reflected
in the Company's mark-to-market estimates on each loan. The increase in
delinquencies in the SBA Section 7(a) portfolio primarily reflects the
deterioration in the economy and its impact on the small businesses which
constitute the majority of this portfolio. In addition, this business segment
has undergone management changes and staffing losses which exacerbated the
situation. The Company has addressed these concerns by stabilizing management of
the portfolio and refocusing collection efforts. Included in the SBA Section
7(a) delinquency figures are $5,939,768, $5,368,171, $6,823,069, and $7,470,785
at September 30, 2001, June 30, 2001, December 31, 2000, and September 30, 2000,
respectively, which represent loans repurchased for the purpose of collecting on
the SBA guarantee. Although there can be no assurances as to changes in the
trend rate, management believes that any loss exposures are properly reflected
in reported asset values.
Equity Investments
Equity investments were 0.4%, 0.4%, 0.4% and 0.5% of the Company's
total portfolio at September 30, 2001, June 30, 2001, December 31, 2000, and
September 30, 2000. Equity investments are comprised of common stock and
warrants.
Trend in Interest Expense
The Company's interest expense is driven by the interest rate payable
on its LIBOR-based short-term credit facilities with bank syndicates, long-term
notes payable, and fixed-rate, long-term debentures issued to the SBA.
20
The following table shows the average cost of funds and average
balances of the Company's major credit facilities for the three months and nine
months ended September 30, 2001 and September 30, 2000:
========================================================================================================================
Three months ended Nine months ended
---------------------------------------------------------------------------------------
Average Average
---------------------------------------------------------------------------------------
Dollars in thousands Cost of Funds Balance Cost of Funds Balance
- ------------------------------------------------------------------------------------------------------------------------
September 30, 2001
Notes payable to banks 6.51% $263,668 7.15% $295,617
Senior secured notes 7.40 45,000 7.43 45,000
SBA debentures 7.08 37,474 7.47 27,806
Commercial paper 13.06 59 7.45 3,315
------------------ -------------------
Total 6.69 $346,201 7.21 $371,738
========================================================================================================================
September 30, 2000
Notes payable to banks 7.67% $167,950 7.74% $173,385
Senior secured notes 7.27 45,000 7.35 45,000
SBA debentures 7.05 23,123 7.15 22,911
Commercial paper 7.32 154,965 7.10 138,968
------------------ -------------------
Total 7.45 $391,038 7.42 $380,264
========================================================================================================================
The Company will continue to seek SBA funding to the extent it offers
attractive rates. SBA financing subjects its recipients to limits on the amount
of secured bank debt they may incur. The Company uses SBA funding to fund loans
that qualify under the SBIA and SBA regulations. Further, the Company believes
that its transition to financing operations primarily with short-term
LIBOR-based secured bank debt has generally decreased its interest expense, but
has also increased the Company's exposure to the risk of increases in market
interest rates, which the Company mitigates with certain hedging strategies. At
September 30, 2001, December 31, 2000 and September 30, 2000, short-term
LIBOR-based debt including commercial paper constituted 75%, 83%, and 85% of
total debt, respectively.
The Company's cost of funds is primarily driven by the rates paid on
its various debt instruments and their relative mix and changes in the levels of
average borrowings outstanding. The Company incurs LIBOR-based debt for terms
generally ranging from 30-90 days. The Company's debentures issued to the SBA
typically have initial terms of ten years. 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 preceding table
shows the average borrowings and related costs of funds for the 2001 and 2000
third quarter and year-to-date periods. Average balances have declined during
the 2001 third quarter, primarily reflecting the initial use of the equity
proceeds raised during the 2001 second quarter for debt reductions. The decline
in the costs of funds reflects the trend of declining interest rates in the
economy, partially offset by the switch from lower cost commercial paper to
higher cost bank debt and related renewals, and additional long-term SBA debt
also at higher rates.
Taxicab Advertising
In addition to its finance business, the Company also conducts taxicab
rooftop advertising businesses through Media. Taxicab advertising revenue is
affected by the number of taxicab rooftop advertising displays currently showing
advertisements and the rate charged customers for those displays. At September
30, 2001, Media had approximately 10,500 installed displays in the U.S. ,
substantially the same as at June 30, 2001. Although Media is a wholly owned
subsidiary of the Company, its results of operations are not consolidated with
the Company's operations because the SEC regulations prohibit the consolidation
of non-investment companies with investment companies. The Company expects that
Media will continue to expand its operations by entering new markets on its own
or through acquisition of existing taxicab rooftop advertising companies.
During 2001, Media operations were constrained by a very difficult
advertising environment compounded by the rapid expansions of tops inventory
that occurred during 1999 and 2000. Media began to recognize losses as growth in
operating expenses exceeded growth in revenue. Also, a substantial portion of
Media's revenues in 2001 arose from the realization of amounts that had been
paid for and deferred from prior periods. Media is actively pursuing new sales
opportunities and has taken steps to reduce operating expenses to better align
ongoing revenues and expenses and to maximize cash flow from operations.
In July 2001, Media acquired certain assets and assumed certain
liabilities of MMJ, a taxi advertising operation similar to those operated by
Media in the U.S., which has advertising rights on approximately 7,000 cabs
servicing various cities in Japan. The terms of the agreement provide for an
earn-out payment to the sellers based on average net income over the next three
years.
On August 30, 2000, Media purchased all the assets of Out There Media
L.L.C. (Out There), a privately held company headquartered in Cleveland. Out
There has the right to place an advertisement on top of more than 250 taxis in
Cleveland, Columbus, and Toledo, and has contracts with some of the largest taxi
fleets in these cities.
21
On August 7, 2000, Media entered into an agreement for up to ten years
with Yellow Cab Service Corp., the taxi division of Coach USA, the leading taxi
and bus charter company in the U.S., to sell advertising space on the top of
over 2,300 taxicabs throughout the United States. Going forward, as Coach USA
acquires taxi companies around the U.S., Media will have the right to place
advertisements on top of those taxis as well.
Factors Affecting Net Assets
Factors that affect Company's net assets include, net realized gain or
loss on investments and change in net unrealized appreciation or depreciation of
investments. Net realized gain or loss on investments is the difference between
the proceeds derived upon sale or foreclosure of a loan or an equity investment
and the cost basis of such loan or equity investment. Change in net unrealized
appreciation or depreciation of investments is the amount, if any, by which the
Company's estimate of the fair value of its investment portfolio is above/below
the previously established fair value or the cost basis of the portfolio. Under
the 1940 Act and the SBIA, the Company's loan portfolio and other investments
must be recorded at fair value.
Unlike certain lending institutions, the Company is not permitted to
establish reserves for loan losses, but adjusts quarterly the valuation of its
loan portfolio to reflect the Company's estimate of the current value of the
total loan portfolio. Since no ready market exists for the Company's loans, fair
value is subject to the good faith determination of the Company. In determining
such fair value, the Company and its Board of Directors takes into consideration
factors such as the financial condition of its borrowers and the adequacy of its
collateral. Any change in the fair value of portfolio loans or other investments
as determined by the Company is reflected in net unrealized depreciation or
appreciation of investments and affects net increase in net assets resulting
from operations, but has no impact on net investment income or distributable
income.
22
CONSOLIDATED RESULTS OF OPERATIONS
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2001 AND SEPTEMBER 30, 2000
Net assets decreased as a result of operations by ($8,986,000) or
($0.49) per diluted common share and ($4,333,000) or $(0.27) per share in the
2001 third quarter and nine months, a decrease of $11,760,000 and $15,867,000
from $2,744,000 or $0.19 per share and $11,535,000 or $0.79 per share in the
2000 periods, reflecting decreased net interest and non interest income, and
higher levels of operating expenses and unrealized depreciation on the
investment portfolios, largely reflecting the charges discussed below.
Included in the results for the 2001 quarter and year-to-date were
charges of $11,300,000 primarily relating to valuation assessments the Company
made in regards to the future realizability of asset values in light of the
September 11, 2001 terrorist attacks and their impact on New York City and the
Company's operations, compounded by the recessionary forces battering the
economy, including the sharp reduction in interest rates and their effect on
prepayment levels. The charges included $4,050,000 to writedown the value of
collateral appreciation participation loans to reflect recent transaction
activity in Chicago medallions; $3,300,000 to increase unrealized depreciation
to reflect the impact of the economic forces on delinquency trends, reduced
payment levels, and collateral values; $2,050,000 to reflect acceleration in the
deterioration in the prepayment speeds on the Company's servicing asset
receivable; $1,350,000 to reserve against the risks of future realization of
previously recorded deferred tax benefits related to Media's operations; and
$550,000 related to the write-off of previously capitalized transaction costs
that are no longer expected to close. Excluding the impact of these charges, net
increase in net assets resulting from operations was $2,314,000 or $0.13 per
share in the quarter and $6,967,000 or $0.43 year-to-date.
Investment income was $7,035,000 in the quarter and $32,027,000 in the
nine months, down $7,270,000 or 51% and $10,595,000 or 25% from $14,304,000 and
$42,622,000 in 2000. The decreases compared to 2000 primarily reflected the
$4,050,000 charge in the quarter to write down values of the collateral
appreciation participation loans, as well as lower yields on the portfolio
primarily due to the lower interest rate environment, decreased level of loans,
and a higher level of nonaccrual loans. Total net investments at quarter end
were $470,555,000, down $3,091,000 or 0.1% from the 2001 second quarter and down
$43,598,000 or 8% from year-end.
The yield on the total portfolio at September 30, 2001 was 5.88% and
8.77% in the 2001 third quarter and nine months, compared to 10.96% and 11.18%
in the comparable 2000 periods. The 2001 decreases primarily reflect the
reduction in additional interest income related to the collateral appreciation
loans and series of rate drops initiated by the Federal Reserve bank during late
2000 and continuing through most of 2001, which reduced the prime lending rate
by 350 basis points. Adjusted for the effects of the additional income recorded
on the collateral appreciation loans, the yields were 9.39% and 9.27% in the
2001 quarter and nine months. Partially offsetting the decreased yield was the
continuing movement of portfolio composition towards higher-yielding commercial
loans from lower-yielding medallion loans. Commercial loans represented 34% of
the investment portfolio at December 31, 1999, compared to 43% at September 30,
2001. Yields on medallion loans were 8.89% and 9.05% for the 2001 third quarter
and nine months compared to 9.17% and 8.97% for the comparable 2000 periods.
Yields on commercial loans were 10.33% and 11.29% for the 2001 third quarter and
nine months compared to 12.40% and 12.29% for the 2000 periods. As rates began
to rise, management made a conscious effort to sell or not renew its fixed,
lower-rate medallion loans, and replaced them with floating, higher-rate
commercial loans.
Medallion loans were $267,840,000 at September 30, 2001, down
$31,463,000 or 11% from $299,303,000 a year ago, and were down $5,132,000 or 2%
from $272,972,000 at June 30, 2001, primarily reflecting reductions in most
markets. The commercial loan portfolio was $200,683,000 at quarter end, compared
to $212,721,000 at year-end, a decrease of $12,038,000 or 6%, but was up
$2,098,000 or 1% from $198,585,000 at June 30, 2001. The decrease compared to a
year ago reflects reduction in all commercial lending categories except
asset-based receivable lending which increased $10,261,000 or 25%. The increase
compared to the preceding quarter reflects increases of $7,348,000 or 17% in
asset-based receivable lending and $2,339,000 or 3% in other commercial secured
lending, partially offset by decreases in the other commercial lending
categories.
During the 2000 first half, the Company originated collateral
appreciation participation loans collateralized by Chicago taxi medallions of
$30,000,000, of which $21,000,000 was syndicated to other financial
institutions. In consideration for modifications from its normal taxi medallion
lending terms, the Company offered loans at higher loan-to-value ratios and is
entitled to earn additional interest income based upon any increase in the value
of all $30 million of the collateral. During the 2001 second quarter, the effect
of the economic downturn began to stress the value of Chicago taxi medallions,
which accelerated in the 2001 third quarter. As a result the Company determined
that the previously recorded appreciation was no longer supported by current
Chicago medallion prices, and therefore wrote the carrying values down from
$12,950,000 at June 30, 2001, to their original face value of $8,900,000, which
represented approximately 2% of its total loan portfolio. Additional interest
income was reduced $4,050,000 for the 2001 third quarter and $3,100,000 year to
date, compared with increases of $1,175,000 and $3,500,000 for the comparable
2000 periods, and is reflected in investment income on the consolidated
statements of operations and in accrued interest receivable on the consolidated
balance sheets.
Interest expense was $5,835,000 and $20,049,000 in the 2001 third
quarter and nine months, down $1,486,000 or 20% and $1,005,000 or 5% compared to
the 2000 periods, primarily reflecting a mix switch from lower cost commercial
paper to higher cost bank debt, and SBA debentures, and higher bank fees and
charges related to the renewals and
23
amendments of the Revolver and Loan Agreement, partially offset by lower rates,
and loan lower average balances outstanding. See page 21 for a table which shows
average balances and cost of funds for the Company's funding sources. The
Company's debt is primarily tied to floating rate indexes, which rose during
most of 2000, and began declining thereafter. The Company's average cost of
funds was 6.69% in the quarter and 7.21% year to-date, compared to 7.45% and
7.42% a year ago. Approximately 75% of the Company's debt is short-term and
floating rate, compared to 83% a year ago.
Net interest income was $1,200,000 and $11,978,000 for the 2001 third
quarter and nine months, down $5,784,000 and $9,590,000 from 2000, primarily
reflecting the writedowns on the collateral appreciation participation loans,
the decreases in yields and balances in the loan portfolio, and higher borrowing
costs in 2001.
The Company had gains on the sale of the guaranteed portion of SBA 7(a)
loans of $228,000 and $940,000 for the 2001 third quarter and nine months, down
$145,000 or 39% and $937,000 or 50% from $373,000 and $1,878,000 in the 2000
periods. During 2001, $17,211,000 million of loans were sold under the SBA
program compared to $43,600,000 during 2000. The decline in gains on sale
reflected a decrease in loans sold of $26,389,000 or 61%, partially offset by an
increase in the level of market-determined premiums received on the sales.
Negative goodwill was fully accreted during 2000, and accordingly, accretion was
$351,000 in the 2000 nine months, and $0 in all other periods presented. Other
loss of ($795,000) in the quarter and income of $1,194,000 in the nine months
decreased $1,805,000 and $1,595,000 from 2000, primarily reflecting charges to
revalue the servicing fee receivable by $2,058,000 and $2,172,000 in the 2001
quarter and nine months, compared to $50,000 in the comparable 2000 periods. The
charges were primarily a result of substantial increases in prepayments on the
serviced portfolio over the last few months, resulting from the sharp decrease
in interest rates among other factors, partially offset by an increase in
servicing fee income, prepayment fees, late charges, and other miscellaneous
income.
Also included in non-interest income is equity in earnings (losses) of
unconsolidated subsidiary, which reflects the operations of the Media division
of the Company. Media generated a net loss of $1,500,000 in the 2001 third
quarter and $1,810,000 year-to-date, compared to net income of $140,000 for the
2000 third quarter and a loss of $32,000 in the 2000 nine months. The decline in
profits in the 2001 periods reflected the charge of $1,350,000 to establish a
reserve against the realizability of deferred tax benefits previously recorded
due to changes in Media's tax situation and the greater costs associated with
the rapid increase in tops under contract and cities serviced, which outpaced
the increase in revenue. Advertising revenues were $3,525,000 in the 2001
quarter, up $521,000 or 17% from $3,004,000 in the 2000 quarter, and were
$10,743,000 in the 2001 nine months, up $2,526,000 or 30% from $8,217,000.
Revenue in the quarter was reduced by approximately $48,000 related to contract
cancellations resulting from the terrorist attacks in New York City. During the
2001 second quarter, Media exerted a greater effort to reduce the amount of
deferred revenue by increasing capacity utilization, resulting in a drop of
$3,512,000 in deferred revenue, to $1,114,000 compared to a year-ago. To the
extent that Media can not generate additional advertising revenue to replace the
deferred revenue recorded in 2001, Media's results of operations may be
negatively impacted. Also included in advertising revenue for the quarter ended
March 31, 2001 was $567,000 related to contracts that were cancelled in prior
periods due to legislative changes and other factors. This revenue was
recognized upon determination that Media had no further continued obligations
under the contract. During 2001, vehicles under contract increased 2,700 or 35%
to 10,500 from 7,800 a year ago. As a result of the substantial growth in tops
inventory, Media's fleet payment costs and related operating expenses to service
those tops increased at a greater rate than the growth in revenue, resulting in
lower profits in the 2001 periods compared to 2000.
Non-interest expense was $4,996,000 and $13,236,000 in the 2001 third
quarter and nine months, down $265,000 or 5% and $1,456,000 or 10% from the 2000
periods. Salaries and benefits expense of $2,305,000 and $7,141,000 were down
$280,000 or 11% and $304,000 or 4% from the comparable 2000 periods, primarily
reflecting reduction in headcount. Professional fees of $827,000 and $1,809,000
were up $4,000 or 1% and $91,000 or 5% compared with 2000, primarily reflecting
the write-off of capitalized costs associated with certain financing
transactions which are no longer being pursued. These write-offs equaled
$396,000 in the quarter. Amortization of goodwill was $254,000 and $521,000 in
the 2001 periods compared to $163,000 and $405,000 a year-ago, and included the
$116,000 write-off of all remaining goodwill related to the 1997 acquisition of
BLL. Other operating expenses of $1,611,000 and $3,765,000 in the 2001 third
quarter and nine months were down $79,000 and $1,358,000 or 5% and 27%,
respectively, compared to both 2000 periods, primarily reflecting the continued
cleanups of financial records and operations, and a general effort to control
expenses.
Net unrealized depreciation on investments was $2,186,000 in the 2001
third quarter and $910,000 in the nine months, compared to net unrealized
appreciation of $1,194,000 and $2,095,000 for the comparable 2000 periods.
Unrealized appreciation/(depreciation) arises when the Company makes valuation
adjustments to the investment portfolio. When investments are sold or
written-off, any resulting realized gain/(loss) is grossed up to reflect
previously recorded unrealized components. As a result, movement between periods
can appear distorted. The 2001 third quarter activity resulted from unrealized
depreciation of $3,290,000 reflecting the recessionary impact on borrower
operations and collateral values, partially offset by the reversals of the
unrealized depreciation associated with fully depreciated loans which were
charged off of $1,020,000 and the increase in valuation of equity portfolio
securities of $85,000. The 2001 nine months activity reflected additional
unrealized depreciation of $4,657,000, partially offset by the reversal of
$2,713,000 of unrealized depreciation related
24
to charged-off loans, an increase in the valuation of equities and loans of
$892,000, and recoveries on prior charge-offs of $143,000.
Net realized loss on investments was $1,003,000 and $2,504,000 in the
2001 third quarter and nine months compared to losses of $1,823,000 and
$2,639,000 in the 2000 periods, primarily reflecting the charge-off of fully
reserved commercial loans.
The Company's net realized/unrealized loss on investments was
$3,189,000 and $3,414,000 in the 2001 quarter and nine months compared to
$629,000 and $544,000 for the comparable 2000 periods, primarily reflecting the
above.
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 loans) reprice on a different basis over time in comparison
to its interest-bearing liabilities (consisting primarily of credit facilities
with bank syndicates, senior secured notes and subordinated SBA debentures).
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. Abrupt increases
in market rates of interest may have an adverse impact on our earnings until we
are able to originate new loans at the higher prevailing 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. This mismatch between
maturities and interest rate sensitivities of our interest-earning assets and
interest-bearing liabilities results in interest rate risk.
The effect of changes in interest rates is mitigated by regular
turnover of the portfolio. Based on past experience, 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. Borrowers are more likely to
exercise prepayment rights in a decreasing interest rate environment because the
interest rate payable on the borrower's loan is high relative to prevailing
interest rates. Conversely, borrowers are less likely to prepay in a rising
interest rate environment.
Interest Rate Management
The Company seeks to manage the exposure 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 entered into an interest rate cap agreement limiting its
maximum LIBOR exposure to 7.25% on $10,000,000 of our revolving credit facility
effective June 22, 2000 and maturing on June 24, 2002.
The Company will seek to manage interest rate risk by originating
adjustable-rate loans, by incurring fixed-rate indebtedness, by evaluating and
purchasing, if appropriate, additional derivatives, and by revising, if
appropriate, its overall level of asset and liability matching.
In addition, the Company manages its exposure to increases in market
rates of interest by incurring fixed-rate indebtedness, such as five year senior
secured notes and subordinated SBA debentures. The Company currently has
outstanding $45.0 million of senior secured notes, half of which mature June 1,
2004, with the balance maturing on September 1, 2004 and SBA debentures of $39.3
million which mature over various time periods from December 2002 to September
2011.
Liquidity and Capital Resources
Our sources of liquidity are credit facilities with bank syndicates,
senior secured notes, long-term SBA debentures that are issued to or guaranteed
by the SBA, loan amortization and prepayments, and participations of loans with
third parties. As a RIC, we are required to distribute at least 90% of our
investment company taxable income; consequently, we primarily rely upon external
sources of funds to finance growth. At September 30, 2001, our $331,895,000 of
outstanding debt was comprised of 75% bank debt, substantially all of which was
at variable effective interest rates with a weighted average interest rate of
5.61%, 14% long-term senior secured notes fixed at an interest rate of 7.35%,
and 12% subordinated SBA
25
debentures, with fixed interest rates with an annual weighted average rate of
7.09%. The Company is eligible to seek SBA funding and will seek such funding
when the rates presented are advantageous. In March 2001, we applied for and
received a commitment for $72,000,000 of additional funding with the SBA
($108,000,000 to be committed by the SBA, subject to the infusion of additional
equity capital into the respective subsidiaries.) Since SBA financing subjects
its recipients to certain regulations, the Company will seek funding at the
subsidiary level. In June 2001, MCI drew $10,500,000 under these commitments,
and in July 2001, FSVC drew $7,485,000.
Currently, the Company has $70,450,000 available under its existing
bank lines of credit (see Note 5). In addition, we are currently unable to
expand our borrowing lines until new banks join the lending syndicate or a debt
offering is completed. Our bank group has scheduled reductions in current
commitment levels over the next year. We anticipate funding drawdowns on our
current commitment from the SBA, these reductions from bringing new banks into
our group, an asset securitization or private placement and continued sales of
loan participations to third parties.
The Company's bank facilities are subject to periodic reviews by the
lending syndicate funding the borrowings and are also subject to certain
covenants and restrictions. On June 29, 2001, MFC renewed its existing Revolver
and on March 30, 2001 the Company finalized certain amendments and was granted a
waiver of compliance with certain provisions. These renewals and amendments
clarified and revised certain provisions of the agreements related to business
activities and financial covenants of the Company and MFC, and adjusted the rate
of interest paid on the notes.
As a result of the consequences discussed in Note 2, the Company and
MFC were not in compliance with certain operating covenants required by the
Revolver and the Loan Agreement. The indebtedness of the Company under the
Revolver became due on November 5, 2001, and as a result of the charges
discussed in Note 2, the lenders have the right to accelerate the maturity of
the indebtedness of MFC. The Company and MFC are in discussions with their
lenders as to the impact of noncompliance on existing lending agreements and
future renewals. Although there can be no assurances the Company believes the
outcome of these discussions will result in no material adverse effect on the
Company's operation or financial condition.
On November 22, 2000, Fitch IBCA placed the Company's "BBB" senior
secured debt rating and "F2" secured commercial paper rating on negative watch.
In addition, in December 2000, the Company's other rating agency, Thompson's
Bankwatch was acquired by Fitch IBCA, leaving it with only one commercial paper
rating. Primarily as a result of these factors, a substantial portion of the
Company's commercial paper did not rollover and has subsequently been replaced
by the Company's bank facility. On January 18, 2001, Fitch IBCA lowered our
senior secured debt rating and secured commercial paper rating to "BB+" and "B",
respectively, and removed them from negative watch. During the quarter, the
commercial paper program matured and was terminated.
The Company believes that its bank credit facilities 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.
Nevertheless, the Company continues to explore additional options, which may
increase available funds for the Company's growth and expansion strategy (see
Note 5). In addition, to the application for SBA funding described above, these
financing options would provide additional sources of funds for both external
expansion and continuation of internal growth.
During the second and third quarters, the Company completed an equity
offering of 3,660,000 common shares at $11 per share raising over $40,000,000 of
additional capital. The Company continues to work with investment banking firms
to investigate the viability of a number of other financing options which
include, among others, the sale or spin-off of certain assets or divisions, and
the development of a securitization conduit program. These financing options
would also provide additional sources of funds for both external expansion and
continuation of internal growth. If none of these financing options occur,
management believes liquidity would still be adequate to fund the continuing
operations of the Company's loan portfolio and advertising business. There were
no deferred costs related to these financing options as of September 30, 2001.
26
The following table illustrates sources of available funds for the
Company and each of the subsidiaries (see Note 5), and amounts outstanding under
credit facilities and their respective end of period weighted average interest
rate at September 30, 2001 and December 31, 2000.
=========================================================================================================================
(Dollars in thousands) Medallion
Financial(1) MFC BLL MCI MBC FSVC 9/30/01 12/31/00
=========================================================================================================================
Cash $ 3,112 $ 5,686 $2,398 $1,669 $1,313 $3,148 $17,326 $ 15,653
Revolving credit lines (2) 110,000 208,000 318,000 333,500
Amounts undisbursed (3) 28,950 41,500 70,450 3,734
Amounts outstanding 81,050 166,500 247,550 305,700
Average interest rate 4.65% 6.08% 5.61% 7.83%
Maturity 11/5/01/(3)/ 6/30/02 11/01-6/02 6/01-9/01
Commercial paper 24,066
Average interest rate 7.10%
Maturity 6/01
SBA debentures
Amounts available(4) 25,500 28,515 54,015 -
Amounts outstanding 21,000 18,345 39,345 21,360
Average interest rate 7.39% 6.76% 7.08% 7.28%
Maturity 3/06 - 6/11 12/02 - 9/11 12/02-9/11 12/02-9/07
Senior secured notes 45,000 45,000 45,000
Average interest rate 7.35% 7.35% 7.20%
Maturity 6/04 - 9/04 6/04-9/04 6/04-9/04
- -------------------------------------------------------------------------------------------------------------------------
Total cash and remaining
amounts undisbursed under
credit facilities (3) 32,062 47,186 2,398 27,169 1,313 31,663 141,791 19, 387
- -------------------------------------------------------------------------------------------------------------------------
Total debt outstanding $ 81,050 $211,500 $ 0 $21,000 $ 0 $18,345 $331,895 $396,126
=========================================================================================================================
(1) Media has a term note outstanding at September 30, 2001 for $2,500,000
which has been rolling over every month upon payment of $300,000 of
principal. The loan bears interest at the prime rate plus 1%. In
addition, Media assumed debt with a balance at September 30, 2001 of
$473,000 as a part of the purchase of MMJ.
(2) The revolving line commitments for the Company and MFC were scheduled to
be reduced to $100,000,000 and $200,000,000 respectively, at renewal for
the Company and on October 1, 2001 for MFC.
(3) The Company continues to be in discussions with its lenders as to the
status of the Loan Agreement as of the date of this filing. See Note 5(b)
for additional information.
(4) In order to fully draw down the remaining SBA commitments, the Company
will need to inject $6,500,000 of capital into MCI and $9,500,000 of
capital into FSVC.
------------------------------------------------------------------------------
Loan amortization, prepayments, and sales 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. There have been increases in prepayment activity, particularly in
BLL, as interest rates have fallen. Many of these refinancings have been through
the Company or one of its affiliates, some of which are sold to secure more
favorable spreads on the loans. Loan sales are a major focus of the SBA Section
7(a) loan program conducted by BLL, which is primarily set up to originate and
sell loans. Increases in SBA Section 7(a) loan balances in any given period
generally reflect timing differences in selling and closing transactions.
On June 1, 1999, MFC issued $22.5 million of Series A senior secured
notes that mature on June 1, 2004, and on September 1, 1999, MFC issued $22.5
million of Series B senior secured notes that mature on September 1, 2004
(together, the Notes). The Notes bear a fixed rate of interest of 7.35% and
interest is paid quarterly in arrears. The Notes rank pari passu with the
revolvers and commercial paper through inter-creditor agreements. The proceeds
of the Notes were used to prepay certain of the Company's outstanding SBA
debentures. See also a description of amendments referred to above.
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.
Common Stock
Our common stock is quoted on the Nasdaq National Market under the
symbol "TAXI." Our common stock commenced trading on May 23, 1996. As of
September 30, 2001, there were approximately 128 holders of record of the
Company's common stock.
On September 28, 2001, the last reported sale price of our common stock
was $8.25 per share. The following table sets forth the range of high and low
closing prices of the common stock as reported on the Nasdaq National Market for
the periods indicated. Our common stock has historically traded at a premium to
net asset value per share. There can be no assurance, however, that such premium
will be maintained.
27
The following table sets forth for the periods indicated the range of
high and low closing prices for the Company's common stock on the Nasdaq
National Market:
==============================================================================================================
2001 HIGH LOW
- --------------------------------------------------------------------------------------------------------------
First Quarter $15.09 $8.52
Second Quarter 13.54 8.46
Third Quarter 10.98 7.67
2000
- --------------------------------------------------------------------------------------------------------------
First Quarter 19.00 15.75
Second Quarter 17.94 14.17
Third Quarter 17.75 15.25
Fourth Quarter 17.13 11.50
==============================================================================================================
We have distributed and currently intend to continue to distribute 90%
of our investment company taxable income to our stockholders. Distributions of
our income are generally required to be made within the calendar year the income
was earned to maintain our RIC status; however, in certain circumstances
distributions can be made up to a full calendar year after the income has been
earned. Our Investment Company taxable income includes, among other things,
dividends and interest reduced by deductible expenses. Our ability to make
dividend payments is restricted by certain asset coverage requirements under the
Investment Company Act and is dependent upon maintenance of our status as a RIC
under the Code. Our ability to make dividend payments is further restricted by
certain financial covenants contained in our credit agreements, by SBA
regulations and under the terms of the SBA debentures. We have adopted a
dividend reinvestment plan pursuant to which stockholders can have distributions
reinvested in additional shares of common stock. There can be no assurances;
however, that we will have sufficient earnings to pay such dividends in the
future.
INVESTMENT CONSIDERATIONS
Interest rate fluctuations may adversely affect the interest rate spread we
receive on our taxicab medallion and commercial loans.
Because we borrow money to finance the origination of loans, our income
is dependent upon the difference between the rate at which we borrow funds and
the rate at which we loan funds. While the loans in our portfolio in most cases
bear interest at fixed-rates or adjustable-rates, we finance a substantial
portion of such loans by incurring indebtedness with floating interest rates
(which adjust at various intervals). As a result, our debt may adjust to a
change in interest rates more quickly than the loans in our portfolio. In
periods of sharply rising interest rates, our costs of funds would increase,
which would reduce our portfolio income before net realized and unrealized
gains. Accordingly, we, like most financial services companies, face the risk of
interest rate fluctuations. Although we intend to continue to manage our
interest rate risk through asset and liability management, including the use of
interest rate caps, general rises in interest rates will tend to reduce our
interest rate spread in the short term. In addition, we rely on our
counterparties to perform their obligations under such interest rate caps.
A decrease in prevailing interest rates may lead to more loan prepayments, which
could adversely affect our business.
Our borrowers generally have the right to prepay their loans upon
payment of a fee ranging from 30 to 120 days interest. A borrower is likely to
exercise prepayment rights at a time when the interest rate payable on the
borrower's loan is high relative to prevailing interest rates. In a lower
interest rate environment, we will have difficulty re-lending prepaid funds at
comparable rates, which may reduce the net interest spread we receive.
Because we must distribute our income, we have a continuing need for capital.
We have a continuing need for capital to finance our lending
activities. Our current sources of liquidity are the following:
o bank credit facilities;
o senior secured notes;
o fixed-rate, long-term SBA debentures that are issued to or guaranteed
by the SBA;
o sales of participations in loans; and
o loan amortization and prepayments.
As a Regulated Investment Company (RIC), we are required to distribute
at least 90% of our investment company taxable income. Consequently, we
primarily rely upon external sources of funds to finance growth. At September
30, 2001,
28
we had $70,450,000 available under our $318,000,000 bank credit facilities (see
Note 5) at variable effective rates of interest averaging below the prime rate,
and $54,015,000 available under commitments from the SBA at fixed rates for
terms of 10 years.
We may have difficulty raising capital to finance our planned level of lending
operations.
We may have difficulty raising the capital necessary to finance our
planned level of lending operations. During December 2000, our outstanding
commercial paper began to mature and was replaced by draws on the notes payable
to our bank facility. The commercial paper was not renewed as a result of the
loss of a credit rating due to the merger of our rating agencies and due to the
remaining rating agency lowering our rating.
In addition, we are currently unable to expand our borrowing lines
until new banks join the lending syndicate or a debt offering is completed. Our
bank group has scheduled reductions in current commitment levels over the next
year. We anticipate funding drawdowns on our current commitment from the SBA,
these reductions from bringing new banks into our group, an asset securitization
or private placement and continued sales of loan participations to third
parties.
As a result of the consequences discussed in Note 2, the Company and
MFC were not in compliance with certain operating covenants required by the
Revolver and the Loan Agreement. The indebtedness of the Company under the
Revolver became due on November 5, 2001, and as a result of the charges
discussed in Note 2, the lenders have the right to accelerate the maturity of
the indebtedness of MFC. The Company and MFC are in discussions with their
lenders as to the impact of noncompliance on existing lending agreements and
future renewals. Although there can be no assurances the Company believes the
outcome of these discussions will result in no material adverse effect on the
Company's operation or financial condition.
Lending to small businesses involves a high degree of risk and is highly
speculative.
Our commercial loan activity has increased in recent years. Lending to
small businesses involves a high degree of business and financial risk, which
can result in substantial losses and should be considered speculative. Our
borrower base consists primarily of small business owners that have limited
resources and that are generally unable to achieve financing from traditional
sources. There is generally no publicly available information about these small
business owners, and we must rely on the diligence of our employees and agents
to obtain information in connection with our credit decisions. In addition,
these small businesses often do not have audited financial statements. Some
smaller businesses have narrower product lines and market shares than their
competition. Therefore, they may be more vulnerable to customer preferences,
market conditions or economic downturns, which may adversely affect the return
on, or the recovery of, our investment in these businesses.
Our borrowers may default on their loans.
We primarily invest in and lend to companies that may have limited
financial resources. Numerous factors may affect a borrower's ability to repay
its loan, including:
o the failure to meet its business plan;
o a downturn in its industry or negative economic conditions;
o the death, disability or resignation of one or more of the key
members of management; or
o the inability to obtain additional financing from traditional
sources.
Deterioration in a borrower's financial condition and prospects may be
accompanied by deterioration in the collateral for the loan. Expansion of our
portfolio and increases in the proportion of our portfolio consisting of
commercial loans could have an adverse impact on the credit quality of the
portfolio.
We borrow money, which may increase the risk of investing in our common stock.
We use financial leverage through bank syndicates, our senior secured
notes, and our long-term, subordinated SBA debentures. Leverage poses certain
risks for our stockholders:
o it may result in higher volatility of both our net asset value and
the market price of our common stock;
o since interest is paid to our creditors before any income is
distributed to our stockholders, fluctuations in the interest payable
to our creditors may decrease the dividends and distributions to our
stockholders; and
o in the event of a liquidation of the Company, our creditors would
have claims on our assets superior to the claims of our stockholders.
29
Our failure to remedy certain internal control deficiencies could have an
adverse affect on our business operations.
In performing their audit of our financial statements for the year
ended December 31, 2000, our independent auditors found conditions that they
believed to be significant deficiencies in our internal accounting control
structure. They did not believe that these conditions were material weaknesses.
These conditions arose in part from our conversion of our loan accounting system
in advance of the year 2000. While we believe that we have remedied these
conditions in a timely fashion, failure to do so could have an adverse effect on
business operations.
These matters were considered by our independent auditors during their
audit and did not modify their unqualified opinion, dated April 2, 2001, that
our consolidated financial statements present fairly, in all material respects,
the financial position of the Company and its subsidiaries as of December 31,
2000 and 1999, and the results of our operations and cash flows for each of the
three years in the period ended December 31, 2000 in conformity with accounting
principles generally accepted in the United States.
We have demonstrated improvements in our internal controls and levels
of operation, and have hired additional senior management and qualified support
personnel. We continue to take active steps to achieve further improvements to
our operating policies and procedures.
Consistent with the Company's on-going focus on improving its
operations and growth, and at the request of BLL's regulatory authority, the
Connecticut Banking Department (the "Department"), the Board of Directors of BLL
is currently adopting plans to improve its financial operations. The Company
feels these plans will be viewed favorably by the Department.
If we are unable to continue to diversify geographically, our business may be
adversely affected if the New York taxicab industry experiences an economic
downturn.
Although we are diversifying from the New York City area, a significant
portion of our taxicab advertising and loan revenue is derived from New York
City taxicabs and medallion loans collateralized by New York City taxicab
medallions. An economic downturn in the New York City taxicab industry could
lead to an increase in defaults on our medallion loans and may also adversely
affect the operation of our taxicab rooftop advertising business. There can be
no assurance that we will be able to sufficiently diversify our operations
geographically.
The loss of certain key members of our senior management could adversely affect
us.
Our success is largely dependent upon the efforts of senior management.
The death, incapacity, or loss of the services of certain of these individuals
could have an adverse effect on our operation and financial results. There can
be no assurance that other qualified officers could be hired.
Acquisitions may lead to difficulties that could adversely affect our
operations.
By their nature, corporate acquisitions entail certain risks, including
those relating to undisclosed liabilities, the entry into new markets, and
personnel matters. We may have difficulty integrating the acquired operations or
managing problems due to sudden increases in the size of our loan portfolio. In
such instances, we might be required to modify our operating systems and
procedures, hire additional staff, obtain and integrate new equipment and
complete other tasks appropriate for the assimilation of new business
activities. There can be no assurance that we would be successful, if and when
necessary, in minimizing these inherent risks or in establishing systems and
procedures which will enable us to effectively achieve our desired results in
respect of any of these or any future acquisitions.
Competition from entities with greater resources and less regulatory
restrictions may decrease our profitability.
We compete with banks, credit unions, and other finance companies, some
of which are Small Business Investment Companies, or SBICs, in the origination
of taxicab medallion loans and commercial loans. We also compete with finance
subsidiaries of equipment manufacturers. Many of these competitors have greater
resources than the Company and certain competitors are subject to less
restrictive regulations than the Company. As a result, there can be no assurance
that we will be able to continue to identify and complete financing transactions
that will permit us to continue to compete successfully.
Our taxicab rooftop advertising business competes with other taxicab
rooftop advertisers as well as with all segments of the out-of-home advertising
industry. We also compete with other types of advertising media, including cable
and network television, radio, newspapers, magazines and direct mail marketing.
Certain of these competitors have also entered into the rooftop advertising
business. Many of these competitors have greater financial resources than the
Company and offer several forms of advertising as well as production facilities.
There can be no assurance that we will continue to compete with these businesses
successfully.
30
The valuation of our loan portfolio is subjective and we may not be able to
recover our estimated value in the event of a foreclosure.
Under the 1940 Act, our loan portfolio must be recorded at fair value
or "marked to market." Unlike other lending institutions, we are not permitted
to establish reserves for loan losses. Instead, we adjust quarterly the
valuation of our portfolio to reflect our estimate of the current realizable
value of our loan portfolio. Since no ready market exists for this portfolio,
fair value is subject to the good faith determination of our management and the
approval of our board of directors. Because of the subjectivity of these
estimates, there can be no assurance that in the event of a foreclosure or the
sale of portfolio loans we would be able to recover the amounts reflected on our
balance sheet.
In determining the value of our portfolio, the board of directors may
take into consideration various factors such as the financial condition of the
borrower and the adequacy of the collateral. For example, in a period of
sustained increases in market interest rates, our board of directors could
decrease its valuation of the portfolio if the portfolio consists primarily of
fixed-rate loans. Our valuation procedures are designed to generate values which
approximate the value that would have been established by market forces and are
therefore subject to uncertainties and variations from reported results.
Considering these factors, we have determined that the fair value of
our portfolio is below its cost basis. At September 30, 2001, our net unrealized
depreciation on investments was approximately $8,272,000. Based upon current
market conditions and current loan-to-value ratios, our board of directors
believes that the net unrealized depreciation of investments is adequate to
reflect the fair value of the portfolio.
Changes in taxicab industry regulations that result in the issuance of
additional medallions could lead to a decrease in the value of our medallion
loan collateral.
Every city in which we originate medallion loans, and most other major
cities in the United States, limits the supply of taxicab medallions. This
regulation results in supply restrictions that support the value of medallions.
Actions that loosen these restrictions and result in the issuance of additional
medallions into a market could decrease the value of medallions in that market.
If this were to occur, the value of the collateral securing our then outstanding
medallion loans in that market could be adversely affected. We are unable to
forecast with any degree of certainty whether any potential increases in the
supply of medallions will occur.
In New York City, Chicago, Boston, and in other markets where we
originate medallion loans, taxicab fares are generally set by government
agencies. Expenses associated with operating taxicabs are largely unregulated.
As a result, the ability of taxicab operators to recoup increases in expenses is
limited in the short term. Escalating expenses can render taxicab operations
less profitable, and could cause borrowers to default on loans from the Company,
and could potentially adversely affect the value of the Company's collateral.
A significant portion of our taxicab advertising and loan revenue is
derived from loans collateralized by New York City taxicab medallions. According
to New York City Taxi and Limousine Commission data, over the past 20 years New
York City taxicab medallions have appreciated in value an average of 10.2% each
year. However, for sustained periods during that time, taxicab medallions have
declined in value. During the year, the value of New York City taxicab
medallions has declined by approximately 9%.
Our failure to maintain our Subchapter M status could lead to a substantial
reduction in the amount of income distributed to our shareholders.
We, along with some of our subsidiaries, have qualified as regulated
investment companies under Subchapter M of the Internal Revenue Code. Thus, we
will not be subject to federal income tax on investment company taxable income
(which includes, among other things, dividends and interest reduced by
deductible expenses) distributed to our shareholders. If we or those of our
subsidiaries that are also regulated investment companies were to fail to
maintain Subchapter M status for any reason, our respective incomes would become
fully taxable and a substantial reduction in the amount of income available for
distribution to us and to our shareholders would result.
To qualify under Subchapter M, we must meet certain income,
distribution, and diversification requirements. However, because we use
leverage, we are subject to certain asset coverage ratio requirements set forth
in the 1940 Act. These asset coverage requirements could, under certain
circumstances, prohibit us from making distributions that are necessary to
maintain our Subchapter M status or require that we reduce our leverage.
In addition, the asset coverage and distribution requirements impose
significant cash flow management restrictions on us and limit our ability to
retain earnings to cover periods of loss, provide for future growth and pay for
extraordinary items. Certain of our loans, including the medallion collateral
appreciation participation loans, could also be re-characterized in a manner
that would generate non-qualifying income for purposes of Subchapter M. In this
event, if such income exceeds the amount permissible, we could fail to satisfy
the requirement that a regulated investment company derive at least 90% of its
gross income from qualifying sources, with the result that we would not meet the
requirements of Subchapter M for qualification as a regulated investment
company. Qualification as a regulated investment company under Subchapter M is
31
made on an annual basis and, although we and some of our subsidiaries are
qualified as regulated investment companies, no assurance can be given that we
will each continue to qualify for such treatment. Failure to qualify under
Subchapter M would subject us to tax on our income and would have material
adverse effects on our financial condition and results of operations.
Our SBIC subsidiaries may be unable to meet the investment company requirements,
which could result in the imposition of an entity-level tax.
The Small Business Investment Act of 1958 regulates some of our
subsidiaries. The Small Business Investment Act restricts distributions by an
SBIC. Our SBIC subsidiaries that are also regulated investment companies could
be prohibited by SBA regulations from making the distributions necessary to
qualify as a regulated investment company. Each year, in order to comply with
the SBA regulations and the regulated investment company distribution
requirements, we must request and receive a waiver of the SBA's restrictions.
While the current policy of the SBA's Office of SBIC Operations is to grant such
waivers if the SBIC makes certain offsetting adjustments to its paid-in capital
and surplus accounts, there can be no assurance that this will continue to be
the SBA's policy or that our subsidiaries will have adequate capital to make the
required adjustments. If our subsidiaries are unable to obtain a waiver,
compliance with the SBA regulations may result in loss of regulated investment
company status and a consequent imposition of an entity-level tax.
The Internal Revenue Code's diversification requirements may limit our ability
to expand our taxicab rooftop advertising business and our medallion collateral
appreciation participation loan business.
We intend to continue to pursue an expansion strategy in our taxicab
rooftop advertising business. We believe that there are growth opportunities in
this market. However, the asset diversification requirements under Subchapter M
could restrict such expansion. These requirements provide that, as a RIC, not
more than 25% of the value of our total assets may be invested in the securities
(other than U.S. Government securities or securities of other RIC's) of any one
issuer. While our investments in our RIC subsidiaries are not subject to this
diversification test so long as these subsidiaries are RIC's, our investment in
Media is subject to this test.
At the time of our original investment, Media represented approximately
1% of our total assets, which is in compliance with the diversification test.
The subsequent growth in the value of Media by itself will not re-trigger the
test even if Media represents in excess of 25% of our assets. However, under
Subchapter M, the test must be reapplied in the event that we make a subsequent
investment in Media, lend to it or acquire another taxicab rooftop advertising
business. If we were to fail a subsequent test, we would lose our RIC status. As
a result, our maintenance of RIC status could limit our ability to expand our
taxicab rooftop advertising business. It will be our policy to expand our
advertising business through internally generated growth. We will only consider
an acquisition in this area if we will be able to meet Subchapter M's
diversification requirements.
The fair value of the collateral appreciation participation loan
portfolio at September 30, 2001 was $8,900,000 million, which represented
approximately 2% of the total loan portfolio. We will continue to monitor the
levels of these asset types in conjunction with the diversification tests.
We depend on cash flow from our subsidiaries to make dividend payments and other
distributions to our shareholders.
We are a holding company and we derive most of our operating income and
cash flow from our subsidiaries. As a result, we rely heavily upon distributions
from our subsidiaries to generate the funds necessary to make dividend payments
and other distributions to our shareholders. Funds are provided to us by our
subsidiaries through dividends and payments on intercompany indebtedness, but
there can be no assurance that our subsidiaries will be in a position to
continue to make these dividend or debt payments.
We operate in a highly regulated environment.
We are regulated by the SEC and the SBA. In addition, changes in the
laws or regulations that govern business development companies, RIC's, or SBIC's
may significantly affect our business. Laws and regulations may be changed from
time to time, and the interpretations of the relevant laws and regulations also
are subject to change. Any change in the laws or regulations that govern our
business could have a material impact on our operations.
32
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time to time, the Company is subject to legal proceedings and
claims in the ordinary course of business. The Company is not currently aware of
any legal proceedings or claims that the Company believes will have,
individually or in the aggregate, a material adverse effect on the Company's
financial position or results of operations.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
None.
33
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 14, 2001
By: /s/ James E. Jack
-----------------
James E. Jack
Executive Vice President and Chief Financial Officer Signing on behalf of the
registrant as principal financial officer.
By: /s/ Larry D. Hall
-----------------
Larry D. Hall
Senior Vice President and Chief Accounting Officer Signing on behalf of the
registrant as principal accounting officer.
34