1
INDEPENDENT AUDITORS' REPORT
The Board of Directors of
United Companies Financial Corporation:
We have audited the accompanying consolidated balance sheets of United Companies
Financial Corporation (Debtors-in-Possession) and subsidiaries (the "Company")
as of December 31, 1998 and 1997 and the related consolidated statements of
operations, stockholders' equity (deficit), and cash flows for each of the years
in the three-year period ended December 31, 1998. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express (or disclaim) an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our report.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of United Companies
Financial Corporation and subsidiaries at December 31, 1997 and the results of
its operations, changes in stockholders' equity and cash flows for each of the
two years in the period ended December 31, 1997, in conformity with generally
accepted accounting principles.
As discussed in Note 1.7 of the Notes to the Consolidated Financial Statements,
in 1997, the Company changed its method of accounting for loan sale gains and
related retained interests to conform with Statement of Financial Accounting
Standards No. 125.
As discussed in Note 2, subsequent to December 31, 1998, the Company and certain
of its subsidiaries have filed for reorganization under Chapter 11 of the
Federal Bankruptcy Code. The accompanying consolidated financial statements do
not purport to reflect or provide for the consequences of the bankruptcy
proceedings. In particular, such consolidated financial statements do not
purport to show (a) as to assets, their realizable value on a liquidation basis
or their availability to satisfy liabilities; (b) as to prepetition liabilities,
the amounts that may be allowed for claims or contingencies, or the status and
priority thereof; (c) as to stockholder accounts, the effect of any changes that
may be made in the capitalization of the Company; or (d) as to operations, the
effect of any changes that may be made in its business.
The accompanying 1998 consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed in Note
2, the Company suffered a significant net loss for the year ended December 31,
1998 and has a stockholders' capital deficiency as of that date. These
circumstances and the matters discussed in the preceding paragraph raise
substantial doubt about the entity's ability to continue as a going concern.
Management's plans in regard to these matters are also discussed in Note 2. The
1998 financial statements do not include any adjustments that might result from
the outcome of these uncertainties.
Because of the possible material effects of the uncertainties discussed in the
two preceding paragraphs, we are unable to express, and we do not express, an
opinion on the accompanying 1998 consolidated financial statements.
DELOITTE & TOUCHE LLP
Baton Rouge, Louisiana
July 31, 1999
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UNITED COMPANIES FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31,
--------------------------
1998 1997
----------- -----------
ASSETS (IN THOUSANDS)
Cash and cash equivalents ...................................................... $ 230,013 $ 582
Interest-only and residual certificates--net ................................... 462,504 882,116
Loans -- net ................................................................... 191,282 172,207
Investment securities -- available for sale ..................................... 1,918 16,853
Accrued interest receivable and servicer advances .............................. 148,622 85,258
Property -- net ................................................................ 45,883 62,050
Capitalized mortgage servicing rights .......................................... 40,148 48,760
Other assets ................................................................... 36,002 34,613
Net assets of discontinued operations .......................................... 85,403 36,163
----------- -----------
Total assets ......................................................... $ 1,241,775 $ 1,338,602
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Notes payable .................................................................. $ 1,219,025 $ 691,826
Deferred income taxes payable .................................................. -- 95,385
Managed cash overdraft ......................................................... -- 13,625
Other liabilities .............................................................. 136,909 57,137
----------- -----------
Total liabilities .................................................... 1,355,934 857,973
----------- -----------
Stockholders' equity (deficit):
Preferred stock, $2 par value;
Authorized -- 20,000,000 shares; Issued -- 1,657,770 and 1,898,070
shares of 6 3/4% PRIDES(sm) ($44 per share liquidation preference) ...... 3,315 3,796
Common stock, $2 par value;
Authorized -- 100,000,000 shares; Issued -- 30,353,033 and
29,971,356 shares ....................................................... 60,706 59,943
Additional paid-in capital ................................................... 186,614 187,418
Accumulated other comprehensive income ....................................... 113 98
Retained earnings (deficit) .................................................. (345,703) 250,429
Treasury stock ............................................................... (7,409) (7,409)
ESOP debt .................................................................... (11,795) (13,646)
----------- -----------
Total stockholders' equity (deficit) ................................. (114,159) 480,629
----------- -----------
Total liabilities and stockholders' equity (deficit) ............... $ 1,241,775 $ 1,338,602
=========== ===========
See notes to consolidated financial statements.
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UNITED COMPANIES FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31,
--------------------------------------------
1998 1997 1996
------------ ------------ ------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Revenues:
Loan sale gains .................................................... $ 191,383 $ 247,022 $ 186,653
Finance income, fees earned and other loan income .................. 128,599 139,029 122,826
Writedown of Interest-only and residual certificates - net ......... (605,562) -- --
Investment income .................................................. 39,509 24,230 13,156
Other .............................................................. 15,336 8,312 6,070
------------ ------------ ------------
Total ...................................................... (230,735) 418,593 328,705
------------ ------------ ------------
Expenses:
Personnel .......................................................... 141,505 120,800 89,724
Interest ........................................................... 72,710 54,865 36,131
Advertising ........................................................ 48,559 36,490 12,039
Restructuring ...................................................... 6,368 -- --
Other operating .................................................... 128,823 79,590 55,834
------------ ------------ ------------
Total ...................................................... 397,965 291,745 193,728
------------ ------------ ------------
Income (loss) from continuing operations
before income taxes ............................................... (628,700) 126,848 134,977
Provision (benefit) for income taxes ................................. (84,769) 44,661 47,428
------------ ------------ ------------
Income (loss) from continuing operations ............................. (543,931) 82,187 87,549
Loss from discontinued operations:
Loss from discontinued operations, net of
income tax expense (benefit) of $(830), $(2,698) and
$1,021, respectively ............................................ (1,541) (7,587) (5,889)
Loss on disposal, net of income tax benefit of $5,550 .............. (38,424) -- --
------------ ------------ ------------
Total ......................................................... (39,965) (7,587) (5,889)
------------ ------------ ------------
Net income (loss) .................................................... $ (583,896) $ 74,600 $ 81,660
------------ ------------ ------------
Comprehensive income, net of tax:
Unrealized holding gains arising during period ..................... 15 51 11
------------ ------------ ------------
Comprehensive income (loss) ........................................ $ (583,881) $ 74,651 $ 81,671
============ ============ ============
Basic earnings (loss) per share:
(Loss) income from continuing operations ........................... $ (19.32) $ 2.63 $ 2.81
Loss from discontinued operations .................................. (1.42) (.24) (.19)
------------ ------------ ------------
Net (loss) income .................................................. $ (20.74) $ 2.39 $ 2.62
============ ============ ============
Diluted earnings (loss) per share:
(Loss) income from continuing operations ........................... $ (19.32) $ 2.53 $ 2.68
Loss from discontinued operations .................................. (1.42) (.23) (.18)
------------ ------------ ------------
Net (loss) income .................................................. $ (20.74) $ 2.30 $ 2.50
============ ============ ============
See notes to consolidated financial statements
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UNITED COMPANIES FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31,
--------------------------------------------
1998 1997 1996
------------- ------------- --------------
(IN THOUSANDS)
Cash flows from continuing operating activities:
Income (loss) from continuing operations ............................ $ (543,931) $ 82,187 $ 87,549
Adjustments to reconcile income (loss) from continuing operations
to net cash used by continuing operating activities:
Increase in accrued interest receivable and servicer advances ... (63,365) (23,822) (24,543)
Decrease (increase) in other assets ............................. (1,389) (12,961) 1,578
Increase in other liabilities ................................... 79,772 33,826 4,183
Decrease (increase) in interest-only and residual
certificates--net ............................................. 419,611 (277,642) (213,205)
Increase in capitalized mortgage servicing rights ............... (25,513) (34,226) (20,872)
Amortization of capitalized mortgage servicing rights .......... 34,125 9,272 2,879
Investment gains ................................................ (15,511) -- --
Loan loss provision on owned loans .............................. 26,924 3,462 (267)
Amortization and depreciation ................................... 6,779 6,945 4,384
Deferred income taxes ........................................... (95,385) 43,796 11,234
Proceeds from sales and principal collections of loans .......... 3,349,460 2,807,849 2,387,460
Originations and purchases of loans held for sale ............... (3,373,670) (2,875,000) (2,415,639)
Decrease (increase) from trading securities ..................... -- 17,418 (17,418)
----------- ----------- -----------
Net cash used by continuing operating activities .............. (202,093) (218,896) (192,677)
----------- ----------- -----------
Cash flows from investing activities:
Proceeds from sales of available-for-sale securities .............. 18,985 1,977 413
Proceeds from maturities of held to maturity securities .......... 4,236 -- --
Purchase of available-for-sale securities ......................... (125) (1,242) --
Purchase of held to maturity securities ........................... (5,837) -- --
Proceeds from disposition of insurance subsidiaries ............... -- -- 106,870
Proceeds from sale of real estate ................................. 16,895 -- --
Capital expenditures .............................................. (16,633) (22,573) (9,129)
----------- ----------- -----------
Net cash provided (used) by investing activities ............. 17,521 (21,838) 98,154
----------- ----------- -----------
Cash flows from financing activities:
Proceeds from construction and mortgage loans ..................... -- 3,846 3,293
Payments on construction and mortgage loans ....................... -- (12,612) --
Proceeds from senior debt ......................................... -- -- 99,300
Payments on senior and subordinated debt .......................... (103,000) -- --
Proceeds from issuance of subordinated notes ...................... -- 146,855 --
Increase in revolving credit facilities ........................... 633,332 192,550 --
Increase (decrease) in debt with maturities of three months
or less ......................................................... -- (47,100) 47,100
Increase (decrease) in warehouse loan facility .................... (1,703) (19,007) 4,351
Proceeds from ESOP debt ........................................... -- 850 6,350
Payments on ESOP debt ............................................. (1,516) (1,517) (1,179)
Cash dividends paid ............................................... (12,235) (14,750) (13,897)
Increase (decrease) in managed cash overdraft ..................... (13,625) 13,625 (27,178)
Purchases of treasury stock ....................................... -- (629) --
Decrease (increase) in unearned ESOP compensation ................. 1,851 (2,514) (5,171)
Proceeds from exercise of stock options and warrants .............. 113 222 1,551
----------- ----------- -----------
Net cash provided by financing activities ..................... 503,217 259,819 114,520
----------- ----------- -----------
Net cash flows from discontinued operations ......................... (89,214) (33,013) (10,771)
----------- ----------- -----------
Increase (decrease) in cash and cash equivalents .................... 229,431 (13,928) 9,226
Cash and cash equivalents at beginning of period .................... 582 14,510 5,284
----------- ----------- -----------
Cash and cash equivalents at end of period .......................... $ 230,013 $ 582 $ 14,510
=========== =========== ===========
See notes to consolidated financial statements.
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UNITED COMPANIES FINANCIAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
ACCUMULATED
OTHER TREASURY TOTAL
ADDITIONAL COMPREHENSIVE RETAINED STOCK AND STOCKHOLDERS
PREFERRED COMMON PAID-IN INCOME EARNINGS ESOP EQUITY
(DEFICIT) (DEFICIT)
---------- ---------- ----------- -------------- ------------ ----------- --------------
(IN THOUSANDS)
BALANCE, DECEMBER 31, 1995 ..... $ 3,910 $ 58,604 $ 179,848 $ 37 $ 122,816 $ (12,741) $ 352,474
Net income ..................... 81,660 81,660
Dividends declared ............. (13,897) (13,897)
Increase in ESOP debt .......... (5,171) (5,171)
Common stock options
exercised .................... 651 4,002 4,653
Release of ESOP shares ......... 547 547
Mark-to-market adjustment on
investments .................. 11 11
--------- --------- --------- --------- --------- --------- ---------
BALANCE, DECEMBER 31, 1996 ..... 3,910 59,255 184,397 48 190,579 (17,912) 420,277
Net income ..................... 74,600 74,600
Dividends declared ............. (14,750) (14,750)
Increase in ESOP debt .......... (2,514) (2,514)
Common stock options
exercised .................... 500 2,928 3,428
Treasury shares acquired ....... (629) (629)
Release of ESOP shares ......... 167 167
Preferred stock converted ...... (114) 188 (74) --
Mark-to-market adjustment on
investments .................. 50 50
--------- --------- --------- --------- --------- --------- ---------
BALANCE, DECEMBER 31, 1997 ..... 3,796 59,943 187,418 98 250,429 (21,055) 480,629
--------- --------- --------- --------- --------- --------- ---------
Net loss ....................... (583,896) (583,896)
Dividends declared ............. (12,236) (12,236)
Decrease in ESOP debt .......... 1,851 1,851
Restricted stock transactions... (66) 150 84
Common stock options
exercised .................... 35 78 113
Preferred stock converted ...... (481) 794 (313) --
Release of ESOP shares ......... (719) (719)
Mark-to-market adjustment on
investments .................. 15 15
--------- --------- --------- --------- --------- --------- ---------
BALANCE, DECEMBER 31, 1998 ..... $ 3,315 $ 60,706 $ 186,614 $ 113 $(345,703) $ (19,204) $(114,159)
========= ========= ========= ========= ========= ========= =========
See notes to consolidated financial statements.
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UNITED COMPANIES FINANCIAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
1. ACCOUNTING POLICIES
1.1 Principles of Consolidation. The consolidated financial statements
include the accounts and operations of United Companies Financial Corporation
and subsidiaries (the "Company" or "United Companies"), all of which are
wholly-owned. All significant intercompany balances and transactions have been
eliminated in the consolidated financial statements.
1.2 Loan Accounting. Prior to its disposition or closing of its lending
operations, the Company originated and purchased loans (which includes for
purposes hereof manufactured housing installment loan and installment sale
contracts) for its own portfolio and for sale and/or securitization in the
secondary market. Loans held for sale are carried at lower of cost or market.
1.2(a) Loan Sales. On and prior to December 31, 1998, the Company sold
substantially all loans which it originated or purchased as asset-backed
securities and, prior to the 1998 fourth quarter securitization transaction,
generally retained the servicing rights on loans sold. The Company has closed or
sold all of its loan origination operations. See Note 2. Under the
sales/servicing agreements, the buyer receives the principal collected on the
loan and an agreed upon rate of return on the outstanding principal balance, the
Company retains the excess of the interest at the contractual rate over the sum
of the rate paid to the buyer (the "pass-through" rate), a normal servicing fee,
and, where applicable, the trustee fee and surety bond fee. At the time of sale,
the Company allocated a portion of its basis in the loans to mortgage servicing
rights which is recorded as an asset (Capitalized mortgage servicing rights),
recorded as an asset the fair value of the excess interest retained by it
(Interest-only and residual certificates), made a provision for an allowance for
losses on the loans sold, and recognized the resulting loan sale gain as
revenue. The fair value of the Company's Interest-only and residual
certificates, which is net of the allowance for loan losses, was determined at
the time of sale by the Company by computing the present value of the cash flows
of the excess interest retained by the Company expected to be received by it
(using the expected dates that such interest is to be released from the related
reserve accounts), discounted at an interest rate that the Company believed an
unaffiliated third-party purchaser would require as a rate of return on a
financial instrument comprised of such cash flows. These amounts were calculated
using prepayment, default and loss severity assumptions based on the actual
experience of the Company's serviced portfolio for home equity loans and
comparable industry prepayment statistics for manufactured housing contracts. On
a quarterly basis, the Company reviews the fair value of the Interest-only and
residual certificates by analyzing its prepayment and other assumptions in
relation to its actual experience, and, if necessary, adjusts the carrying value
of the Interest-only and residual certificates to such fair value through a
charge or credit to earnings. See Note 3 for a discussion of the revised
assumptions utilized by the Company as a result of such review and analysis, and
the consequent writedown to the carrying value of the Interest-only and residual
certificates, as of December 31, 1998. These assumptions, revised as of a
quarter end, are utilized by the Company in calculating loan sale gain for home
equity loans and manufactured housing contracts sold during the quarter then
ended.
1.2(b) Nonrefundable Loan Fees. Loan origination fees and incremental
direct costs associated with loan originations are deferred and recognized over
the lives of the loans as an adjustment to yield, using the interest method.
Unamortized costs and fees are recognized upon sale of the loan or related
asset-backed securities to third parties.
1.2(c) Loan Servicing. On and prior to September 30, 1998, the Company
generally retained the right to service loans it originated or purchased and
subsequently sold or securitized in the secondary market. The Company did not
retain the servicing on its 1998 fourth quarter securitization transaction. Fees
for servicing loans are generally based on a stipulated percentage of the
outstanding principal balance of such loans. The Company recognizes, as separate
assets, rights to service loans for others that have been acquired through
either the purchase or origination of such loans. The implementation by the
Company of Statement of Financial Accounting Standards No. 125, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishment of Liabilities"
("SFAS No. 125") on January 1, 1997, did not have a material impact on the
Company's calculation of mortgage servicing rights.
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1.2(d) Allowance for Loan Losses. The Company's loan sale agreements for
home equity loans generally provide for the subordination to a limited extent of
cash in reserve accounts and excess interest spread retained relating to the
loans sold. The subordination relates to credit losses which may occur after the
sale of the loans and continues until the earlier of the payment in full of the
loans or the termination of the agreement pursuant to which the loans were sold.
In connection with the securitization of home equity loans and sale of the
asset-backed certificates backed by such loans, the excess interest retained by
the Company is generally subordinated to a limited extent to the sold
certificates and used to fund a reserve account, thereby providing additional
credit enhancement to the holders of the certificates. In connection with the
securitization of manufactured housing contracts and sale of asset-backed
certificates backed by such contracts, a senior/subordinated structure was
generally utilized in which credit enhancement is provided to the senior
certificates by the subordinated certificates. A senior/subordinated structure
was utilized by the Company in its 1998 fourth quarter home equity
securitization transaction. The senior/subordinated structure does not utilize a
reserve account. The 1998 fourth quarter securitization transaction, along with
two earlier 1998 home equity loan securitization transactions which have no
reserve accounts and one of the 1997 home equity loan securitization
transactions which has a reserve account, provides for an
"overcollateralization" feature whereby the excess interest spread retained by
the Company, net of the portion thereof used to cover losses on the securitized
loans, is applied against the principal balance of the asset-backed certificates
backed by such loans. This application, in the absence of losses, accelerates
the amortization of the principal balance of the asset-backed certificates
relative to the amortization of the loans backing such certificates, so that the
principal balance of the loans will exceed the principal balance of the
certificates. This application, which is a part of the credit enhancement
provided in these securitization transactions, continues until the level of
overcollateralization equals the amount specified in the related loan sale
agreement, at which time such application ceases unless necessary to maintain
the level of overcollateralization at its required level. Regardless of the
structure of the loan sale transaction, the Company estimates the amount of
future losses under the loan sale agreements and provides a reserve for such
losses in determining the amount of gain recorded at the time of the sale and
the subsequent carrying value of the Interest-only and residual certificates.
The Company provides for estimated loan losses on loans owned by
the Company by establishing an allowance for loan losses through a charge to
earnings. The Company conducts periodic reviews of the quality of the loan
portfolio and estimates the risk of loss based upon historical loss experience,
prevailing economic conditions, estimated collateral value and such other
factors which, in management's judgment, are relevant in estimating the adequacy
of the Company's allowance for loan losses. While management uses the best
information available in conducting its evaluation, future adjustments to the
allowance may be necessary if there are significant changes in historical loss
experience, economic conditions, collateral value or other elements used in
conducting the review.
1.2(e) Other. Loans are placed on a nonaccrual status when they are past
due 150 days.
1.2(f) Property Acquired in Satisfaction of Debt. The Company records
properties received in settlement of loans ("real estate owned") at the lower of
their market value less estimated costs to sell ("market") or the outstanding
loan amount plus accrued interest ("cost"). The Company accomplishes this by
providing a specific reserve, on a property by property basis, for the
difference between market and cost. Market value is generally determined by
property valuations performed either by Company personnel or independent
appraisers. The related adjustments are included in the Company's provision for
loan losses.
1.3 Investment securities. In accordance with the provisions of Statement
of Financial Accounting Standards No. 115, "Accounting for Certain Investments
in Debt and Equity Securities", the Company classifies securities in one of
three categories: "held-to-maturity", "available-for-sale" or "trading".
Securities classified as held-to-maturity are carried at amortized cost, whereas
securities classified as trading or available-for-sale are recorded at fair
value. The adjustment, net of applicable income taxes, for securities classified
as available-for-sale is recorded in "Accumulated other comprehensive income"
and is included in Stockholders' equity on the consolidated balance sheets and
the adjustment for securities classified as trading is recorded in "Investment
income" in the consolidated statements of operations. At December 31, 1997, the
Company's investment securities primarily consisted of an investment in a
limited partnership which was sold in 1998.
1.4 Property. Property is stated at cost less accumulated depreciation.
Depreciation is computed on the straight-line and accelerated methods over the
estimated useful lives of the assets.
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1.5 Income Taxes. The Company and its subsidiaries file a consolidated
federal income tax return. The Company allocates to its subsidiaries their
proportionate share of the consolidated tax liability under a tax allocation
agreement whereby each affiliate's federal income tax provision is computed on a
separate return basis. Deferred income taxes are provided for the effect of
revenues and expenses which are reported in different periods for financial
reporting purposes than for tax purposes. Such differences result primarily from
providing for loan losses, loan income, loan sale gains and depreciation.
1.6 Cash Equivalents. For purposes of the Statements of Cash Flows, the
Company considers all highly liquid investments purchased with an original
maturity of three months or less to be cash equivalents. At December 31, 1998,
cash equivalents totaled $192 million primarily with an interest rate of 4.25%
per annum.
1.7 Accounting Standards. In June 1996, the Financial Accounting Standards
Board ("FASB") issued Statement of Financial Accounting Standards No. 125,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishment
of Liabilities" ("SFAS No. 125"). SFAS No. 125 focuses on control of the
financial asset and provides consistent standards for distinguishing transfers
of financial assets that are sales from transfers that are secured borrowings.
SFAS No. 125 provides certain conditions that must be met to determine that
control of the financial asset has been surrendered. SFAS No. 125 requires that
servicing assets and other retained interests in the transferred assets be
measured by allocating the previous carrying amount between the assets sold and
the retained interests, if any, based on their relative fair values at the date
of transfer. The Company implemented SFAS No. 125 on January 1, 1997. As a
result of the implementation of SFAS No. 125, net income for 1997 was increased
by $4.5 million or $.14 per share on a diluted basis.
In February 1998, the FASB issued Statement of Financial Accounting
Standards No. 132, "Employer's Disclosures about Pensions and Other
Postretirement Benefits -- an amendment of FASB Statements Nos. 87, 88 and 106"
("SFAS No. 132"), which is effective for fiscal years beginning after December
15, 1997. SFAS No. 132 establishes standards for disclosures about pension and
other postretirement benefit plans and does not change the current methods of
measurement or recognition of those plans. The adoption of this standard did not
have a material impact on the Company's financial statement presentation and
related disclosures.
In June 1998, the FASB issued Statement of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities" ("SFAS No. 133"). SFAS No. 133 establishes accounting and reporting
for derivative instruments, including certain derivative instruments embedded in
other contracts and for hedging activities. It requires that an entity
recognize, at fair value, all derivatives as either assets or liabilities. The
accounting for changes in the fair value of a derivative is dependent upon the
intended use of the derivative. SFAS No. 133 is effective for all periods
beginning after June 15, 2000. Earlier application of the provisions of SFAS No.
133 is encouraged, but is permitted only as of the beginning of any quarter that
begins after issuance of the Statement. Retroactive application is not allowed.
The Company is reviewing the provisions of this pronouncement but has not yet
determined the effect of its implementation on the Company's financial condition
or results of operations.
In October 1998, the FASB issued Statement of Financial Accounting
Standards No. 134, "Accounting for Mortgage-Backed Securities Retained after the
Securitization of Mortgage Loans Held for Sale by a Mortgage Banking Enterprise"
("SFAS No. 134"), which is effective for the first fiscal quarter beginning
after December 15, 1998. Early application is encouraged and is permitted as of
the issuance of the Statement. SFAS No. 134 requires that, after the
securitization of mortgage loans held for sale, any retained investment in the
related mortgage-backed securities be classified in accordance with the
provisions of SFAS No. 115, "Accounting for Certain Investments in Debt and
Equity Securities", based on the entity's ability and intent to sell or hold the
investment. Prior to SFAS No. 134, the Company was required to classify its
retained interests as a trading security even though it had no intent to dispose
of the security. Upon adoption, the Company intends to classify its
Interest-only and residual certificates as "available-for-sale" and subsequent
adjustments in carrying value will result in such adjustments being made in
Stockholders' equity (deficit) on the Company's consolidated balance sheets and
will be reflected as a component of Comprehensive income (loss) on the Company's
consolidated statements of operations. However, other than temporary declines in
values, the effects of changes in any assumptions would still have to be
recognized in income immediately. Securities subject to substantial prepayment
risk, such as the Interest-only and residual certificates, cannot be classified
as held-to-maturity. The Company is reviewing the provisions of this
pronouncement but has not yet determined the effect of its implementation on the
Company's financial condition or results of operations.
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1.8 Financial Instruments. The Company from time to time entered into
interest rate hedge mechanisms to manage its exposure to interest rate changes
in connection with the securitization and sale of its loans. The Company closed
out the hedge position to coincide with the related loan sale and securitization
transactions and recognized the results of the hedge transaction in determining
the amount of the related loan sale gain. The Company did not have any open
hedge positions at December 31, 1998 or 1997 other than the interest rate caps
discussed in the next paragraph.
The hybrid loan product originated by the Company was securitized
using floating rate certificates with rates based on the one-month London
interbank offered rate ("LIBOR"). To hedge the interest rate exposure during the
fixed rate period of these loans, the Company purchased in 1998 floating
interest rate caps, also based on one-month LIBOR, in the aggregate notional
amount of $2.6 billion which limited the exposure to rising interest rates. Each
reporting period, the Company marks-to-market the value of these hedges. At
December 31, 1998 the fair market value of the Company's interest rate caps was
approximately $4.8 million. In February 1999, a $1.6 billion notional amount
interest rate cap owned by the Company was sold for $3.2 million resulting in a
loss of approximately $1.0 million, leaving at July 31, 1999, approximately $560
million of the Company's hybrid loan portfolio protected and the remaining $863
million unprotected.
1.9 Basic and Diluted Earnings (Loss) Per Common Share. Basic earnings
(loss) per share ("EPS") excludes dilution and is computed by dividing earnings
by the weighted average number of common shares outstanding for the period.
Diluted EPS reflects the potential dilution that could occur if securities or
other contracts to issue common stock were exercised or converted into common
stock or resulted in the issuance of common stock that then shared in the
earnings (loss) of the entity.
1.10 Reclassifications. Certain prior year amounts have been reclassified
to conform with the current year presentation. Such reclassifications had no
effect on net income.
1.11 Use of Estimates. The preparation of financial statements in
conformity with generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities 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.
2. SUBSEQUENT EVENTS-PROCEEDINGS UNDER CHAPTER 11.
On March 1, 1999, the Company and 11 of its wholly-owned subsidiaries
(collectively, the "Debtors") filed petitions for reorganization under Chapter
11 of Title 11 of the United States Code ("the Bankruptcy Code"). The petitions
were filed in the United States Bankruptcy Court for the District of Delaware
(the "Bankruptcy Court") under case numbers 1119900451-461(the "Chapter 11
Cases"). The Chapter 11 Cases have been procedurally consolidated for
administrative purposes. The Debtors continue to manage their affairs and
operate their businesses as debtors-in-possession while the Chapter 11 Cases are
pending. As debtors-in-possession, the Debtors may not engage in transactions
outside of the ordinary course of business without approval, after notice and
hearing, of the Bankruptcy Court. As part of the Chapter 11 Cases, the Debtors
intend to develop a plan or plans of reorganization that will restructure their
respective liabilities. Such plans will be subject to the approval of the
Bankruptcy Court in accordance with Section 1129 of the Bankruptcy Code.
Generally, actions to enforce or otherwise effect repayment of all
prepetition liabilities as well as all pending litigation against the Debtors
are stayed while the Debtors continue their business operations as
debtors-in-possession. Schedules have been filed by the Debtors with the
Bankruptcy Court setting forth the assets and liabilities of the Debtors as of
the filing date as reflected in the Debtors' accounting records. Differences
between amounts reflected in such schedules and claims filed by creditors will
be investigated and amicably resolved or adjudicated before the Bankruptcy Court
or such other court, tribunal or board of competent jurisdiction. The ultimate
amount and settlement terms for such liabilities are subject to a plan or plans
of reorganization, and accordingly, are not presently determinable.
9
10
Under the Bankruptcy Code, the Debtors may elect to assume or
reject real estate leases, employment contracts, personal property leases,
service contracts and other executory pre-petition contracts, subject to
Bankruptcy Court review. The Company cannot presently determine or reasonably
estimate the ultimate liability that may result from rejecting leases or from
the filing of claims for any rejected contracts, and no provisions have been
made for these items in the accompanying consolidated financial statements of
the Company.
Subsequent to the filing of the Chapter 11 Cases, the Debtors
entered into a Post Petition Loan and Security Agreement (the "Loan Agreement")
with Greenwich Capital Financial Products, Inc. and The CIT Group/Business
Credit, Inc. and a Post Petition Whole Loan Purchase Facility (the "Purchase
Facility") with Greenwich Capital Financial Products, Inc. to provide secured
debtor-in-possession financing. The Loan Agreement provides for borrowings, on a
revolving basis, dependent upon the Debtors' level of inventory of mortgage
loans and initially was established at $150 million with provisions to increase
the maximum amount to $300 million, with Bankruptcy Court approval. The Purchase
Facility provides for a commitment to purchase up to $500 million of qualifying
loans. The Purchase Facility was initially approved up to $75 million with
provisions to increase the maximum limit to $500 million at a later date. In
May, 1999, the Bankruptcy Court issued a final order confirming the
debtor-in-possession financing at the interim aggregate level of $225 million,
of which $150 million was available under the Loan Agreement and $75 million was
available under the Purchase Facility. At July 31, 1999, the Debtors had $10.5
million outstanding under the Loan Agreement.
On March 22, 1999, the Company announced that it would close its
GINGER MAE subsidiary after efforts to sell that business were unsuccessful. As
of July 31, 1999, the closure of this unit, as well as the previously announced
closure of its correspondent (Unicor) and manufactured housing (United Companies
Funding) lending units, had been completed.
The Company also announced on March 22, 1999 its decision to market
for sale its home equity loan retail lending platform. On April 16, 1999, the
Company announced that it had accepted a bid from Aegis Mortgage Corporation
("Aegis") to purchase 127 retail branches, subject to Bankruptcy Court approval.
The Company also announced that it would close its remaining retail loan
origination branches, thereby exiting all loan origination channels. On April
26, 1999, the Company and certain of its affiliates (the "Sellers") entered into
an Asset Purchase Agreement (the "Asset Purchase Agreement") with Aegis and
Cerberus Partners, L.P., whereby the Sellers agreed to sell to Aegis certain
assets of their loan origination business for a purchase price of (i)
$3,000,000, plus (ii) certain agreed upon expenses incurred during the month of
May, 1999 equal to $7,300,000. The assets sold under the Asset Purchase
Agreement included (i) loans originated by the Sellers prior to the closing date
which had not been funded and closed as of such date, (ii) all rights of the
Sellers under certain of the various contracts and leases relating to the loan
origination business, (iii) certain of the computer software relating to such
business, and (iv) the UC Lending(R) tradename. By order dated May 11, 1999, the
Bankruptcy Court approved the sale pursuant to the terms of the Asset Purchase
Agreement. The Aegis transaction closed on June 1, 1999. The net assets and
resulting loss relating to this sale were not material to the consolidated
financial statements of the Company.
The accompanying consolidated financial statements have been
prepared in accordance with generally accepted accounting principles which
contemplate a going concern basis of accounting and do not reflect any
adjustments that might result if the Company is unable to continue as a going
concern. The Company's recent losses from operations and the related Chapter 11
Cases raise substantial doubt about the Company's ability to continue as a going
concern. The appropriateness of using the going concern basis is dependent upon,
among other things, (i) the Company's ability to comply with the debtor-
in-possession financing agreements approved by the Bankruptcy Court, (ii)
confirmation of a plan of reorganization under the Bankruptcy Code, (iii) the
Company's ability to achieve profitable operations after such confirmation, (iv)
the Company's ability to retain the servicing of its securitized home equity
loans and manufactured housing contracts (see Note 14), and (v) the Company's
ability to generate sufficient cash from operations to meet its obligations.
A plan or plans of reorganization could materially change the
amounts currently recorded in the financial statements. The financial statements
do not give effect to any adjustment to the carrying value of assets or amounts
and classifications of liabilities that might be necessary as a result of the
Chapter 11 Cases.
10
11
3. INTEREST-ONLY AND RESIDUAL CERTIFICATES -- NET
On and prior to December 31, 1998, the Company sold substantially all of
the loans it originated as asset-backed securities and generally retained the
servicing rights on loans sold. In its securitization transactions, the Company
received, in addition to cash proceeds, Interest-only and residual certificates
created as a result of such securitizations. In addition, the Company also
recognized as an asset the capitalized value of mortgage servicing rights. These
assets constitute a substantial portion of the Company's total assets and loan
sale gains resulting from securitizations represent the largest component of the
Company's revenues.
Realization of the value of these Interest-only and residual certificates
and Capitalized mortgage servicing rights in cash is subject to the prepayment
and loss characteristics of the underlying loans and to the timing and ultimate
stream of cash flows associated with such loans. In its determination of the
fair value of the Interest-only and residual certificates at the time of the
sale of the loans, the Company used prepayment, default and loss severity
assumptions based on the actual experience of the Company's serviced portfolio
for home equity loans, expected future performance, and comparable industry
prepayment statistics for manufactured housing contracts. On a quarterly basis,
the Company reviews the fair value of the Interest-only and residual
certificates by analyzing its prepayment and other assumptions in relation to
its actual experience, and, if necessary, adjusts the carrying value of the
Interest-only and residual certificates to such value through a charge or credit
to earnings. The assumptions utilized by the Company as a result of such review
and analysis, and the consequent writedown to the carrying value of the
Interest-only and residual certificates, as of December 31, 1998, are described
below in this Note 3.
The Company was unable, during and subsequent to the fourth quarter of
1998, to reach a satisfactory restructuring of its $850 million unsecured credit
facility, which was a factor in the Company's ability to accomplish its
restructuring plan. In addition, in December 1998, the Company used a
senior/subordinate structure for its home equity loan securitization transaction
as it was unable to utilize, on acceptable terms, a structure in which the
publicly sold asset-backed securities are insured by a third-party certificate
insurer. In addition, the servicing for this securitization transaction was not
retained by the Company because acceptable terms for such retention were
unavailable. These factors, the repercussions affecting the "subprime" industry
in general, the bankruptcy filing discussed in Note 2, and the other factors
discussed herein were considered by the Company in its review and analysis, and
in the revisions made by it to its assumptions as of December 31, 1998, as
discussed in the following paragraphs.
The following prepayment assumptions were used by the Company as of
December 31, 1998, in the valuation of its Interest-only and residual
certificates:
o A life-to-date prepayment speed (i.e., an average lifetime prepayment
speed) of 30.1%, based on a seasoning curve, for the Company's fixed
rate loan products. The curve begins at 4% in month one, increases to
34% in month fifteen and stays constant until month 26, ramps down to
30% in month 44 and remains constant at this rate until maturity. At
December 31, 1998, the Company had $3.7 billion in fixed rate home
equity loans in its servicing portfolio.
o A life-to-date prepayment speed of 33.3%, based on a seasoning curve,
for the Company's adjustable rate loan products ("ARMs"). The curve
begins at 14% in month one, peaks at 39% in month twelve, decreases to
38% in month 16 and remains at this rate until month 36, ramps down to
30% in month 44 and remains constant at this rate until maturity. At
December 31, 1998, the Company had $0.9 billion in ARMs in its
servicing portfolio.
o Generally a life-to-date prepayment speed of 30.5%, based on a
seasoning curve, for the Company's hybrid loan products, i.e., loan
products that have coupon rates fixed for two or three years and that
become adjustable thereafter. The curve begins at 4% in month one,
ramps to 35% in month fifteen and stays constant until month 20, ramps
down to 30% in month 44 and remains constant at this rate until
maturity. At December 31, 1998, the Company had $1.8 billion in hybrid
loans in its servicing portfolio, of which $1.5 billion originally had
rates fixed for three years.
11
12
The following prepayment assumptions were used by the Company as of
December 31, 1997, in the valuation of its Interest-only and residual
certificates:
o A life-to-date prepayment speed of 24%, based on a seasoning curve ,
for the Company's fixed rate loan products. The curve begins at 9% in
month one, increases to 27% in month twelve, increases to 30% in month
20 and stays constant until month 36, ramps down to 17% in month 53 and
remains constant at this rate until maturity. At December 31, 1997, the
Company had $3.2 billion in fixed rate home equity loans in its
servicing portfolio.
o A life-to-date prepayment speed of 28%, based on a seasoning curve, for
the Company's ARMs. The curve begins at 14% in month one, reaches 32%
by month 12, increases to 34% in month 18 and stays constant until
month 28 when it declines to 33% and remains at this rate until month
48, then ramps down to 17% in month 56 and remains at 17% until
maturity. At December 31, 1997, the Company had $1.1 billion in ARMs in
its servicing portfolio.
o Generally, a life-to-date prepayment speed of 24%, based on a seasoning
curve, for the Company's hybrid loan products. The curve begins at 4%
in month one, increases to 22% in month 12, continues to increase to
30% in month 30 and stays constant until month 40, ramps down to 20% by
month 56 and remains constant at this rate until maturity. At December
31, 1997, the Company had $1.0 billion in hybrid loans in its servicing
portfolio, of which $644 million had rates fixed for three years.
The other assumptions used by the Company in its valuation of its home
equity loan Interest-only and residual certificates as of December 31, 1998 were
as follows: the Company used an effective discount rate assumption of
approximately 22% on cash flows (net of the related allowance for loan losses)
from its home equity loan securitization transactions expected to be received by
the Company, including certain cash in the related reserve accounts. The Company
used projected cumulative undiscounted losses of approximately 770 basis points
for all its home equity loan products.
The other assumptions used by the Company in its valuation of its home
equity loan Interest-only and residual certificates as of December 31, 1997,
were as follows: the Company used an effective discount rate assumption of
approximately 9% on cash flows (net of the related allowance for loan losses)
from its home equity loan securitization transactions expected to be received by
the Company, including certain cash in the related reserve accounts. The Company
used projected cumulative undiscounted losses of approximately 250 basis points
for its fixed rate home equity loan products and 200 basis points for its ARMs
and hybrid home equity loan products.
The following information describes the assumptions used by the Company as
of December 31, 1998, in the valuation of its manufactured housing product
Interest-only and residual certificates:
At December 31, 1998, the Company maintained its prepayment and loan loss
assumptions while increasing the discount rate assumption. The prepayment
assumption used by the Company assumed a life-to-date prepayment speed of 8.7%,
based on a seasoning curve that begins at 5.55% in month one, ramps up to 9.0%
by month 24 and remains constant at 9.0% until maturity. At December 31, 1998
the Company had $721 million of manufactured housing loans in its servicing
portfolio. The effective discount rate assumption used by the Company was
increased from approximately 12% at December 31, 1997, to 18% at December 31,
1998 based on cash flows (net of the related allowance for loan losses) expected
to be received by the Company from its manufactured housing product
securitization transactions. The Company used projected cumulative undiscounted
losses of approximately 685 basis points for all its manufactured housing
products.
12
13
A summary analysis of the changes in the Company's Interest-only and
residual certificates, net of the allowance for loan losses, for the indicated
periods is as follows:
YEAR ENDED DECEMBER 31,
----------------------------
1998 1997
------------ ------------
(in thousands)
Balance, beginning of year ...................................... $ 882,116 $ 604,474
Interest-only and residual certificates on loans sold ........... 345,530 355,743
Net increase in allowance for losses on loans sold(1) ........... (100,270) (33,462)
Net increase in required levels of reserve accounts and
overcollateralization ...................................... 173,570 138,070
Writedown on Interest-only and residual certificates-net ....... (605,562) --
Amortization of Interest-only and residual certificates ......... (232,880) (182,709)
------------ ------------
Balance, December 31 ............................................ $ 462,504 $ 882,116
============ ============
(1) Excludes amount of writedown set forth in this table
The following schedule sets forth the components of the Interest-only and
residual certificates owned by the Company at the indicated dates, which are
recorded at fair value:
DECEMBER 31,
----------------------------
1998 1997
------------ ------------
(in thousands)
Certificated interests .................................. $ 405,385 $ 599,426
Reserve accounts and overcollateralization levels (1) ... 562,823 389,253
Allowance for losses on loans serviced .................. (505,704) (106,563)
------------ ------------
Total .............................................. $ 462,504 $ 882,116
============ ============
(1) At December 31, 1998 and 1997, includes $500.3 million and $383.0
million, respectively, in temporary investment-reserve accounts and
$62.5 million and $6.3 million, respectively, in overcollateralization
levels.
During the fourth quarter of 1998, the Company recorded a $605.6 million
writedown to the valuation of its Interest-only and residual certificates, net
of the allowance for loan losses. The writedown resulted from a $306.7 million
negative adjustment to the Interest-only and residual certificates and a $298.9
million increase to the allowance for loan losses. The writedown to the
Interest-only and residual certificates, net of the allowance for loan losses,
consisted of (1) $160.8 million from an increase in the effective discount rate
assumptions applied by it to expected future cash releases from the
securitization trusts; (2) $338.3 million from an increase in its estimated
cumulative credit loss rate; (3) $69.5 million from increasing its prepayment
speed assumptions; (4) $20.0 million from the estimated impact of delinquency
triggers in the related securitization trusts which require increased levels of
reserve accounts and overcollateralization under specified circumstances; and
(5) $17.0 million from marking certain subordinated certificates retained by the
Company in securitization transactions to estimated market value.
The Company raised its discount rate assumption at December 31, 1998 as
described above to reflect, in addition to the other factors described herein,
market expectations for a higher rate of return in this asset class and the
effect of the distressed state of the Company. Additionally, the Company raised
its estimate as of December 31, 1998, of the cumulative undiscounted credit loss
assumption on all home equity loan products as described above to reflect, in
addition to such other factors, anticipated increased loss severity, higher out
of pocket costs of disposal of repossessed properties and deteriorating
delinquency in the portfolio of loans serviced.
A modest change in the prepayment speed, credit loss and discount rate
assumptions used by the Company in the valuation of its Interest-only and
residual certificates can have a relatively large impact on the fair value of
this asset. The table below illustrates the impact of a positive or negative
change in a single assumption used by the Company to determine the fair value of
the related Interest-only and residual certificates while keeping the absolute
value of the other two assumptions constant. The impact of changes in the
assumptions is not linear. As of December 31, 1998, changes in the assumptions
would have approximately the following impact on the fair value of this asset:
13
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ASSUMPTION CHANGE FAIR VALUE IMPACT
---------- ------ -----------------
Life-to-date prepayment speed +100 basis points $(10 million)
Life-to-date prepayment speed -100 basis points $ 10 million
Cumulative undiscounted losses + 10 basis points $ (7 million)
Cumulative undiscounted losses - 10 basis points $ 7 million
Discount rate +100 basis points $ (6 million)
Discount rate -100 basis points $ 6 million
The following table reflects the composition of finance income, fees earned
and other loan income for the periods indicated:
YEAR ENDED DECEMBER 31,
--------------------------------------------
1998 1997 1996
------------ ------------ ------------
(IN THOUSANDS)
Servicing fees and excess interest collected ......... $ 268,568 $ 193,369 $ 134,668
Loan origination fees ................................ 145,191 110,348 83,932
Loan interest ........................................ 40,504 23,579 19,868
Other loan income .................................... 5,171 13,229 9,621
Amortization of Interest-only and
residual certificates ............................. (232,880) (182,709) (127,602)
Amortization of Capitalized mortgage
servicing rights .................................. (34,125) (9,272) (2,879)
Additional provision for losses on serviced loans .... (63,830) (9,515) 5,218
------------ ------------ ------------
Total ...................................... $ 128,599 $ 139,029 $ 122,826
============ ============ ============
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4. LOANS -- NET
4.1 Loans Owned. The following schedule sets forth the components of Loans
owned by the Company at December 31, 1998 and 1997:
DECEMBER 31,
----------------------------
1998 1997
------------ ------------
(IN THOUSANDS)
Loans held for sale .............................. $ 120,245 $ 120,316
Other loans ...................................... 97,030 50,200
------------ ------------
Total ................................. 217,275 170,516
Real estate owned:
Home equity ................................. 4,482 6,365
Commercial and other ........................ 1,886 3,173
Nonrefundable loan fees .......................... (4,896) (2,760)
Other ............................................ (1,148) (1,396)
------------ ------------
Total ................................. 217,599 175,898
------------ ------------
Less:
Allowance for loan losses ................... (26,317) (3,691)
------------ ------------
$ 191,282 $ 172,207
============ ============
Included in Other loans at December 31, 1998 and 1997 were nonaccrual
loans totaling $17.0 million and $10.1 million, respectively.
4.2 Loans Serviced. The following table sets forth the loans serviced by
the Company for third parties at December 31, 1998 and 1997, by type of loan.
The serviced portfolio at December 31, 1998 includes approximately $697.5
million of loans sold on a servicing released basis in the fourth quarter of
1998 on which the servicing was transferred in the first quarter of 1999.
Substantially all of these loans were originated by the Company:
DECEMBER 31,
---------------------------
1998 1997
------------ ------------
(IN THOUSANDS)
Home equity ............................ $ 6,352,920 $ 5,353,429
Manufactured housing contracts (1) ..... 720,522 295,012
Other .................................. 22,657 33,319
------------ ------------
Total ........................ $ 7,096,099 $ 5,681,760
============ ============
(1) At December 31, 1997, approximately $135.9 million land-and-home
contracts were included in home equity loans that are classified as
manufactured housing contracts at December 31, 1998.
15
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4.3 Loan Loss Allowances. The Company provides an estimate for future
credit losses in an Allowance for loan losses for loans owned by the Company and
for loans serviced for others. These allowance accounts are deducted in the
Company's balance sheet from the asset to which they apply.
YEAR ENDED DECEMBER 31, 1998
--------------------------------------------
OWNED SERVICED TOTAL
------------ ------------ ------------
(IN THOUSANDS)
Allowance for loan losses, beginning of period ........ $ 3,691 $ 106,563 $ 110,254
Provision for loan losses ............................. 4,369 150,016 154,385
Additional provision for loan losses - valuation
adjustment ..................................... 22,555 298,871 321,426
Net loans charged off (1) ............................. (4,298) (49,746) (54,044)
------------ ------------ ------------
Allowance for loan losses, end of period .............. $ 26,317 $ 505,704 $ 532,021
============ ============ ============
YEAR ENDED DECEMBER 31, 1997
------------ ------------ ------------
OWNED SERVICED TOTAL
------------ ------------ ------------
(IN THOUSANDS)
Allowance for loan losses, beginning of period ....... $ 4,141 $ 73,102 $ 77,243
Provision for loan losses ............................ 3,955 62,804 66,759
Net loans charged off (1) ............................ (4,405) (29,343) (33,748)
------------ ------------ ------------
Allowance for loan losses, end of period ............. $ 3,691 $ 106,563 $ 110,254
============ ============ ============
(1) Excludes accrued interest
As of December 31, 1998, approximately $6.3 billion of home equity
loans sold were serviced under agreements substantially all of which provide for
the subordination of cash and excess interest spread owned by the Company for
credit losses. The maximum recourse associated with sales of home equity loans
according to the terms of the loan sales agreements was approximately $1.6
billion at December 31, 1998, substantially all of which relates to the
subordinated cash and excess interest spread. The Company's estimate of its
losses on home equity loans, based on historical loan loss experience, was
approximately $476.9 million at December 31, 1998 and is recorded in the
Company's allowance for loan losses on serviced loans. In addition, at December
31, 1998, the maximum recourse associated with the sale of approximately $721
million of manufactured housing contracts in securitization transactions
according to the related contract sale agreements was approximately $67 million.
The Company's estimate of its losses on these contracts, based on industry loss
statistics, was approximately $28.8 million and is also recorded in the
Company's allowance for loan losses on serviced loans. The allowance for loan
losses on serviced loans is reflected as a reduction in the Company's
Interest-only and residual certificates (See Note 3). Should credit losses on
loans sold with limited recourse, or subordination of cash and excess interest
spread owned by the Company, materially exceed the Company's estimate for such
losses, such consequence will have a material adverse impact on the Company's
operations.
4.4 Concentration of Credit Risk. The Company's serviced portfolio is
geographically diversified. Although the Company serviced mortgage loans in 50
states and the District of Columbia, at December 31, 1998, a substantial portion
of home equity loans serviced were originated or acquired in California (9.3%),
Louisiana (7.8%), Florida (6.6%), Ohio (6.3%) and North Carolina (5.3%),
respectively, and no other state accounted for more than 4.7% of the serviced
portfolio. The portfolio of manufactured housing contracts serviced were
originated primarily in South Carolina (15.6%), Texas (13.6%), and North
Carolina (12.8%). The risk inherent in such concentrations is dependent not only
upon regional and general economic stability which affects property values, but
also the financial well-being and creditworthiness of the borrower.
4.5 Commitments. The Company used a prefunding feature in connection with
its loan securitization transactions. At December 31, 1998 approximately $52
million was held in a prefunding account for the purchase of the Company's loans
during the first quarter of 1999. Such loans were delivered in February, 1999.
16
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5. PROPERTY -- NET
Property is summarized as follows as of the indicated dates:
DECEMBER 31,
----------------------------
1998 1997
------------ ------------
(IN THOUSANDS)
Land and buildings ..................... $ 23,911 $ 41,442
Furniture, fixtures and equipment ...... 37,515 34,926
------------ ------------
Total ........................ 61,426 76,368
Less accumulated depreciation .......... (15,543) (14,318)
------------ ------------
Total ........................ $ 45,883 $ 62,050
============ ============
During 1998, the Company sold real estate investment property with a
carrying value of $24.3 million and recognized a $8.3 million gain on the sale
of these assets.
Rental expense on operating leases, including real estate, computer
equipment and automobiles, totaled $13.5 million, $11.8 million and $9.3 million
during 1998, 1997 and 1996, respectively. Minimum annual commitments at December
31, 1998 under operating leases that are noncancellable, except those that may
be rejected in the Chapter 11 Cases (see Note 2), are as follows (in thousands):
1999.................................................... $ 11,397
2000.................................................... 8,709
2001.................................................... 5,470
2002.................................................... 2,683
2003.................................................... 1,138
--------------
Total......................................... $ 29,397
==============
6. CAPITALIZED MORTGAGE SERVICING RIGHTS
The following table summarizes the activity in Capitalized mortgage
servicing rights for 1998 and 1997:
YEAR ENDED DECEMBER 31,
----------------------------
1998 1997
------------ ------------
(IN THOUSANDS)
Balance, beginning of year ........ $ 48,760 $ 23,806
Capitalized amount ................ 25,513 34,226
Amortization ...................... (34,125) (9,272)
------------ ------------
Balance, end of year .............. $ 40,148 $ 48,760
============ ============
Amortization in the year ended December 31, 1998 includes the impact of the
increase in the assumed prepayment speeds and the estimated costs of servicing
loans in the future.
See Note 14 for a discussion of the contingencies relating to the Company's
servicing activities.
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7. NOTES PAYABLE
Notes payable consisted of the following at the dates indicated:
DECEMBER 31,
---------------------------
1998 1997
------------ ------------
(IN THOUSANDS)
Senior debt:
7% Senior unsecured notes due July, 1998 .............. $ -- $ 100,000
9.35% Senior unsecured notes due November, 1999 ....... 125,000 125,000
7.7% Senior unsecured notes due January, 2004 ........ 100,000 100,000
Revolving credit facility ............................. 825,882 192,550
Warehouse facilities .................................. 2,962 4,665
ESOP debt ............................................. 8,950 10,466
------------ ------------
Total senior debt ............................. 1,062,794 532,681
------------ ------------
Subordinated debt:
8.375% Subordinated unsecured notes due July, 2005 .... 149,231 149,145
Subordinated debentures ............................... 7,000 10,000
------------ ------------
Total ............................................ $ 1,219,025 $ 691,826
============ ============
At December 31, 1998 (based on computations completed thereafter), the
Company was not in compliance with certain of the financial covenants relating
to its debt and, having not cured such non-compliance within the applicable cure
periods, is in default thereunder.
In April 1997, the Company entered into an $800 million senior unsecured
revolving credit facility (the "Credit Facility") syndicated with a total of 22
participating lenders and, in July 1998, the Credit Facility was increased to
$850 million. The Company used a portion of the proceeds from this three-year
credit facility to refinance existing debt and used the remaining proceeds for
general corporate purposes, including interim funding of loan originations. A
portion of the amount available under the Credit Facility could be used to have
letters of credit issued for the Company's account. The Company deposited
letters of credit in lieu of depositing cash in the related reserve accounts in
certain securitization transactions. As of December 31, 1998, the aggregate
principal amount of loans outstanding under the Credit Facility was $826 million
and letters of credit in the maximum amount of approximately $24 million,
deposited in lieu of cash in the related reserve accounts, were issued under the
Credit Facility for the Company's account. As a result, at December 31, 1998,
the commitment under the Credit Facility was fully utilized. The amount of these
letters of credit outstanding as of December 31, 1997 and 1998, respectively,
are not included in Notes payable. However, to the extent there may be a draw in
the future on the letters of credit, the amount of such draw will increase Notes
payable under "Revolving credit facility".
On February 3, 1999, the Company announced that it was experiencing
difficulties in generating the liquidity necessary to maintain home equity loan
production at levels contemplated by its previously announced restructuring
plan. As a result of the financial condition of the Company at the time, there
was also no availability under warehouse facilities that it had with First Union
National Bank ("First Union") and other lenders. As an interim measure, on
February 5, 1999, the Company obtained a short term repurchase facility from
First Union in the amount of $40 million which was repaid on March 9, 1999, from
proceeds under the Company's debtor-in-possession financing. See Note 2.
The Company maintained at December 31, 1997, in addition to the Credit
Facility, two other sources of financing for its home equity loan originations:
a warehouse facility provided by the investment banker which acted as lead
underwriter for the Company's 1997 fourth quarter home equity loan
securitization (the "Investment Bank Warehouse"), and a warehouse facility
provided by United Companies Life Insurance Company ("UCLIC"). The Investment
Bank Warehouse was directly related to the 1997 fourth quarter home equity loan
securitization, initially provided for funding up to $300 million of eligible
home equity loans for such securitization and terminated upon the closing of the
last delivery of loans under the prefunding accounts relative to this
securitization. As of December 31, 1997, $150 million was available and no
amounts were outstanding under the Investment Bank Warehouse. At December 31,
1998, there was no similar warehouse facility available to the Company. The
warehouse facility provided by UCLIC, which was
18
19
established upon the sale of UCLIC, initially provided for the purchase of up to
$300 million in first mortgage residential loans and matured in July 1999.
During 1997, the Company reduced the commitment under this facility to $150
million. At December 31, 1998, the Company had the right for a limited time to
repurchase certain loans which were eligible for securitization and as of
December 31, 1998, $3.0 million in loans eligible for securitization were funded
under this facility. At December 31, 1998, UCLIC had informed the Company that
it would not honor any additional funding under this facility.
In June 1997, the Company publicly sold $150 million of its subordinated
unsecured notes (the "Subordinated Notes"). The Subordinated Notes provide for
interest payable semi-annually and are not redeemable prior to their maturity on
July 1, 2005. The Subordinated Notes bear interest at 8.375% per annum and were
issued at a discount from par. Such discount is being amortized using the
effective interest method as an adjustment to yield over the life of the
Subordinated Notes resulting in an effective interest rate on the Subordinated
Notes of 8.48% per annum. The terms of the Subordinated Notes provide that they
rank subordinate and junior in right of payment to the prior payment of all
existing and future senior indebtedness of the Company.
In December 1996, the Company publicly sold $100 million of its senior
unsecured notes. The December 1996 notes matured and were paid in July of 1998.
The Company previously publicly sold $125 million and $100 million of its senior
unsecured notes which mature in November 1999 and January 2004, respectively.
All of these notes provide for interest payable semi-annually and are not
redeemable prior to maturity. The terms of these notes provide that they rank on
a parity with other unsecured and unsubordinated indebtedness of the Company.
The net proceeds from the sale of these notes were used for working capital
purposes.
At December 31, 1997, the Company also had arrangements with banks
providing for short-term unsecured borrowings of up to $9.5 million, none of
which was outstanding at December 31, 1997. Borrowings under these lines of
credit bore interest at market or prime rates. No similar arrangements existed
at December 31, 1998.
In May 1993, United Companies Lending Corporation, a wholly-owned
subsidiary of the Company, entered into a subordinated debenture agreement with
UCLIC. In connection with this agreement, this subsidiary borrowed $10 million
from UCLIC, $3 million of which matured and was paid in 1998, $3 million of
which matures in 2000 and bears an interest rate of 6.64% per annum and $4
million of which matures in 2003 and bears an interest rate of 7.18% per annum.
The Company made payments for interest of $77.3 million, $40.9 million and
$34.4 million during the years ended December 31, 1998, 1997 and 1996,
respectively.
The Company takes no position with respect to the accrual of interest, if
any, on its secured and unsecured claims in connection with the Chapter 11
Cases. See Note 2.
8. INCOME TAXES (BENEFIT)
The provision (benefit) for income taxes attributable to continuing
operations is as follows:
YEAR ENDED DECEMBER 31,
-------------------------------------------
1998 1997 1996
------------ ------------ ------------
(IN THOUSANDS)
Current .......................................... $ 10,624 $ 7,337 $ 36,193
Deferred ......................................... (95,393) 37,324 11,235
------------ ------------ ------------
Total .................................. $ (84,769) $ 44,661 $ 47,428
============ ============ ============
19
20
Reported income tax expense attributable to continuing operations differs
from the amount computed by applying the statutory federal income tax rate to
consolidated income from continuing operations before income taxes for the
following reasons:
YEAR ENDED DECEMBER 31,
--------------------------------------------
1998 1997 1996
------------ ------------ ------------
(IN THOUSANDS)
Federal income tax (benefit) at statutory rate .................. $ (220,405) $ 44,397 $ 47,242
Differences resulting from:
Increase in valuation reserve (continuing operations) ..... 134,892 -- --
State income taxes ......................................... 813 1,224 770
Other ...................................................... (69) (960) (584)
------------ ------------ ------------
Reported income tax provision (benefit) ......................... $ (84,769) $ 44,661 $ 47,428
============ ============ ============
The significant components of the Company's net deferred income tax
liability at December 31, 1998 and 1997 are as follows:
DECEMBER 31,
----------------------------
1998 1997
------------ ------------
(IN THOUSANDS)
Deferred income tax assets:
Losses not currently deductible ........ $ 63,245 $ --
Allowance for loan losses .............. 86,927 (12)
Nonrefundable loan fees ................ 2,631 965
Investments ............................ 504 504
Net operating loss carryforward ........ 17,500
Other .................................. (31) 1,796
------------ ------------
Deferred income tax assets .................. 170,776 3,253
Valuation reserve ........................... (142,222) --
------------ ------------
Net deferred tax asset ...................... 28,554 3,253
------------ ------------
Deferred income tax liabilities:
Loan income ............................ -- 75,404
Mortgage servicing rights .............. 17,374 17,066
Real estate ............................ 3,780 4,311
Other .................................. 7,400 1,857
------------ ------------
28,554 98,638
------------ ------------
Net deferred income tax liability ........... $ -- $ 95,385
============ ============
Payments made for income taxes during the years ended December 31, 1998,
1997 and 1996 were $5.5 million, $1.6 million and $32.2 million, respectively.
At December 31, 1998 and 1997, the Company had a current income tax
receivable of $4.7 million and $6.7 million, respectively, included in "Other
assets". At December 31, 1998, the Company had a net operating loss carryforward
of approximately $50 million which, if not utilized, will expire in the year
2018.
9. CAPITAL STOCK
The Company has authorization to issue up to 100,000,000 shares of its
$2.00 par value common stock. There were 29,172,916 and 28,791,239 shares
outstanding at December 31, 1998 and 1997, respectively, excluding 1,180,117 and
1,180,117 treasury shares. The Company also has authorization to issue
20,000,000 shares of preferred stock of which 1,657,770 shares are currently
issued (see discussion of "PRIDES(SM)" below). Included in the authorized
preferred stock
20
21
are 1,000,000 shares of Series A Junior Participating preferred stock and
800,000 shares of Cumulative Convertible preferred stock, none of which is
outstanding. In October, 1998, the Company suspended indefinitely payment of
future dividends on the Company's common and preferred stock.
On June 16, 1995, the Company concluded the sale of 1,955,000 shares of its
Preferred Redeemable Increased Dividend Equity Securities(SM), 6 3/4%
PRIDES(SM), Convertible Preferred Stock, par value $2.00 per share
("PRIDES(SM)"), at a price per share of $44.00. The terms of the PRIDES(SM)
provide that dividends on them are cumulative and are payable quarterly in
arrears on each January 1, April 1, July 1 and October 1. Net proceeds to the
Company were approximately $83.3 million. The net proceeds from the sale of
shares of PRIDES(SM) were used for general corporate purposes. During 1998 and
1997, 240,300 and 56,930 shares of PRIDES(SM) were converted into 397,205 and
94,102 shares of the Company's common stock, respectively.
The terms of the PRIDES(SM) provide that they rank prior to the Company's
common stock as to payment of dividends and distribution of assets upon
liquidation. Such terms also provide that the shares of PRIDES(SM) mandatorily
convert into shares of common stock on July 1, 2000 (the "Mandatory Conversion
Date") on a two share to one share basis (as adjusted for the 100% common stock
dividend paid October 20, 1995), and that the shares of PRIDES(SM) are
convertible into shares of common stock at the option of the holder at any time
prior to the Mandatory Conversion Date on the basis of 1.652 of a share of
common stock for each share of PRIDES(SM), in each case subject to adjustment in
certain events. In addition, such terms provide that the Company has the option
to convert the shares of PRIDES(SM), in whole or in part, on or after July 1,
1998 until the Mandatory Conversion Date, into shares of its common stock
according to a formula. Upon such conversion, the Company will be required to
pay, in cash, any dividends in arrears on the PRIDES(SM) from funds legally
available therefor.
The terms of the PRIDES(SM) are subject to the terms of a plan of
reorganization for the Company which may be confirmed in the Chapter 11 Cases.
During 1998 and 1997, the Company paid cash dividends on its common stock
in the amount of $6.8 million and $9.0 million, or $.24 and $.32 per share,
respectively. In addition, during 1998 and 1997, the Company paid cash dividends
on its PRIDES(SM) in the amount of $4.2 million and $5.8 million or $2.2275 and
$2.97 per share, respectively. At December 31, 1998, the Company has a dividend
payable on its PRIDES(SM) of $1.2 million. As discussed above, payment of cash
dividends on the Company's common and preferred stock have been suspended
indefinitely.
At December 31, 1998 and 1997, 1,180,117 shares of the Company's common
stock, or 4% of the issued common stock, were held as treasury stock at a cost
of $7.4 million.
21
22
10. EARNINGS (LOSS) PER SHARE
The following table sets forth the computation of basic and diluted
earnings (loss) per share for the periods indicated:
YEAR ENDED DECEMBER 31,
-----------------------------------------
1998 1997 1996
----------- ----------- -----------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Basic Earnings (Loss) Per Share
Income (loss) from continuing operations.......................... $ (543,931) $ 82,187 $ 87,549
Less: Income (loss) from discontinued operations.................. (39,965) (7,587) (5,889)
----------- ---------- ----------
Net (loss) income................................................. $ (583,896) $ 74,600 $ 81,660
=========== ========== ==========
Weighted average number of common and common equivalent shares:
Average common shares outstanding............................... 28,148 28,013 27,929
Add: Dilutive effect of preferred stock after
application of "if converted" method...................... -- 3,211 3,230
----------- ---------- ----------
28,148 31,224 31,159
=========== ========== ==========
Earnings (loss) per share:
Income (loss) from continuing operations........................ $ (19.32) $ 2.63 $ 2.81
Income (loss) from discontinued operations...................... (1.42) (.24) (.19)
----------- ---------- ----------
Total......................................................... $ (20.74) $ 2.39 $ 2.62
=========== ========== ==========
Diluted Earnings (Loss) Per Share
Income (loss) from continuing operations.......................... $ (543,931) $ 82,187 $ 87,549
Less: Income (loss) from discontinued operations.................. (39,965) (7,587) (5,889)
----------- ---------- ----------
Total......................................................... $ (583,896) $ 74,600 $ 81,660
=========== ========== ==========
Weighted average number of common and all dilutive shares:
Average common shares outstanding............................... 28,148 28,013 27,929
Add: Dilutive effect of stock options after
application of treasury stock method................... -- 596 838
Dilutive effect of preferred stock after
application of "if converted" method................... -- 3,887 3,910
----------- ---------- ----------
28,148 32,496 32,677
=========== ========== ==========
Earnings (loss) per share:
Income (loss) from continuing operations........................ $ (19.32) $ 2.53 $ 2.68
Income (loss) from discontinued operations...................... (1.42) (.23) (.18)
----------- ---------- ----------
Total......................................................... $ (20.74) $ 2.30 $ 2.50
=========== ========== ==========
The weighted average anti-dilutive shares that were excluded from the
computation of diluted earnings per share were 1,777,448, 546,275 and 69,836
for 1998, 1997 and 1996, respectively.
22
23
11. EMPLOYEE BENEFIT PLANS
11.1 Employee Stock Ownership Plan. All employees who meet minimum age and
service requirements participate in the Company's Employee Stock Ownership Plan
("ESOP").On and prior to December 31, 1998, the Company made annual tax
deductible contributions to the ESOP to be used to purchase additional shares
of the Company's common stock or to pay debt service on shares acquired with
the proceeds of loans ("leveraged shares"). The ESOP's leveraged shares are
initially pledged as collateral for the debt incurred in connection with the
acquisition of such shares. As the debt was repaid, the shares were released
from collateral and allocated to plan participants. Contributions were
allocated among participants based on years of service and compensation. Upon
retirement, death or disability, the employee or a beneficiary receives the
designated common stock.
The Company's cash contributions to the ESOP were $2.3 million, $3.1
million and $3.0 million for the years ended December 31, 1998, 1997 and 1996,
respectively. Shares held by the ESOP at December 31, 1998, 1997 and 1996 were
approximately 3.6 million, 3.7 million and 3.7 million, respectively. During
1995, the ESOP was granted a $10 million line of credit from a financial
institution, which line of credit was increased to $12 million during 1996. At
December 31, 1998 the ESOP had notes payable with a balance of $9.0 million
under this line of credit. Because the source of the loan payments is primarily
contributions received by the ESOP from the Company, such debt is included in
the Company's Notes payable with a corresponding reduction of stockholders'
equity. During 1997, the ESOP borrowed $3.4 million from the Company to
purchase shares of the Company's common stock. The Company does not report the
ESOP's notes payable or the Company's notes receivable in its balance sheet.
Accordingly, no interest cost or interest income is recognized on the Company
loans to the ESOP. At December 31, 1998, the balance of the Company's loans to
the ESOP was $2.8 million. In accordance with Statement of Position 93-6 ("SOP
93-6"), leveraged shares purchased subsequent to December 31, 1992 are, upon
release, reflected as compensation expense based on the then current market
price of the shares. Shares which have not been committed to be released are
not considered outstanding for purposes of the computation of earnings (loss)
per share. At December 31, 1998, approximately 157,000 shares of common stock
were committed to be released under the terms of the loan agreement. At
December 31, 1998, approximately 75,000 shares of common stock accounted for
under the provisions of SOP 93-6 were committed to be released resulting in
additional compensation expense of approximately $0.8 million during 1998. At
December 31, 1998, the ESOP had approximately 656,000 leveraged shares, of
which approximately 503,000 were accounted for under the provisions of SOP
93-6. The fair value of the 503,000 leveraged shares accounted for under the
provisions of SOP 93-6 was $1.7 million at December 31, 1998.
The Company is evaluating a termination of the ESOP, but no decision has
been made with respect thereto.
11.2 Stock Option Plans. At December 31, 1998, the Company had four
stock-based compensation plans for employees, which are described below. The
Company applies Accounting Principles Board Opinion 25 and related
Interpretations in accounting for its plans. Accordingly, no compensation cost
has been recognized for its fixed stock option plans as the exercise price of
all stock options granted thereunder is equal to the fair market value at the
date of grant. The compensation cost that has been charged against net income
for restricted stock issued under the 1993 Stock Incentive Plan and the 1996
Long-Term Incentive Compensation Plan was $.1 million, $2.2 million and $1.4
million for 1998, 1997 and 1996, respectively. Had compensation costs for the
Company's stock-based compensation plans been determined based on the fair
value at the grant dates for awards under those plans consistent with the
method of Financial Accounting Standards Board Statement No. 123, the Company's
net income (loss) and earnings (loss) per share would have been reduced
(increased) to the pro forma amounts indicated below:
YEAR ENDED DECEMBER 31,
-----------------------------------------------
1998 1997 1996
------------ ----------- --------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Net income(loss) As reported................. $ (583,896) $ 74,600 $ 81,660
Pro forma................... (587,534) 70,956 81,118
Basic earnings (loss) per share As reported................. (20.74) 2.39 2.62
Pro forma................... (20.87) 2.27 2.60
Diluted earnings (loss) As reported................. (20.74) 2.30 2.50
per share Pro forma................... (20.87) 2.18 2.48
23
24
Fixed Stock Options. The Company has six fixed stock option plans.
Under the 1986, 1989, 1993 and 1996 employee plans, the Company may grant
options for up to 1.1 million, .8 million, 1.3 million and 1.5 million (subject
to annual increases as described below) shares of common stock, respectively.
Under the 1993 and 1996 plans for non-employee directors (the "Director
Plans"), the Company may grant options for up to .9 million and .4 million
shares of common stock, respectively. Under the 1996 Long-Term Incentive
Compensation Plan, beginning in 1998, the number of shares of common stock
available for grant increases annually on January 1 of each year pursuant to a
formula based on the number of shares of common stock outstanding. On January
1, 1998, .4 million shares of common stock were added to the plan. The term of
the 1986 plan has expired and no new options may be awarded thereunder. At
December 31, 1998, 11,234, 209,422 and 142,483 shares of common stock were
available for award under the 1989, 1993 and 1996 employee stock plans,
respectively, and 599,200 and 307,000 shares of common stock were available for
award under the 1993 and 1996 Director Plans. Under all plans, the exercise
price of each option equals the fair market value of the Company's common stock
on the date of grant and the maximum term of an option is 10 years. Under the
1986 and 1989 employee plans, the options become exercisable two years from the
grant date, under the 1993 plan the options become exercisable three years from
the grant date. At December 31, 1997, all options granted under the 1996 plan
will become exercisable three years after the grant date. Options awarded under
the 1993 Director Plan become exercisable three years from the date of grant
and, under the 1996 Director Plan, six months from the date of grant.
The fair value of each option grant is estimated on the date of grant
using the Black Scholes option-pricing model with the following assumptions for
grants in 1998: dividend yield of 0%; expected volatility of 96%; risk-free
interest rate of 5.11%; and expected life of 4.2 years. The following
assumptions were used for options granted in 1997: dividend yield of 2.0%;
expected volatility of 452%; risk-free interest rate of 6.14%; and expected
life of 4.1 years. The following assumptions were used for options granted in
1996: dividend yield of 1.2%; expected volatility of 45%; risk-free interest
rate of 6.47%; and expected life of 5.4 years.
A summary of the status of the Company's four stock option plans
(excluding the restricted stock awards and as adjusted for stock dividends) as
of December 31, 1998, 1997 and 1996 and changes during the periods ending on
those dates is presented below:
YEAR ENDED DECEMBER 31,
------------------------------------------------------------------------------
1998 1997 1996
-------------------------- ----------------------- ------------------------
WEIGHTED- WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
FIXED OPTIONS SHARES PRICE SHARES PRICE SHARES PRICE
- --------------------------------- ---------- ----------- ----------- ---------- ---------- ----------
Outstanding at beginning of year. 2,390,023 $ 17.60 1,571,230 $ 13.27 1,831,860 $ 11.51
Granted.................... 1,184,625 6.70 892,650 25.31 58,700 33.19
Exercised.................. (17,472) 6.49 (28,294) 7.77 (279,488) 5.55
Canceled................... (336,890) 22.59 (45,563) 25.43 (39,842) 15.83
--------- --------- ---------
Outstanding at end of year...... 3,220,286 13.11 2,390,023 17.60 1,571,230 13.27
========= ========= =========
Weighted-average fair value of
options granted during
the year....................... $ 4.72 $ 23.35 $ 15.63
The following table summarizes information (as adjusted for stock
dividends) about fixed stock options outstanding at December 31, 1998:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
---------------------------------------------------------- -----------------------------
RANGE OF WEIGHTED-AVERAGE WEIGHTED- WEIGHTED-
EXERCISE NUMBER REMAINING AVERAGE NUMBER AVERAGE
PRICES OUTSTANDING CONTRACTUAL LIFE (YEARS) EXERCISE PRICE EXERCISABLE EXERCISE PRICE
- ------------------- ------------- ------------------------ ---------------- ------------ --------------
$2.00 to $4.00 1,130,378 7.69 $ 3.59 282,878 $ 3.31
$4.01 to $17.50 830,185 5.63 9.14 592,718 7.31
$18.00 to $24.00 826,448 7.30 22.25 573,098 21.61
$25.00 to $34.00 433,275 8.05 28.09 39,600 31.18
--------- ---------
Total 3,220,286 7.11 13.11 1,488,294 12.69
========= =========
24
25
Restricted Stock Awards. As part of the Company's 1993 Stock Incentive
Plan and the 1996 Long-Term Incentive Compensation Plan, the Company may award
restricted stock to selected executives and other key employees. The 1993 and
the 1996 plans require a vesting period of six months.
The following table summarizes information about restricted stock
awards during the periods indicated:
YEAR ENDED DECEMBER 31,
-------------------------------------------------------------------------
1998 1997
----------------------------------- ----------------------------------
WEIGHTED-AVERAGE WEIGHTED-AVERAGE
RESTRICTED STOCK AWARDS SHARES EXERCISE PRICE SHARES EXERCISE PRICE
- ----------------------------- ----------- ------------------- ----------- --------------------
Outstanding at beginning
of year....................... 131,400 $ -- 37,000 $ --
Granted......................... 10,000 -- 181,286 --
Lapse of restriction............ (9,000) -- (86,886) --
Cancelled....................... (34,000) --
-------- --------
Outstanding at end
of year........................ 98,400 -- 131,400 --
======== ========
Weighted-average fair
value of restricted stock
granted during the year....... $ 18.63 $ 7.89
As of December 31, 1998, the 98,400 shares of restricted stock
outstanding had a purchase price of zero and a weighted-average remaining
contractual life of one year.
11.3 Employees' Savings Plan. The United Companies Financial Corporation
Employees' Savings Plan is designed to be a qualified plan under Sections
401(a) and 401(k) of the Internal Revenue Code. Under the plan, employees are
allowed to defer income on a pre-tax basis through contributions to the plan
and the Company matches a portion of such contributions. The Company's matching
contributions totaled $3.3 million, $1.6 million and $1.5 million during 1998,
1997 and 1996, respectively. Employees have ten investment options; the one to
invest in the Company's common stock is no longer available. The plan held
1,069,244 shares and 611,678 shares of the Company's common stock at December
31, 1998 and 1997, respectively.
11.4 Deferred Compensation Plans. Postretirement benefits were provided to
eligible executive and senior officers of the Company under a non-qualified,
deferred compensation plan. The cost of this plan during 1998 and 1997 was $.3
million and $.2 million, respectively. The Company calculated its
postretirement benefit obligation as of December 31, 1998 using a weighted
average discount rate of 6.1%. A reconciliation of the funded status of the
deferred compensation plan as of December 31, 1998 and 1997 is as follows:
DECEMBER 31, NET DECEMBER 31,
1998 CHANGE 1997
------------- -------------- --------------
(IN THOUSANDS)
Accumulated postretirement benefit cost........... $ 1,849 $ (68) $ 1,917
Plan assets....................................... -- -- --
------- ------- -------
Funded status..................................... 1,849 (68) 1,917
Unrecognized transition obligation................ (653) 350 (1,003)
------- ------- -------
Accrued postretirement benefit cost............... $ 1,196 $ 282 $ 914
======= ======= =======
The Company's obligation to pay the postretirement benefits is unsecured and
subject to rejection in the Chapter 11 Cases.
12. DISCLOSURE ABOUT FINANCIAL INSTRUMENTS
25
26
Statement of Financial Accounting Standards No. 107 ("SFAS No. 107")
requires that the Company disclose the estimated fair values of its financial
instruments, both assets and liabilities recognized and not recognized in its
financial statements.
SFAS No. 107 defines financial instruments as cash and contractual rights
and obligations that require settlement in cash or by exchange of financial
instruments. Fair value is defined as the amount at which the instrument could
be exchanged in a current transaction between willing parties other than in a
forced or liquidation sale.
The carrying value and fair value of the Company's financial assets and
liabilities at December 31, 1998 and 1997 were as follows:
DECEMBER 31,
--------------------------------------------------------------
1998 1997
------------------------- -------------------------------
CARRYING FAIR CARRYING FAIR
VALUE VALUE VALUE VALUE
----------- ----------- ------------- -------------
(IN THOUSANDS) (IN THOUSANDS)
Financial assets:
Cash and cash equivalents.......................... $ 230,013 $ 230,013 $ 582 $ 582
Loans.............................................. 186,555 186,555 162,668 173,060
Interest-only and residual certificates............ 462,504 462,504 882,116 882,116
Capitalized mortgage servicing rights.............. 40,148 44,465 48,760 53,918
Financial liabilities:
Notes payable...................................... 1,219,025 -- (1) 691,826 705,425
Managed cash overdraft............................. -- -- 13,625 13,625
(1) See discussion under Notes payable below.
The above fair values do not reflect any premium or discount from offering
for sale at one time the Company's entire holdings of a particular financial
instrument. Fair value estimates are made at a specific point in time based on
relevant market information, if available. Because no market exists for certain
of the Company's financial instruments, fair value estimates for these assets
and liabilities were based on subjective estimates of market conditions and
perceived risks of the financial instruments. Fair value estimates were also
based on judgments regarding future loss and prepayment experience and were
influenced by the Company's historical information.
The following methods and assumptions were used to estimate the fair value
of the Company's financial instruments:
Cash and cash equivalents. The carrying amount of cash and cash
equivalents approximates their fair values because these assets generally
mature in 90 days or less and do not present any significant credit concerns.
Loans. The fair value of the Company's loan portfolio was determined by
segregating the portfolio by its performing and non-performing components.
Performing loans were further segregated into loans which were sold subsequent
to year end and all other remaining saleable loans at December 31, 1998.
Performing loans which were sold subsequent to year end were valued at the
actual sales price of the loans. All other remaining saleable loans were valued
either based upon competitive bids received or based upon the estimated fair
value of the loans given market conditions as of the applicable period end.
Non-performing loans were valued based upon competitive bids received. Real
estate owned property is excluded from this disclosure because it is not
considered a financial instrument.
Interest-only and residual certificates. In accordance with the
requirements of SFAS No. 125, the Interest-only and residual certificates are
carried at fair value. For a discussion of the assumptions used by the Company
in determining the fair value of this asset, see Note 3.
Capitalized mortgage servicing rights. The fair value of Capitalized
mortgage servicing rights was based on the present value of estimated future
cash flows related to servicing income. In estimating the fair value of these
rights, the Company made assumptions which included the cost of servicing per
loan, the discount rate, an inflation rate, ancillary income per loan and
prepayment rates.
26
27
Notes payable. Notes payable at December 31, 1997 consists primarily of
amounts payable for the Company's senior and subordinated unsecured debt. The
fair value of the senior and subordinated unsecured debt is based upon the
estimated rate offered to the Company for debt of the same remaining maturity
at that time. Because of the circumstances described in Note 2, a determination
of the fair value of the Company's Notes payable cannot be made as of
December 31, 1998.
The fair values presented herein are based on pertinent information
available to management as of December 31, 1998. Such amounts have not been
comprehensively revalued for events discussed in Note 2 and current estimates
of fair value may differ significantly from the amounts presented herein.
13. DISCONTINUED OPERATIONS
United Companies Funding, Inc. On October 27, 1998, the Company made a
decision to discontinue the operations of United Companies Funding, Inc.
("UCFI"), a wholly owned subsidiary of the Company. UCFI was organized in 1995
to originate manufactured housing loan products made primarily to finance the
purchase of new or used manufactured homes. In reaching the decision to
discontinue the operations of UCFI, the Company considered the less than
anticipated results of UCFI's operations and the funding required if UCFI were
to continue operating, and the impact thereof on the Company's liquidity. The
Company has estimated the loss that will occur from the discontinuance, and the
operating losses that will occur during phase out, of UCFI and, accordingly,
has accrued for such loss in its financial statements for the year ended
December 31, 1998. The results of operations of UCFI have been classified as
discontinued operations and the prior year financial statements have been
restated accordingly.
In connection with the decision to discontinue the operations of UCFI, the
Company recorded a net loss of $40.0 million, $1.6 million and $1.4 million in
its financial statements for the year ended December 31, 1998, 1997 and 1996,
respectively. Based on the sale of a large portion of the manufactured housing
loan inventory subsequent to December 31, 1998, management provided a $29
million valuation allowance against the carrying value of the manufactured
housing loan inventory at December 31, 1998. Total revenues of UCFI for 1998
and 1997 were $31.3 million and $24.7 million, respectively. Total assets of
UCFI at December 31, 1998 and 1997 were $91.1 million and $37.1 million,
respectively. The Company's assets related to manufactured housing contracts
previously sold in public asset-backed securitization transactions, consisting
primarily of Interest-only and residual certificates totaling approximately
$50.5 million, have been retained by the Company, and therefore, are excluded
from "Net assets of discontinued operations" on the Company's consolidated
balance sheet as of December 31, 1998.
United Companies Life Insurance Company. On July 24, 1996, the Company
concluded the sale of all of the outstanding capital stock of its wholly-owned
life insurance subsidiary, United Companies Life Insurance Company ("UCLIC"),
for a sales price of $167.6 million. The Company recorded, in 1996, a net loss
of $6.8 million on the transaction. As a result of the sale, the assets
(including $67 million of assets transferred to the Company by UCLIC
immediately prior to closing) and the operations of UCLIC have been classified
as discontinued operations. In the fourth quarter of 1997, the Company wrote
off an additional $2.2 million related to an intercompany receivable.
United General Title Insurance Company. On February 29, 1996, the Company
closed the sale of 100% of the outstanding capital stock of its wholly-owned
subsidiary, United General Title Insurance Company ("UGTIC"). The Company
recorded a loss from discontinued operations (net of income tax benefit) of
$1.1 million in 1996 and $1.6 million in 1997 in connection with the sale of
UGTIC.
Foster Mortgage Corporation. The remaining affairs of the Company's
subsidiary, Foster Mortgage Corporation ("FMC"), a discontinued operation,
which had been conducted under the supervision of a bankruptcy court were
concluded in 1997. The claims of the institutional lenders under FMC's primary
credit facility (the "FMC Institutional Lenders") relating to the Company's
alleged failure to remit all sums due FMC regarding federal income taxes under
a tax agreement among the Company and its subsidiaries, including FMC, was
settled. The Company recorded a $5.6 million charge in the fourth quarter of
1997 resulting from the settlement. The claims of the FMC Institutional Lenders
against the Company seeking avoidance of certain payments alleged to be
preferences or fraudulent conveyances were dismissed after a trial before the
bankruptcy court.
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14. CONTINGENCIES
The nature of the Company's business is such that it is routinely involved
in litigation and is a party to or subject to other items of pending or
threatened litigation. As a result of the Chapter 11 Cases discussed in Note 2
above, litigation pending against the Company and certain of its subsidiaries
has been stayed. Although the outcome of certain of these matters cannot be
predicted, management of the Company believes, based upon information currently
available, that the resolution of these various matters will not result in any
material adverse effect on its consolidated financial condition. Additionally,
due to the commencement of the Chapter 11 Cases, it is unclear what effect, if
any, such litigation would have on the Company's financial condition or how
such litigation will be treated pursuant to a plan or plans of reorganization.
One financial institution serves as trustee of substantially all of the
Company's home equity and manufactured housing contract securitization
transactions and two monoline insurers insure the publicly issued asset-backed
securities in substantially all of the Company's home equity loan
securitization transactions (other than the 1998 fourth quarter transaction
which was structured on a senior/subordinated basis without monoline insurance
and for which the Company did not retain the servicing). Because of the
distressed condition of the Company, the filing of the Chapter 11 Cases and the
performance of the securitized loans, one or more of these entities may seek
relief from the automatic stay in the Chapter 11 Cases in order to
involuntarily terminate the servicing of these securitized loans and contracts
by the Company's subsidiary and to transfer the servicing to another servicer.
The Company intends to oppose vigorously any such efforts. An involuntary
termination of the Company's servicing of the loans and contracts it has
securitized will have a material adverse effect on the Company and its efforts
to reorganize in the Chapter 11 Cases.
In a class action lawsuit pending in Alabama state district court
involving 910 home equity loans alleged to be subject to the Alabama Mini Code,
Autrey v. United Companies Lending Corporation, the Alabama Supreme Court,
acting on an interlocutory appeal by the Company, upheld the ruling of the
trial court on a pre-trial motion that retroactive application of the 1996
amendments to the Alabama Mini Code would be unconstitutional as applied to the
plaintiff's class. The 1996 amendments, which in general limited the remedy for
finance charges in excess of the maximum permitted by the Alabama Mini Code,
were expressly made retroactive by the Alabama legislature. The Company
strenuously disagreed with this holding and sought a rehearing by the Alabama
Supreme Court. The request for a rehearing was denied by the Alabama Supreme
Court and the matter was returned to the trial court for a trial on the merits.
The Company believes that the liability, if any, should be limited to $495,000,
the amount of the aggregated finance charges allegedly exceeding the maximum
permitted by the Alabama Mini Code, plus interest thereon. The Company intends
to continue its vigorous defense of this matter. If unsuccessful in its defense
at a trial on the merits and related appeals, the Company presently estimates
that the liability of its subsidiary could be approximately $15 million. On
June 6, 1999, counsel for the class plaintiffs filed a motion in the Bankruptcy
Court, pursuant to Section 362 of the Bankruptcy Code, for relief from the
automatic stay in order to continue with this litigation, as such litigation
had been stayed due to the commencement of the Chapter 11 Cases. The Company
has vigorously opposed such requested relief and the Court has continued the
hearing to September 15, 1999, with respect thereto.
In August of 1998, the U.S. Department of Justice ("DOJ") and the U.S.
Department of Housing and Urban Development ("HUD") issued a letter to the
Company and its subsidiary United Companies Lending Corporation indicating that
they were initiating a joint investigation of their lending and pricing
practices, initially in Philadelphia, PA-NJ PMSA. The investigation focuses on
compliance by the Company and its subsidiary with the federal Fair Housing Act
and Equal Credit Opportunity Act and the federal Real Estate Settlement
Procedures Act ("RESPA"). Specifically, DOJ seeks to determine whether the
lending and pricing practices of the Company and its subsidiary discriminate
against applicants based on race, national origin, sex, or age. The Company
believes this investigation by DOJ is part of an overall initiative by that
agency to review the practices of several large subprime lenders and does not
stem from any findings of wrongdoing by the Company. HUD will be investigating
whether relationships of the Company and its subsidiary with mortgage brokers,
home improvement dealers or other third parties may violate the anti-kickback
and anti-referral fee prohibitions of RESPA.
In October 1998, UC Lending reached a settlement in an enforcement action
commenced by the Massachusetts Attorney General on behalf of the Commonwealth
of Massachusetts in Massachusetts state court alleging violations by UC Lending
of certain regulations promulgated by the Massachusetts Attorney General
relating to, among other things, loan origination fees, also known as "points",
with respect to loans originated in Massachusetts. The settlement, involving
payments and other terms by UC Lending aggregating approximately $1.2 million,
followed a decision by a
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federal district court in Massachusetts upholding the validity of the
regulations and finding violations thereof by UC Lending. UC Lending had
maintained that the Massachusetts regulations were void because they conflicted
with the efforts of the Massachusetts legislature to supplant the strict
regulation of points with disclosure requirements, and were inconsistent with
the policies and interpretations of the Federal Trade Commission as to what
constitutes unfair and deceptive trade practices. The federal district court
found that the Attorney General's regulations did not contravene the intent of
the Massachusetts legislature and are not inconsistent with applicable federal
law.
The Company, operating through its subsidiaries (collectively, the
"Companies"), services loans in 50 states and the District of Columbia, subject
to licensing or exemption from licensing requirements granted by the states. In
some of these states, the Companies are exempt from the requirement to obtain a
state license by result of their holding licenses or approvals from federal
agencies, including the U.S. Office of Housing and Urban Development ("HUD").
The applicable licensing statutes in virtually all of these states and the
applicable HUD regulations require that an authorized mortgage loan servicer
submit annual audited financial statements to the regulatory authorities and
maintain a minimum net worth requirement. The Companies failed to timely submit
their audited financial statements for the year ending December 31, 1998 in
those jurisdictions where required and will not meet the minimum net worth
requirements as of December 31, 1998 in those jurisdictions where required. A
number of state agencies and HUD have initiated action to terminate, revoke,
suspend or deny renewal of the Companies' licenses or exemption from licensing
because of the failure to meet these requirements. It is the Companies'
position that section 525 and other sections of the Bankruptcy Code prohibit
and stay a governmental unit (state or federal) from denying, revoking,
suspending, or refusing to renew a license or other similar grant to a debtor
in bankruptcy because, among other things, such debtor is a debtor under the
Bankruptcy Code, or has been insolvent before the commencement of its
bankruptcy case or during the case. On July 23, 1999, the United States
Bankruptcy Court for the District of Delaware entered its Order granting a
preliminary injunction against the Attorney General of the State of Arkansas
and the Commissioner of the Arkansas Securities Department enjoining those
parties and others working under their supervision from taking any action
against United Companies Financial Corporation, United Companies Lending
Corporation and/or Ginger Mae, Inc. "with respect to their servicing rights in
Arkansas and their rights to do business in Arkansas as a servicer of loans,
including revoking, refusing to renew, suspending, terminating the exemption
from registration, conditioning, or otherwise interfering with or impairing
Debtors' rights to service Arkansas loans." The Companies plan to attempt to
obtain similar injunctive relief against other state or federal agencies as may
be necessary to protect their right to continue to service loans in each of the
jurisdictions where they currently service loans. However, the facts and
applicable statutory language differs from jurisdiction to jurisdiction and no
assurance can be given that the Companies will be successful in obtaining
protective injunctive or other relief against any particular governmental
agency.
For a discussion of letters of credit issued under the Company's credit
facility, see Note 7 above.
15. SEGMENTS AND RELATED INFORMATION
Prior to its decision to sell or close its loan origination divisions as
discussed in Notes 1 and 13 above, the Company had three reportable segments
that offered non-conventional home equity loans through different origination
channels: UC Lending, Unicor and Ginger Mae. UC Lending originated loans
through a network, as of December 31, 1998, of 191 retail offices in 38 states.
In addition, UC Lending had historically sold substantially all of the loans
the Company originated in securitization transactions and retained servicing on
these loans. In 1999, UC Lending began selling whole loans without retaining
the servicing. Unicor acquired loans from brokers and correspondents whereas
Ginger Mae originated loans through relationships with financial institutions.
The Other caption represents the Company's corporate and treasury functions as
well as its other business activities that fall below the quantitative
threshold tests under SFAS No. 131 for determining reportable segments. The
accounting policies of the reportable segments are the same as those described
in the summary of significant accounting policies with the exception of the
production fee allocated to the segments. UC Lending sold loans to third
parties that were originated by Unicor and Ginger Mae. UC Lending recognized
the gain on the sale of these loans and paid Unicor and Ginger Mae a production
fee based on the volume of loans transferred to UC Lending that were included
in the loan sales. The Company evaluated performance and allocated resources
based on net income from operations before income taxes. The following table
represents the Company's reportable segments as of and for the years ending
December 31, 1998, 1997 and 1996 (dollars are in thousands):
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1998
UC GINGER
LENDING UNICOR MAE OTHER TOTAL
----------- ---------- ----------- ----------- -----------
Revenue from external sources........ $ (208,851) $ (14,316) $ (3,778) $ (3,790) $ (230,735)
Intersegment production fees ......... (71,102) 36,826 18,461 15,815 --
Total revenues ....................... (279,953) 22,510 14,683 12,025 (230,735)
Interest expense ..................... 70,142 1,575 893 100 72,710
Depreciation ......................... 4,458 248 106 2,514 7,326
(Loss) income from continuing
operations before income taxes ..... (623,386) (4,200) 4,461 (5,575) (628,700)
Income tax expense (benefit) ......... (81,828) (1,347) 1,863 (3,457) (84,769)
Income (loss) from continuing
operations ........................... (541,558) (2,853) 2,598 (2,118) (543,931)
Loss on discontinued operations, net
of taxes ........................... -- -- -- (39,965) (39,965)
Net (loss) income .................... (541,558) (2,853) 2,598 (42,083) (583,896)
Segment assets ....................... $ 842,266 $ 2,804 $ 7,711 $ 388,994 $ 1,241,775
1997
UC GINGER
LENDING UNICOR MAE OTHER TOTAL
----------- ---------- ----------- ----------- -----------
Revenue from external sources ........ $ 398,371 $ 1,329 $ 483 $ 18,410 $ 418,593
Intersegment production fees ......... (37,700) 25,908 9,876 1,916 0
Total revenues ....................... 360,671 27,237 10,359 20,326 418,593
Interest expense ..................... 51,195 2,587 539 544 54,865
Depreciation ......................... 2,867 238 75 1,385 4,565
Income from continuing operations
before income taxes ................ 114,636 3,006 2,476 6,730 126,848
Income tax expense ................... 41,278 1,088 884 1,411 44,661
Income from continuing operations .... 73,358 1,918 1,592 5,319 82,187
Loss on discontinued operations, net
of taxes ........................... -- -- -- (7,587) (7,587)
Net income (loss) .................... 73,358 1,918 1,592 (2,268) 74,600
Segment assets ....................... $ 1,178,998 $ 7,278 $ 3,254 $ 149,072 $ 1,338,602
1996
UC GINGER
LENDING UNICOR MAE OTHER TOTAL
----------- ---------- ----------- ----------- -----------
Revenue from external sources........ $ 314,766 $ 1,559 $ 301 $ 12,079 $ 328,705
Intersegment production fees......... (21,565) 15,944 3,427 2,194 0
Total revenues....................... 293,201 17,503 3,728 14,273 328,705
Interest expense..................... 33,874 1,479 216 562 36,131
Depreciation ........................ 1,315 165 35 924 2,439
Income (loss) from continuing
operations before income taxes....... 128,966 (1,270) (989) 8,270 134,977
Income tax expense (benefit)......... 43,241 (316) (319) 4,822 47,428
Income (loss) from continuing
operations........................... 85,725 (954) (670) 3,448 87,549
Loss on discontinued operations, net
of taxes............................. (5,889) (5,889)
Net (loss) income.................... 85,725 (954) (670) (2,441) 81,660
Segment assets....................... $ 800,019 $ 1,859 $ 1,661 $ 121,695 $ 925,234
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